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Plentiful North American Midstream Opportunities Forecast

December 17, 2012
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The North American "shale revolution" is providing infrastructure companies and U.S. master limited partnerships with solid growth opportunities over the next two decades, according to an analysis by Credit Suisse.

On Thursday the securities research and analytics team issued an indepth review about how the United States is leading the unconventional innovations that have begun to spread across the globe. Analysts considered the global implications of the unconventional boom. In addition, they reviewed the "considerable reverberations" that exist throughout the supply chain, from the infrastructure build needed to foster the movement to chemical companies for which natural gas is a key input.

"There are fundamental messages for relative price shifts in commodities, relative competitiveness regionally, relative industry cost curves and potential technological innovation," said co-heads of research Stefano Natella and Eric Miller. "We also consider the impact of the required capital spending on infrastructure."

According to some of the key findings in the 167-page report, unconventional discoveries today "are advancing at a faster rate than production, suggesting that production has a long way to go before it peaks. The share of U.S. gas production from shale increased from 5% in 2000 to 23% in 2010; after incorporating tight gas and coalbed methane, unconventional production accounted for nearly 60% of all production in 2010."

Capital spending to support the "structural story" has the potential to extend across the U.S. energy complex, said the analysts.

"Investment in the U.S. oil and gas sector has grown steadily to reach around $140 billion per year over the past couple of years. While accounting for only 1% of GDP [gross domestic product], the sector has accounted for an outsized 10% of total business-fixed asset investment and nearly one-fifth of growth in U.S. investment over that period."

Oil and gas also has been "punching well above its historical weight in industrial production, accounting for 9% of the total in the past year and for nearly 30% of total initial production growth over the past couple of years. We expect this high level of investment to continue for some time, as the industry continues to exploit the potential of the new technology."

In light of the growth in production, "a structural competitive advantage exists," said analysts. "We expect the downward price pressure on natural gas prices (underpinned by the higher than previously expected domestic reserves and surge in U.S. production) to be sustained for many years."

Henry Hub prices "are likely to rise modestly from the historically low $3.00/MMBtu seen on average this year," but Credit Suisse doesn't expect prices to move above $5.00 by 2020, even if there is "strong demand and the possibility of exports."

Analysts also expect domestic gas prices to remain "depressed relative to international (oil-linked) gas prices for years to come with U.S. shale gas exports likely capped for now." The high capital costs associated with developing liquefied natural gas export projects "limit their development to major players, and this factor too is likely to play a role in preserving industry and marketing structures for longer."

With gas prices remaining low and production sustained at a relatively high level, "this underlines an ongoing competitive advantage for the U.S. in those industries where natural gas is a key feedstock and a potential driver of and incentive for related capital spending," according to Credit Suisse.

Many of the shale plays, said the analysts, still require "significant" infrastructure development. They pointed to a 2011 study by the Interstate Natural Gas Association of America (INGAA) Foundation, which found that North America would require an annual average gas midstream investment of $8.2 billion from 2011 to 2034 (see NGI, July 4, 2011). INGAA's breakdown, said Credit Suisse, concluded that overall $132 billion would be needed for large-diameter mainline gas pipelines; $59 billion for small-diameter gas gathering pipe; $41 billion for small-diameter gas lateral pipe; $29 billion for gas processing plants; $60 billion for natural gas liquids and oil pipes and the rest for compression and storage facilities.

The largest increase in mainline pipe is expected for the southeastern United States, where Credit Suisse expects "a significant amount of new generation and/or coal to gas switching to take place based on economics as well as population growth." Other areas with a lot of growth expected include the central and southwestern United States, which have a lot of gas associated with crude and liquids output.

"The Northeast is also strong not just from shale production but also in replacing aging infrastructure. One gas utility in the Northeast has indicated a $30 billion program over the next 10-15 years for refurbishing aging gas transmission, gathering and distribution infrastructure. Taking the nominal dollar figures translates to roughly $275 billion over the period including laterals, gas processing plants and gas storage."

In addition, the Credit Suisse team believes the INGAA study "likely underestimates the infrastructure opportunity. Given the 110,000 inch-miles added each year and approximately $100,000 per inch mile estimated for 2013 would translate to approximately $275 billion in total just from pipe -- setting aside storage and gas processing."

The changing "sources" of natural gas supply from relatively new plays have altered transportation patterns as well, according to Credit Suisse.

"Those changes provide investment opportunities, but can also significantly alter natural gas basis differentials at various geographic locations. Wide basis differentials provide a signal for incremental infrastructure investment; whereas, relatively flat basis differentials signal that pipeline capacity is adequately supplied and can raise questions regarding the underlying value of existing assets owing to renewal risks on existing gas transportation contracts."

However, analysts said, the existing pipelines mostly are needed to connect basins "as shale natural gas produced close to consuming regions is not necessarily sufficient to satisfy demand in many cases. Over a longer period, basis differentials should allow a reasonable return on capital for the infrastructure assets and for the producers. Clearly, the changes to natural gas flows provide considerable opportunities for greater infrastructure build."

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