After a very quiet Q1 and Q2, there's been a string of energy merger and acquisition deals. Our team of experts analyzes the most recent gas deals and discusses emerging energy investment trends. Listen to the podcast featuring Michael Stoppard and Ed Kelly.

Hill Vaden:

So, these big investments certainly caught me off guard. And obviously anything from Warren Buffet, which is I suppose, all of our attention and his track was his track record as a valued investor, often leaves many thinking, "What did I miss?" When they look at these type of deals in hindsight. And, "Why didn't I think of that?" So, as a place to start, and if we look at Buffet's, Berkshire Hathaway, that they're already, very well exposed to energy. So, this is not a new space for Buffet or Berkshire. What would you say in today's environment, whether that be fossil fuels, politics, whatever, what is so attractive about pipelines and storage to lead, for him to come and come out of the gate with this. This is really his first big deal in quite some time kind of putting the OXY financing to the side.

Ed Kelly:

A couple of layers to that. Hill, thank you. One is that they are exposed specifically to gas transmission and storage in a material way as Berkshire Hathaway through the ownership of assets and operation of assets, especially in the Western US. This is a familiar space they've earned solid returns off of this familiar space over time because the regulatory circumstance in the US is fairly favorable. You don't have to go in for sequential rate cases the way you used to. The scrutiny on rates is a bit less, the ability to hide returns, therefore, a bit more. The ability to earn those returns on a steady basis, a bit more.

Secondly, I think he sees legitimately a valued migration to existing storage and transmission assets across state lines. You know, given the shot across the bow that the Atlantic Coast Pipeline cancellation was, and for Dominion to do that at the same time that it's disposing of its gas transmission and storage assets, I think speaks to the growing difficulty of building something new in this space. I think there's a generation left, even in our global energy scenarios, gas still has a role to play in our most environmentally sensitive scenarios. It does not go completely away, existing assets under a favorable regulatory regime in difficult environments to build new assets, have the possibility of throwing off favorable returns for many years to come.

Hill Vaden:

So, do you think the focus, kind of as a follow up to that, that these have been existing pipelines, is that going to be the focus of deals or is there opportunity for investors on Greenfield projects?

Ed Kelly:

I think Greenfield projects that cross state boundaries under subject to federal regulation on the environmental front have to be considered increasingly vulnerable. Now as an investor in such a thing, I think you have prepare yourself for increasingly intense intervention in your permitting process, and just understand that the timing is uncertain. The route, the establishment of a route may be uncertain. So once you cross that state boundary and you're subject to federal regulatory processes, I think there is greater uncertainty. I don't see that going away necessarily anytime soon. Now, within States and in certain circumstances, there are Greenfield opportunities.

There were probably 15 billion plus or minus investments going on right now within the state of Texas across the state of Louisiana, from Oklahoma, South getting the gas to the shore, and are getting the plentiful gas inland to the shore. A little bit down to Mexico still, obviously supplying LNG facility. So there exists pockets of opportunity or build still across those state boundaries. And you've got significantly more uncertainty. This isn't a new thing. It's been a number of years developing, but the ACP cancellation really woke everyone up to it. I think the degree of uncertainty that does really exist.

Breanne Dougherty:

What about the storage component to this? So, I mean, it's been a long time where storage is, let's be honest, fallen out of favor because since Shale gas and the Shale gas revolution, we just really haven't had the spreads to support storage. And so nobody's really been building new storage, but this also had a storage component. Was that just a bolt-on because in order to get the deal done, it was just kind of thrown in with the rest of the assets, or do we think that there's actually going to be a resurgence in some interest in storage given how given the conditions the markets in or where we see the conditions moving?

Ed Kelly:

I've been looking for that resurgence of interest in storage for close to 20 years I think.

Breanne Dougherty:

I feel like we we've been talking about it for 15 years.

Ed Kelly:

I think so. That said it depends on the price.

And, Buffet is as good as anyone in the world at discovering that value. These are existing assets some of them they're older assets. These are some of the original gas storage assets in the North American grid. So there is an older operational component to some of these assets, but nevertheless, it is value over time in what may become a constrained area. And our own outlook is that new pipe out of Appalachia is going to be very difficult to get built. So, you've got what may become a constrained producing basin, which probably is subject to greater seasonal variance, therefore, as off peak, there's a surplus, wide differentials to Henry Hub.

On peak, less of a surplus or no surplus, narrow differentials to the Henry Hub, so seasonal spreads could be increasing very significantly. We also think there's going to be some catch up in the overall Henry Hub market over the next couple of years as production declines while demand continues to grow over the next couple of years. So we're going to have to see some increase in the Henry Hub price itself, I think over time value migrates toward that storage as well. So this is a long-term value play and potentially a shrewd one.

Breanne Dougherty:

So, it really sounds, I mean, let's be honest. It sounds like from a pipe situation, it's high utilization is a big part of the support to this type of investment theme. And then the potential for a rise in volatility kind of supports the storage narrative that is also added into this deal. When I think about those two reasonings, I have to assume that it's sort of the same reasoning that was behind the consortium, getting involved with the 49% stake in the ADNOC gas pipeline assets. Do you think that's fair, Michael? Or, do you think that there's other motivations driving that particular deal in the Middle East?

Michael Stoppard:

Well, it really is striking isn't it to be able to raise $10 billion in this difficult environment outside the OECD. I mean, that's the importance of the significance and then to value those assets at $20 billion for the entire thing, because it was $10 billion for the 49% share. And it shows, first of all, the attraction or the strength of those secure cash flows, or what perceived to be, what appears to be a very secure long-term cashflow and that's attractive. So you've got to congratulate the authorities and their advisors on structuring the deal in such a way that it made sense. Made sense both for the financial investors or financial assets, but also interesting to see one industry player also in the consortium. So making sense both for those with an industrial mindset and with a more pure financial mindset. That was one of the things that interested me on the deal.

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Posted 7 August 2020

This article includes information from an audio conversation and has been professionally transcribed as accurately as possible. Some words or phrases may have been unintentionally excluded.

This article was published by S&P Global Commodity Insights and not by S&P Global Ratings, which is a separately managed division of S&P Global.