[Editor's note: This story was updated from a previous version posted at 8:10 a.m. CT Jan. 23.]

Targa Resources Corp. (NYSE: TRGP) said Jan. 23 it will expand its reach deeper into the Permian Basin with the acquisition of oil and gas gathering and processing assets from Denver-based Outrigger Energy.

Targa will initially pay Outrigger $565 million cash. The deal allows Houston-based Targa to link the Midland and Delaware basin infrastructure to its existing lines.

The transaction could ultimately cost $1.5 billion based on performance earn-out scheduled payments to Denham Capital-backed Outrigger over the next two years.

The acquired assets serve the Delaware and Midland where more than 250,000 acres fall under long-term contracts with operators holding decades of drilling inventory.

Midstream infrastructure will play an increasingly important role in the nation’s most active basin and could eventually be overwhelmed. As early as fourth-quarter 2017, total crude volumes in the Permian Basin could hit 2.6 million barrels per day (MMbbl/d)—matching total current pipeline capacity, according to a Jan. 10 report by Wells Fargo Securities LLC.

Pro forma the Outrigger acquisition, Targa will own more than 5,000 miles of pipeline in the Delaware Basin and more than 5,500 miles in the Midland. The company anticipates its gross processing capacity across the Permian will increase to about 2 billion cubic feet per day (Bcf/d) by year-end 2017.

Targa Resources, Permian Basin, West Texas, map

The acquired Delaware and Midland systems each currently have 40,000 bbl/d of crude gathering capacity.

In the Delaware, gas gathering and processing and crude gathering assets are located in Loving, Winkler and Ward counties in West Texas. The assets include 70 MMcf/d of processing capacity and a weighted average contract life of 14 years.

In the Midland, gas gathering and processing and crude gathering assets are in Howard, Martin and Borden counties in West Texas. The assets include 10 MMcf/d of processing capacity with an average contract life of 13 years.

The midstream systems developed in the Midland and Delaware basins and the transaction represent “a great outcome for our customers, employees, and investors,” said Dave Keanini, Outrigger's president and CEO.

“The success of this transaction is a testament to Outrigger’s ability to develop midstream solutions for our producer customers,” he said.

James Cunningham, managing director at Denham Capital congratulated the Outrigger team on its development of a series of “great assets in a highly competitive marketplace.”

Linking In

Targa’s immediate focus for the Outrigger systems will be connecting them to its existing network of pipelines in the Permian, Joe Bob Perkins, Targa’s CEO, said during a Jan. 23 conference call.

The company plans to keep pace with operators’ need for capacity.

Outrigger’s Delaware assets will be connected to Targa’s existing Sand Hills system, and the Midland assets will connect to the WestTX system in Martin. Targa said it will also evaluate future connections from the Delaware assets to its Versado system.

Expansion of the Outrigger systems will depend on producer activity, Perkins said adding that there are currently “no capital project transfers” for the acquired assets.

“We're going to continue doing the same good things that Outrigger was doing, but with the benefit of being able to connect to our existing systems,” he said. “The faster producer development occurs, the more capital we will have to spend to keep up.”

Perkins said Targa may provide more information about the company’s outlook, “but as we disaggregate [Outrigger] it's more likely to look like Permian capex than Outrigger capex.”

Wells Fargo estimates production in the Permian Basin will continue to grow into 2020, forecasting a broader compound annual growth rate of 15% for Permian crude production.

“This implies that 300,000 bbl/d of newbuild midstream capacity will be needed by that time and illustrates the point that infrastructure constraints could begin to creep up sooner than most are anticipating and might persist longer-term,” Wells Fargo said.

The firm also noted natural gas infrastructure could pose additional bottlenecks over the next few quarters.

“As investors often forget, Permian new drills today can produce north of 30% gas, and given the expected activity ramp over the new few quarters, natural gas has the potential to also overwhelm the system,” Wells Fargo said.

Down Payment

Targa plans to finance the Outrigger acquisition through an equity offering of 8 million shares with a 1.2 million shoe. Targa expects the equity offering is expected to generate about $524.1 million of net proceeds.

The transaction is subject to up to $935 million of additional earn-out payments on existing contracts in 2018 and 2019 based on realized gross margin from the assets. The initial cash payment of $565 million represents an approximate 9x 2017E EBITDA multiple, according to Targa.

“As structured, this transaction is accretive in 2017, and we believe that the earn-out structure de-risks the overall transaction profile and aligns us with the continued success of the acquired assets,” Perkins said in a statement.

As part of the agreement, Targa’s subsidiary, Targa Resources Partners LP, will acquire 100% of the membership interests in Outrigger Delaware Operating LLC, Outrigger Southern Delaware Operating LLC and Outrigger Midland Operating LLC.

Targa expects the Outrigger acquisition to close in first-quarter 2017, subject to customary regulatory approvals and other closing conditions.

RBC Capital Markets was Targa’s exclusive financial adviser, and Locke Lord LLP was its legal counsel for the acquisition. Barclays Capital Inc. is book-running manager for Targa’s equity offering.

Targa owns and operates midstream assets across multiple shale and natural resource plays, including the Permian, Barnett, Bakken, Eagle Ford, Anadarko Basin, Arkoma Basin, onshore Louisiana and Gulf of Mexico.

Outrigger is a private, full-service midstream company currently focused in the Permian Basin, Rockies and Midcontinent areas.

Emily Patsy can be reached at epatsy@hartenergy.com.