Plains All American and Magellan Midstream Partners on Wednesday said they would, in conjunction with smaller NGL Energy Partners, combine two pipeline projects to bring crude from the Rockies down to the oil hub of Cushing, Oklahoma, in response to falling production in the region brought on by low prices and ample supplies.
Plains and Magellan -- two of the largest pipeline Master Limited Partnerships -- will combine their Saddlehorn pipeline project with that of the Grand Mesa pipeline, owned by NGL Energy Partners, to build a 340,000 b/d pipeline, ensuring the viability of the smaller company's pipeline and cutting combined pipeline takeaway capacity from the 600,000 b/d originally envisioned for both lines.
"Combining projects makes strong economic sense by reducing overall construction and operating costs and better aligning pipeline capacity with current DJ Basin production, while allowing for future growth when market conditions improve," said Michael Mears, Magellan's CEO, on behalf of Saddlehorn in a statement from all parties announcing the deal.
The combination was not a surprise for analysts. Recently, NGL Energy had told equity analysts to be prepared for an announcement on the project, located near Denver-Julesburg Basin, where pipeline capacity will exceed needed takeaway capacity of the light, sweet crude.
NGL said it already has committed shippers on the pipeline, but did not give volumes.
"They're all still growing volumes in the basin or at least maintaining what they were doing before, which all fits well for us being in a good position with the producers as far as they're take-or-pays to us and the Grand Mesa pipeline," said Don Robinson, NGL Energy's head of crude oil logistics, during the company's Q2 2015 conference call on November 9. NGL's Q2 covered the three months ending September 30, 2015.
In August, Platts unit Bentek Energy noted pipeline takeaway capacity from the Rockies' PADD 4 region outstripped production, reaching 1 million b/d in October 2016 if both Saddlehorn and Grand Mesa were operational. This is above Bentek's production backdrop of just over 600,000 b/d available to move out of the region after satisfying about 600,000 b/d of regional refining capacity.
"The fact that these two projects decided to combine makes sense," said Jenna Delaney, energy analyst with Bentek.
Under the agreement, Saddlehorn will own the origin points in Platteville, Colorado, including 1 million barrels of storage, and Carr, Colorado, as well as the pipeline segment which runs southeast from Carr to the Lucerne junction. Saddlehorn is owned 40% by Magellan, 40% by Plains, and 20% by Anadarko Petroleum, one of the largest oil producers in the region.
NGL's Grand Mesa pipeline will own origin points in both Lucerne and Riverside, Colorado, as well as the pipeline segment between Lucerne and Riverside.
Pipeline installation began in early October for the Platteville-to-Cushing segment of the pipeline, which is expected to be operational during mid-2016. Right-of-way acquisition is currently in progress for the Carr-to-Platteville segment, which is expected to be operational in the fourth quarter of 2016.
HANDWRITING ON THE WALL
Crude production from the unconventional Niobrara shale oil play in the Denver-Julesburg Basin in Colorado is expected to fall by 22,000 b/d in December to 356,000 b/d, drilling information from the Energy Information Administration shows, a response to the low oil price which has forced many producers -- particularly those in places where it costs more to drill and transport oil to the market -- to cut production.
Stakeholder in Saddlehorn, Anadarko, said during its Q3 earnings call that production from all its Rockies holdings fell to 342,000 b/d of oil equivalent in the quarter, from 362,000 boe/d in Q3 2014, as it builds its inventory of uncompleted wells in the Wattenberg.
In August, the most recent government data shows 16.7 million barrels of crude moved by pipeline from PADD 4 to PADD 2, home of Cushing -- the oil storage hub and NYMEX crude futures pricing point. About 200,000 barrels moved by rail between the two PADDs during that period, EIA data shows.
Smaller MLPS like NGL Partners have felt the pinch of lower flows on their lines and the increasing cost of capital to fund projects needed to help them make their distribution to unit holders.
Nora Pickens, director of ratings in the oil and gas sector for ratings agency Standard & Poor's, said earlier she expected smaller MLPs to come back into the market in 2016 to look for capital. Both Platts and Standard & Poor's are units of McGraw Hill Financial.
She noted that equity markets are not available to provide financing for the smaller MLPs, meaning the company's ability to issue more units is not possible. Rather, they must rely on borrowing, but the rates they would pay to borrow to fund capital spending are high than larger, more diversified MLPs like Plains and Magellan would pay -- 8% to 8.5% compared with 4% to 4.5%, respectively.
S&P recently upgraded NGL's business profile and rates the company a BB minus. Rival ratings agency, Moody's, cut their outlook to negative.
NGL equity analysts were waiting for an update from the company on the pipeline, as the low priced commodity environment combined with the expensive cost of capital to force a fiscal Q2 miss, reporting EBITDA of $68 million compared with the $96 million consensus of analysts.
"While management stated no change on contract structures or timing, we believe there is downside risk to the project economics if the low commodity price environment extends into late 2016," wrote Barclay's Brian Zarahn in a research note after the earnings call.
The companies, with an eye to the future, have given Saddlehorn the option to expand the line to 450,000 b/d, if rising demand picks up and production rises.
NGL Energy CEO Mike Krimbill noted during the Q2 conference call that producers in today's high supply/low price environment don't have the incentive to produce just to see their crude priced at a $5/b discount to WTI ex-Cushing, but that he sees an upside going forward.
"It's interesting as some of these analysts will say, here is the current production and with the implications it's never going to go up," he said. "It's going to go up when the pipeline takeaway capacity is built and they get an extra $5 a barrel for their crude."
