Midstream Reeling From Prices, Still Wheeling & Dealing
There's no doubt about it, times are tough in the midstream gas
business. Depressed NGL prices and unfavorable margins have kept at
least one player from selling its assets while the same factors
caused another to seriously rethink the wisdom of a recent
purchase. Executives and analysts predict a lot more horse trading
of properties as companies look to rationalize assets and build
positions for better times (hopefully) ahead.
The most recent midstream acquisition, American Electric Power's
(AEP) purchase earlier this month of Louisiana Intrastate Gas (LIG)
from Equitable Resources, is viewed as a strategic deal, another
example of gas and power convergence (See NGI Sept. 21, 1998).
"What [AEP] bought was a platform to trade BTUs," said one analyst
focusing on the midstream who asked not to be named. He said the
LIG assets give an adept trader something to trade around.
Equitable was faced with a number of obstacles to capitalizing on
LIG, exacerbated by a defection of traders following the
announcement of LIG's sale. It remains to be seen, however, how AEP
will make out with its new midstream properties. "All of these guys
buy them with the intent of doing better than the old guy."
PG&E has decided, after much deliberation, not to sell the
assets of Valero Energy, which it bought for $722 million last
year, and Teco Pipeline Co., which it also acquired last year for
$380 million. In April, PG&E CEO Robert Glynn Jr. told NGI some
of the Texas assets were losing money (See NGI April 20, 1998).
"And we are interested in having discussions with interested buyers
on those particular pieces" that might be of more value to someone
Since then things have changed. "We, as you know, took a real
hard look in late spring and through the summer at all of our
business in Texas in particular, and we have a strong interest in
power down there, and we have a strong interest in gas down there,"
said Joe Kearney, CEO of PG&E Gas Transmission. "We still have
that interest, and we have no intention of selling any of the gas
transmission assets we have down there. The gas transmission
includes all our liquids assets."
Admitting Valero has suffered from low liquids prices, Kearney
hastened to add the liquids downturn is purely cyclical. "Our view
is that this is at or close to the bottom of the trough, and this
trough may be a little longer than others. But we look at this
business as a cyclical business that's going to turn around."
The $722 million price paid in an auction for Valero raised
industry eyebrows. "PG&E paid well into a double-digit EBITDA
multiple, and they paid for a company that has a lot of natural gas
liquids exposure, and we were close to the peak in liquids
markets," remarked the unnamed analyst. Liquids exposure, the
dissipation of the price spread between East and West Texas, and
expiration of above-market Valero citygate legacy contracts took
the luster off Valero, the analyst said. PG&E "paid a high
price, a strategic price, to enter the business, and the numbers
have been difficult. We're dealing with trough numbers."
Kearney admitted the West-East Texas basis differential likely
won't improve. "I think that the dynamics of the marketplace down
there have changed fundamentally and that we are not anticipating a
return to the large basis spreads that we saw in the 1996-97
timeframe. That's not to say that the business won't provide us
opportunities beyond that because I think there are emerging
markets down there that our gas transmission system is in an
excellent position to serve."
Looking ahead, Kearney said there are opportunities in gas-power
convergence in Texas. "We're going to be active on the power asset
side there. There's going to be an opportunity on the pipeline as
the electricity markets become more open to independent producers
and wholesale electricity becomes more active and understood."
While it considered selling assets, PG&E did not go as far as
UtiliCorp United did with Aquila Gas Pipeline - a sale attempt that
was eventually aborted. When Aquila was put up for sale in March
(see NGI March 16, 1998), Aquila CEO Joe Becraft said, "Clearly we
are in a good M&A (mergers and acquisitions) market right now if
you have assets to sell." His optimism followed the recent
purchases of USX Delhi by Koch Industries, TPC Corp. by PacifiCorp
and Valero by PG&E. Becraft touted Aquila's Oasis Pipeline and
the Southeast Texas Pipeline System in the Austin Chalk as well as
a pipeline and plant in western Oklahoma.
The thrill is gone, for the time being at least. Aquila was
taken off the market in August (See NGI Aug. 10, 1998). "It's
difficult right now, largely because of the low prices in natural
gas liquids, and we see that improving modestly but not really
significantly over the next few months. We do think it will return
to some strength over the next year," Becraft told NGI last week.
He said August probably was Aquila's second best month in terms of
volumes gathered - a little more than 500 MMcf/d - from the Austin
Chalk. "We're operating pretty much at capacity there and are
wrestling with the fun questions of how do we expand our assets."
He also pointed to "decent drilling" in southwestern Oklahoma where
Aquila's Elk City system gathers 70 to 75 MMcf/d. "That's holding
up quite nicely, growing a bit."
Still, Becraft conceded the timing of the sale attempt "wasn't
the most auspicious." Again, the story was low liquids prices and
erosion of basis differentials on the Oasis pipeline, which
"spooked a lot of folks."
Petrie Parkman principal Stu Wagner said potential Aquila buyers
likely fretted over high decline rates in Aquila's home turf, the
Austin Chalk. "The seller saw one environment. The potential buyers
were concerned about the opposite happening. In Aquila's defense,
this has always been a concern about this system. I think buyers
have a hard time stepping up when there are these kinds of
long-term concerns in a weak price environment." Becraft said he
has a bullish outlook on gas demand, and plans to sell Aquila have
been scrapped. "I won't say that subject will never pop up again."
Still in the offing is the sale of Union Pacific Resources'
midstream assets as part of the company's extensive and ongoing
de-leveraging program. "We are in discussions with prospective
buyers and we're at a very sensitive stage in all of this," said
UPR spokesman Dan Sullivan.
UPR's midstream business has attracted the interest of at least
one of the midstream's 400-pound gorillas, El Paso Field Services.
"We're still involved with UPR. They have to raise capital," said
Field Services President Bob Phillips. Besides El Paso Field
Services, the big boys of the midstream include Duke, Williams,
Shell-Tejas, Dynegy, GPM, as well as Conoco and Amoco among the
producers, Phillips said. Giving credence to the argument for
consolidation of the midstream among the largest companies, big
pipeline company El Paso enjoys synergy opportunities that smaller
midstream players typically don't have.
"We view gathering and processing both as a very solid,
long-term, non-regulated complement to our regulated transmission
business, but it also creates significant synergies with those
transmission systems because we aggregate supplies." Phillips said
about 45% of Field Services' throughput ultimately flows to El
Paso's regulated pipelines. He said the company has not been as
exposed to liquids prices as some others as about 75% of its
overall gathering and processing portfolio is fixed-fee with only
about 25% of fees fluctuating with commodity prices.
El Paso Field Services has positions in the San Juan Basin,
Permian Basin, North Louisiana, South Texas and the Gulf Coast.
Expect more asset trading as companies like Field Services seek to
build geographically diverse and balanced portfolios. Phillips
pointed to asset swaps between Duke Energy Field Services and Koch
Midstream Gathering and Processing (See NGI Aug. 3, 1998), and
Field Services' own recent sale of Anadarko Basin assets to
Midcoast Energy (See NGI Aug. 3, 1998). "We'll concentrate our
capital and resources on geographic areas where we can be very
For its part, Becraft said Aquila is "looking at a number of not
major but nonetheless acquisition opportunities. grassroots
gathering in our general area of operation [Central Texas,
southwestern Oklahoma]. We're looking elsewhere also, but we're
seeing some opportunities in those particular areas."
Predictions call for big oil companies to become more involved
in the gas midstream. Chevron is in with Dynegy; Mobil has Duke.
And Shell has built itself into a significant midstream player
along with Tejas. In the early 1990s, deregulation made the
midstream attractive to Shell. Through a series of steps, the
company created its midstream business unit in 1996. "In 1998, we
looked around and said that our philosophy was that we had to bring
our trading activity and the marketplace and the intelligence that
came with that data. we had to bring those much closer together,
both with the Shell midstream assets and the Tejas assets," said
Curtis R. Frasier, Tejas Energy executive vice president. That led
to the Shell-Tejas combination.
As trading of midstream assets continues on the road to
consolidation and the convergence of gas and power, Phillips
wonders what view Wall Street will take of the midstream. If the
Street looks past the short-term decline in earnings from depressed
liquids prices and focuses on the quality of companies' midstream
assets it will "see this segment as a segment that has significant
earnings power, and they'll see a segment that has significant
growth capability. And that's really what all these companies want.
They want a business that has reasonably stable earnings power, and
they want a business that has significant investment opportunity."
Joe Fisher, Houston