If this year is anything like last year, the M&A sector of midstream business promises to be action-packed. In 2010, midstream deals were up 71% (the number of transactions rose to 57, up 4% from 2009) and reached a total transaction value of $25 billion, according to Jon McCarter, transactions lead for consulting firm Ernst & Young. Increases were driven by the availability of capital, strong oil prices and an emphasis on portfolio rationalization to position companies for the next market cycle, he says.
“For 2011, with gas prices depressed, investors will be looking for gas plays with strong liquids content, while ongoing regulatory and legislative uncertainty will slow the pace of negotiations,” he says, but adds, “Master limited partnerships (MLPs) will continue to provide solid returns to investors and I don’t see that changing this year.”
The shale-gas revolution will fundamentally change the long-term outlook for gas, and companies with intellectual property or developing technologies will be in high demand. McCarter expects to see continuing or increasing interest in U.S. onshore shale plays and Canadian oil sands from global players such as Korea, China, Japan and India as new regulations drive large-scale production. Strategic partnerships and joint ventures will continue to be formed as companies seek to share cost and risk. Meanwhile, private equity is under pressure to deploy or repatriate capital, spurring additional M&A activity, he says.
Jonathan Lefebvre, senior analyst for Wells Fargo Securities, sees opportunity in the sector. “We believe it’s time for investors to start playing more offense, and would suggest moving out of cash and into riskier names in this sector, as we believe that the Street has largely discounted the downside risks in estimates, leaving many names inefficiently priced,” he says. Some of Lefebvre’s favorite picks include El Paso Corp., National Fuel Gas, Energen, Spectra Energy, Southern Union and Williams Cos.
Investing Daily’s Roger Conrad says projections for the midstream energy business are “hopeful” for the new year. “Midstream companies are headed for another year of prosperity, thanks to still historically low costs of capital and acute demand for infrastructure to serve shale-rich regions,” he says. “We’ll know the game is up for the energy pipeline and infrastructure business when companies start building to meet future need, rather than existing need.”
He notes that even if natural gas prices remain weak, the midstream will continue to prosper, because oil prices are strong and getting stronger on the back of surging Asian demand and growing global reliance on higher-cost supplies such as deepwater reservoirs and oil sands. Rich-gas players can cash in as ethane becomes a lower-cost substitute for oil-based naphtha.
Meanwhile, the final quarter of 2010 saw the midstream sector scramble to fine tune asset portfolios. “I think we’ll continue to see acquisitions and selective drop-downs of assets into the MLP structure as well as new MLP IPOs,” says McCarter. “I expect growth, but I don’t expect consolidation. I think we’ll see more E&Ps and integrated companies shedding midstream assets to focus on their core businesses. I don’t know that we’re at the point of significant consolidation.
“That said, public companies are always under pressure to grow. When easy growth isn’t out there, that’s when we’ll see more consolidation of the midstream MLPs.”
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