There were multiple lights, shining long into dark, holiday-season nights, at midstream firms’ headquarters as 2016 ended. Seasonal cheer was not the point. Rather, those lights lit planning and budgeting departments as tired staffers sat at their computers, trying to fi gure out how to plan relevant capex budgets for 2017.

Crystal balls might have been more help than advanced budgeting software. Differing trends pull the energy business in opposing directions as a new year begins. This could be the year commodity prices rise—or they could remain depressed. The regulatory burden may lift—or be replaced by environmental activism. Traditional capital sources may open—or remain tight.

What to do? Where to put the capex—and how much?

Overall, announced midstream capex budgets appear to be fl at to slightly above 2016 programs as operators appear modestly hopeful for a better year. A lot depends on what either end of the energy value chain does. Upstream, drilling was picking up as 2017 began. Downstream, export demand continues to rise, particularly for NGL and petroleum products.

There’s some catching up to do in some plays, according to an RBN Energy report issued in early January. “We are predicting a market where producers can make money at market prices, production volumes increase, and midstream assets start to see some of those volumes they were built to handle” during the boom, it said.

“There’s optimism but there is so much uncertainty everywhere I go,” Regina Mayor, global sector head and U.S. national sector leader of energy and natural resources at KPMG, told Midstream Business. “There is all kinds of conjecture about what the new administration might do,” as well as what impact OPEC’s production curtailment deal, signed in December, will have on commodity prices.

“The operating environment in general as domestic production stabilizes with a healthier E&P customer appears to be the most noteworthy and positive trend for energy infrastructure,” Stifel said in its 2017 midstream outlook. How to finance growth projects, as always, will be a concern, it added. “The specter of rising interests may challenge performance, although our analysis minimizes our concerns. Cost of capital will continue to be a focal point given the industry’s dependence on external funding and perpetual equity issuance.”

Happy talk

The multiple positive trends lead many to cheery viewpoints about 2017. Ethan Bellamy, managing director and senior researcher with Robert W. Baird & Co., is among those with a positive outlook. Higher commodity prices are a plus with West Texas Intermediate (WTI) “pushing toward a defi nitive breakout attempt” above a $52 per barrel (bbl) ceiling as 2016 ended, its high point during the second half of last year. Natural gas prices at the Henry Hub were in the $3.70 per million British thermal unit range as 2017 began, a level last seen two years ago.

Simmons & Co., in a research report, titled “2017 Contests and Collisions,” took an upbeat view of what lies in store for the energy industry. “U.S. producers would benefi t from a WTI premium to Brent, contributing to global market share gains. Higher domestic oil prices will stimulate more rapid production growth and the need for incremental midstream infrastructure.

“Post-Trump” and post-OPEC, it’s almost a reversal of the fourth quarter of 2014,” Bellamy told Midstream Business. “We have regulatory tailwinds, we have political tailwinds, which lead to better pricing. And, we just had a big step-up in the rig count.” Indeed, the bellwether Baker Hughes rig count continued to rise, hitting 659 active rigs as the year began—up by more than 100 rigs in a single quarter.

Such broad trends are positives for the midstream, according to a 2017 forecast published at year-end by John England, vice chairman, U.S. energy and resources leader for Deloitte LLP. “The midstream segment largely stayed in a holding pattern in 2016 as upstream retrenchment reduced the need for new pipeline investment,” England said. “This created an environment in which consolidation was a logical response from some of the major players in this space. Equity values for midstream players suffered with the rest of the industry, especially after a bankruptcy court terminated a longhaul pipeline contract [the Sabine Oil & Gas case], thus setting off concerns about more widespread contract abrogation or renegotiation.”

The negatives

You would think all of this would leave midstream executives chirping like Joy, the perpetually sunny character in Disney’s “Inside Out.” But negatives linger.

“The new administration may not be quite as, quote, ‘friendly to business’ as some think,” Mayor said, although she noted it “should be easier to work with” than the Obama White House. A particular concern for her are Trump-initiated tax reform plans. “With tax reform, there will be winners and losers,” and it’s too early to predict where asset-heavy midstream fi rms will fall, she noted. Changes to the Dodd-Frank Act could loosen capital from Wall Street and banks, but it’s too soon to tell.

Mayor also pointed to lingering environmental and political opposition to midstream projects, a major concern for Bellamy.

“Protests are going to accelerate, if anything, following the reversal of what there was under the Obama administration,” he said. “The biggest victory for the greens was killing off Keystone XL.” Now, there are the ongoing, violent protests to Energy Transfer Partner’s Dakota Access Pipeline. Bellamy predicted Dakota Access “will ultimately be a defeat” for environmental groups but it will hardly be the last word from climate-change activists, he cautioned. Combine a likely Dakota Access defeat “and then add on the Trump victory, which is already massively increasing donations to environmental organizations like the Sierra Club. Expect them to be more vocal because their impact will have been marginalized in D.C., going forward.”

Such opposition may further complicate permitting efforts at the local and state levels, where environmentalists’ efforts may continue to be a major force.

“I think Trump will be benefi cial at the margin for getting some of these new pipes in at the federal level, but there are still enough state level and local level hurdles too and that’s unlikely to expedite gas pipes in the Northeast,” Bellamy said. “They are not going to have a sympathetic ear in the regulatory agencies or the White House. Basically, the executive branch has fl ipped from being a friend to an enemy. I believe they are going to counter with more histrionics, increasingly bold, nonviolent protest tactics. If they can’t get anywhere with the executive branch and the courts, then that will force them into increasingly radical maneuvers.”

That will tend to drag out already lengthy permitting efforts. Energy Transfer fi rst proposed Dakota Access nearly three years ago. TransCanada Corp. waited six years from the fi rst announcement of Keystone XL until President Obama’s veto in November 2015.

So what about the oil price jumps following the OPEC announcement?

Surely that’s a positive. Scott Sheffield, chairman and CEO of producer Pioneer Natural Resources Co., said he is not optimistic, given OPEC’s history. Even with the agreement, “everyone will cheat. I’ve seen this over my 42-year career. The market will not balance until 2018.”

Five themes

After reviewing those contradictions, research and intelligence firm Wood Mackenzie published a global oil and gas outlook for 2017 that projected the international oil and gas industry will turn cash flow-positive this year for the first time since the 2014 downturn—if OPEC production cuts drive oil prices above $55/bbl.

Wood Mackenzie said to monitor five themes this year:

Strengthening finances will be a top priority;

• U.S. independent producers will lead the sector into a new investment cycle;

• Investment portfolios will adapt, down the cost curve and go into new energy;There will be modest growth in production; and

• Improved value propositions for exploration and M&A.

It’s all very confusing but it may be nothing more than “the midstream sector’s next phase of evolution,” according to a new KPMG report, “Building the Resilient Midstream Company.” KPMG added, “Significant economic opportunities still exist, but they will be captured by those select participants that can establish a resilient growth company.”

RBC Capital Markets picked up on the mixed-messages in its 2017 energy outlook. For the midstream, “Commodity prices and increasing producer activity should provide tailwinds, but interest rates and tax uncertainty will be headwinds,” the analysis said. “We have a fundamental positive bias on the MLP sector in 2017. With commodity prices acting better and producer activity accelerating, we think midstream companies will benefit from better volume and project outlooks. In addition, key NGL demand markets are poised to ramp, which should benefit midstreamers with exposure to ethane- led price upside. We think M&A will remain active in the MLP space, with larger entities acting as consolidators, particularly in areas such as the Scoop/Stack and Permian.

“We think growth capex declines year-over-year in 2017, which should allow MLPs to further improve balance sheets; we think most all MLPs that have needed to cut distributions have already done so,” the report continued. “Key risks affecting the industry include lower commodity prices leading to lower capex cycles and reduced volumes, geopolitical risks and rising interest rates with a potential impact on yields and costs of capital.”

“I think across the board we’re going to see an increase in wellconnect capital, a ramp in intrabasin infrastructure and gathering and processing laterals into existing transmission lines, both oil and gas,” Bellamy predicted. “There’s a deficit of announced projects but I think there’s a big shadow backlog of projects when and if customers show up with needs.” That should provide at least modest growth, even if 2017 turns into another melancholy year.

Neil Churman is an engineerturned- investment banker and director with 7 Mile Advisors, an investment banking and M&A advisory firm. He explained his clients come from professional services to the midstream— engineers, surveyors, environmental consultants, construction management and inspection services, “all the things that help get a pipeline laid out.” Things are picking up for them, he said.

“By and large, things are looking positive,” Churman told Midstream Business. “It’s not a question of will there be capex spending, it’s a question of how much, to what degree? It’s a function of risk management: How much are we willing to bite off in 2017 vs. wait and see?”

Where the action is

Industry observers seem to agree that the greatest growth potential for 2017 will remain in that West Texas/New Mexico powerhouse: the Permian Basin.

Bellamy called the Permian “the ground zero for spending.” He added that overall capital investment “will be a broad trend, but it will happen in the basins with the most compelling economics. Follow the money and that will take you primarily to the Permian, specifically the Delaware Basin, which is quite a bit behind the Midland Basin in terms of infrastructure.”

RBC agreed in its report, then added the Midcontinent unconventional plays will be toward the top of many capex budgets. “We think the Permian and Scoop/Stack will continue to be preferred areas for MLPs; however, we think in 2017, we may start to hear more about growth in basins such as the DJ [Denver-Julesburg Basin], Haynesville and Eagle Ford (particularly given proximity to demand markets).” “The Permian continues to be a hot spot,” Churman said. “Exploration and production also will pick up in the Marcellus and Utica. The Bakken will be changing by the moment if [commodity] prices come back to stay.

“The Permian for sure will see a lot of investment, and the Gulf Coast will be another area of investment,” as well as a continuing expansion in pipelines to Mexico, Mayor said.

“I’m optimistic about the Marcellus and the movement of production to Philadelphia. And if crude prices stabilize, the Bakken, for sure, will see some investment.”

Export buildout

Churman described what he saw during a recent trip east from his Houston office through Port Arthur, Texas, into Cameron Parish, La., site of the sprawling Cheniere LNG plant. The midstream investment in new pipeline and terminal capacity to move natural gas, petroleum products and crude oil to the Gulf Coast was impressive, he said.

“The trend from gas importer to gas exporter—that will continue, it’s remarkable,” he added. “It was interesting to put an eye on the size and scale of what’s happening, it’s unbelievable.”

Cheniere’s LNG exports, coupled with gas pipeline sales to Mexico and a decline in Canadian imports in the final months of 2016, made the U.S. a net gas exporter for the first time ever, according to U.S. Energy Information Administration figures.

That trend will continue and it will require significant midstream growth capital to sustain, Churman emphasized.

Meanwhile, NGL, petroleum product and crude exports might increase.

Farther down the Gulf Coast from Churman’s tour, Phillips 66 Co. placed its sprawling Freeport LPG Export Terminal in Freeport, Texas, in full operation as 2016 ended.

“The startup … is the culmination of a four-year effort to develop a new U.S. Gulf Coast NGL market hub that also includes Phillips 66 Partners’ 100,000 barrel-per-day [bbl/d] Sweeny fractionator and 7.5 millionbarrel Clemens storage facility,” said Greg Garland, chairman and CEO of Phillips 66, in announcing the terminal’s opening.

Garland added the export facility was developed to satisfy a growing international demand for U.S.-produced gas liquids. Expecting U.S. production to continue to grow further, Phillips 66 is actively evaluating additional NGL fractionation and infrastructure alternatives along the U.S. Gulf Coast, he added.

The firm’s MLP, Phillips 66 Partners, ranked No. 29 on the Midstream Business Midstream 50 list published in 2016. The Freeport terminal sets the stage for a cautious, $2.7-billion capex budget announced by Phillips 66. Nearly half of the amount, $1.3 billion, will go to midstream projects.

“The 2017 capital program is consistent with our disciplined approach to capital allocation,” said Garland. “Returns on our investments are important, and the reduction in capital spending from prior years reflects that fewer projects meet our return thresholds in the current business environment.”

In its midstream sector, Phillips 66 plans to invest in its NGL and transportation businesses, with the largest share targeting growth projects. The company said it is focused on development around its existing infrastructure footprint, including continued expansion of its Beaumont, Texas, terminal and investment in pipelines and other terminals.

Appalachian dollars

Capex investment in the Marcellus and Utica will depend on improved commodity pricing, Bellamy said. “Unless and until we see a significant compression in Northeast differentials, I would expect the spending to lag there,” he added.

But there will be midstream capital applied, thanks to projects such as the big ethane cracker Shell confirmed last year that it will build north of Pittsburgh. MPLX LP, one of the biggest midstream players in the Midwest and Appalachia, has announced an organic growth capital budget of $1.2 billion to $1.6 billion, up a notch from $1.1 billion for 2016.

The largest share of that budget will go to the buildout of its extensive Utica gathering and processing network with a significant investment going projects elsewhere, including its export-focused Texas City, Texas, tank farm. Pittsburgh-based EQT Midstream Partners LP announced a 2017 capex range of $500 million to $850 million. Its Mountain Val

ley Pipeline will get the biggest slice of the growth-budget pie, between $200 million and $500 million. EQT said it expects publication of the 2 billion-cubic-feet-per-day (Bcf/d) project’s environmental impact study in March, which has a 2018 in-service target date. The budget also sets aside money for 30 miles of new gathering lines and 10,000 horsepower of new compression on its gathering systems across northern West Virginia and southwestern Pennsylvania this year.

“The gathering investments are supported by EQT Production development on its core Marcellus acreage position,” EQT Midstream said in an announcement, referring to its sister exploration and production unit. Investments will include the 600,000 dekatherms-per-day Equitrans pipeline project and modernization of EQT Midstream’s Allegheny Valley Connector.

The Equitrans projects are designed to increase deliverable capacity to the Mobley gas hub in Wetzel County, W.Va. The projects include additional compression, pipeline looping and new header pipelines. In total, the projects will add up to 1.5 Bcf/d of capacity by the end of 2018. In the fourth quarter, EQT placed the first phase of a gas header in service for Range Resources Corp, providing 75 million cubic feet per day (MMcf/d) of firm capacity. It expects to complete construction of the project’s second phase in the second quarter, which includes installation of approximately 25 miles of pipeline and 32,000 horsepower compression.

Upon completion, the header will provide total firm capacity of 600 MMcf/d, fully reserved under a 10-year contract.

Kinder’s capex

Kinder Morgan Inc., the top-ranked firm in the Midstream Business Midstream 50 index, announced a $3.2-billion growth capex budget for this year, to be funded from internal cash flow. Its Trans Mountain Pipeline expansion is scheduled to start construction in September, pending final reviews by Canada’s federal government and British Columbia. Service would begin in 2019. The $5.06-billion project will nearly triple Trans Mountain’s capacity to 890,000 bbl/d.

Trans Mountain’s looping will be the largest of some $13 billion in growth projects the company has identified, according to an investor presentation Kinder Morgan presented. It has identified $4 billion in new gas pipelines, $300 million in product pipelines, $1.6 billion in terminal expansions and $1.7 billion to potentially enlarge its CO2 pipeline system, which serves Permian Basin EOR projects.

The Permian will see continuing Kinder Morgan growth capital this year and beyond. The firm referred to the region as one of its “long-term growth drivers” in the investor presentation. It outlined a number of Permian projects worth $1.2 billion to enhance gathering, transportation and EOR support.

ONEOK Inc., ranked ninth on the Midstream 50, likewise has made the Permian a growth target. It completed the first two phases of its Roadrunner project in 2016, providing 570 MMcf/d of capacity south to Mexico. For 2017, ONEOK expects to add several new gas processing plant connections to its extensive Permian system.

Capex projects for Kinder Morgan, ONEOK and other Permian-based midstream operators focus on serving the region’s already substantial production. But a major impact on 2017 midstream capex in the region could come from Apache Corp.’s big Alpine High discovery last year on the southern edge of the Permian’s Delaware Basin. The region has little existing infrastructure but appears to have substantial new reserves. Apache told investors it will allocate more than one-fourth of its $2-billion 2017 capex budget to delineate its Alpine High acreage and organize a new Alpine High midstream subsidiary.

Water worries

Water will get a big slice of the midstream’s overall capex pie. “Water management will likely become a more significant aspect of oil and gas production in the near future,” Churman said, agreeing with many industry observers.

He added producers—and the midstream operators that serve them—“will likely need to factor in some capex around water management, whether those costs are fixed in storage and treatment, or variable in looking to outsourced water-management solutions. I would anticipate that additional infrastructure is going to be needed to be built out to support water management alongside anticipated increased production.”

“Water will be important” in future years, Mayor added in agreement.

Cushing connections

Magellan Midstream, No. 11 on the Midstream 50, told investors in a December presentation that it projects $1.6 billion in organic growth projects through 2018. It will wrap up work early this year on the 600-mile Saddlehorn Pipeline that will move 190,000 bbl/d— expandable to 300,000 bbl/d—of oil from the Denver-Julesburg Basin in Colorado and Wyoming to the Cushing, Okla., crude storage and trading hub. The system also will link existing lines from the Bakken play to Cushing. Saddlehorn’s first phase entered service in third-quarter 2016.

Magellan also has extensive growth projects underway along the Gulf Coast, including a $335-million marine terminal at Pasadena, Texas, that will complement its existing Galena Park terminal, across the Houston Ship Channel from the Pasadena site. It also is working on a new 50,000-bbl/d condensate splitter at its Corpus Christi, Texas, terminal to feed exports.

Plains All American Pipeline LP and Phillips 66 Partners recently formed STACK Pipeline LLC, a 50:50 joint venture (JV) that will build and operate a common-carrier pipeline to transport oil from northwestern Oklahoma’s Stack play to Cushing. Plains contributed an existing terminal located at Cashion, Okla., with approximately 200,000 bbl of storage and a 55-mile pipeline with a capacity of approximately 100,000 bbl/d, while Phillips 66 Partners contributed $50 million in cash. The partners are adding a lateral to connect the line to the Highway 33 terminal, northwest of Cashion, and 100,000 bbl of storage.

“Additional expansion opportunities, including expanding the capacity of the STACK Pipeline through looping the pipeline from the Cashion Terminal to Cushing, as well as other gathering opportunities, are also being pursued,” the partners announced.

Also in the Stack, Glass Mountain Pipeline LLC, a JV between SemGroup Corp. and NGL Energy Partners LP, announced plans for a 44-mile pipeline extension of the existing Glass Mountain system. The current pipeline is 215 miles long and delivers crude from the Mississippi Lime and Granite Wash plays to Cushing. Route selection is complete and right-of-way acquisition is under way. The extension is expected to be in service in the fourth quarter, pending acquisition of right-of-way and regulatory requirements, the partners said.

Keep it simple

One of the biggest midstream M&A deals for 2016 was Sunoco Logistics Partners’ acquisition of Energy Transfer Partners LP (ETP). A major “why?” of the combination will be a simplified organization. Similar moves are likely— and they could impact capex spending.

RBC noted Sunoco will gain an improved cost of capital, which should allow the combination to complete various projects due to improved economics. RBC estimated the two firms have spent about $15 billion in organic growth capital over the past several years. The deal is expected to close in the first quarter, pending approval by Energy Transfer unitholders.

Much of the sector’s 2017 capex will go to expanding or replacing current infrastructure—brownfield projects— as well as newbuild, or greenfield, investments.

'“The Beaver County, Pa., cracker facility Shell is constructing is a great example of a brownfield project where one former industrial use, a former smelter facility, is being given new life,” Churman explained. “I would anticipate we’ll see more of these conversions of former industrial sites throughout the industrial Midwest and Northeast converted to support the energy and petrochem industry.”

Changing perspectives

“The survival mentality … seems to have also resulted in a mindset shift toward shorter-cycle projects,” Deloitte’s England said in his study. He estimated that, for the energy industry as a whole, “$620 billion of projects through 2020 are estimated to have been deferred or canceled as a result of the downturn, and the appetite for long-term, complex major capital projects has waned.

Several industry observers have commented on a falloff in big-bucks midstream projects after this year since large-scale projects announced in 2014 will in most cases be completed this year or in 2018. Only sustained commodity price improvements will lead midstream firms to take those mega projects off the shelf and consider them again.

“Although this shift is probably not surprising, given the beating the industry has taken over the last few years, the growth of short-cycle unconventional projects makes for a different investing landscape than in previous cycles,” England added. “While this trend certainly seems to lower the risk of individual companies in the industry, it may pose some broader questions regarding energy supply and security. Where will supply come from in 2020 and beyond? Are there enough short-cycle projects to fill the supply gap?”

Those are other questions that will keep the office lights on late in coming months. Now, who has the crystal ball?

Paul Hart can be reached at pdhart@hartenergy.com or 713-260-6427.

SIDEBAR: Add The Cost Of Security

Last October, the midstream received a wake-up call on how vulnerable it is to sabotage—even in a high-tech age of digital sensors, infrared cameras and continuous SCADA-system monitoring. Just some low-tech bolt cutters allowed a group of environmental activists through fences and locked gates. Then, all they had to do was close valves on five cross-border pipelines that together can send 2.8 million barrels a day of crude oil from Canada to the U.S.—or about 15% of daily U.S. oil consumption.

The activists did no damage to the pipelines, which operating companies shut down as a precaution. The operators checked for damage before restarting. It could easily happen again. The midstream should not dismiss the continuing threat, according to Ethan Bellamy, managing director and senior researcher with Robert W. Baird & Co.

“Pipeline operators need to seriously look at security threats. That would be one of the top things on my agenda if I were an infrastructure owner for 2017 and going forward,” Bellamy told Midstream Business. “Whether it’s Islamic extremists or home-grown environmental terrorists, infrastructure is threatened, whether its construction activities or existing lines.” That will raise costs and uncertainly.

Easy targets

Construction projects are an even easier target than valves or pump stations. He noted Energy Transfer Partners LP recently placed construction equipment damage from the Dakota Access Pipeline protests at $10 million. Bellamy called that estimate “conservative” and noted it does not include the cost of lost work days, which will be substantial. Dakota Access originally was scheduled to enter service at the end of 2016. Now, it will be late 2017 at the earliest.

“What people in our industry need to understand is that for some small minority of environmental activists, this is a religious crusade. They are going to act like religious extremists. If I let out a pipeline construction contract, I’d seriously consider armed security guards,” Bellamy said. That might raise costs “but I see some real problems if we don’t take security much more seriously.”

The U.S. Pipeline and Hazardous Materials Safety Administration. (PHMSA) issued an advisory in late 2016 to remind the industry of the importance of safeguarding pipeline facilities and continuous monitoring of control systems.

“Even though advisories do not set forth legal requirements, given the current highly charged and politicized oil and gas construction and operational environment, it may be prudent for owners and operators of pipeline facilities to reevaluate their physical and cybersecurity measures, with the above recommendations in mind,” the law firm Hunton & Williams observed in a commentary on PHMSA’s advisory.

“You’re not manning these things on a permanent basis. It’s not viable,” said Stewart Dewar, a project manager at Senstar, an Ottawa, Ontario-based company that authored a 2012 white paper on pipeline security. “It’s too expensive.” There are more than 200,000 miles of oil lines alone that crisscross the U.S., mostly in isolated, rural areas, he noted.

The pipeline vandalism last fall came through the Climate Disobedience Action Fund and was staged, it said, to draw attention to climate change and to support Dakota Access opponents.

The Association of Oil Pipe Lines said in a statement it recognized disagreements exist about energy policy, but breaking and entering pipeline facilities went too far. “We don’t want anyone to get hurt or cause a release into the environment,” said Andrew Black, the association’s president.

Seeking dialogue

Bellamy called for the industry to become more proactive in the climate change debate, helping the public see the value of oil and gas as fuels and feedstocks in the context of the world’s economy. Some type of energy industry-environmentalist dialogue is hardly a new idea. Fracking pioneer George Mitchell sponsored a series of sustainable development conferences with environmentalists in the 1970s and financially supported environmental research by the National Academy of Sciences.

“There’s a very strong moral case for fossil fuels as benefiting impoverished people that far exceed the impact of what climate change may be,” Bellamy added. “There is a cost-benefit analysis, and you never see that.

“We need to do a better job of conveying that there are people in the oil and gas industry who believe in climate change science and the greenhouse effect,” he added. “But we just think shutting off the source of the industrial revolution, the fuel of the modern industrial economy, might not be the best approach to maximizing human welfare. You never hear that level of debate. We as an industry need to open people’s eyes to the fact that climate change is not a binary argument—you’re in or you’re out—it’s a very nuanced discussion that deserves to be had.” —Paul Hart