'Capex creep' overshadowed Q4'20 midstream results

Midstream operators disappointed investors during the fourth-quarter earnings season as executives suggested there might be room for more spending in 2021, even though oil and gas largely plan to keep production flat.

Despite expectations that pipeline companies would keep a tight leash on balance sheets, management teams highlighted the potential for what industry observers considered to be inflated budgets, which was reflected in stock market performance.

"Capital budgets for the year dominated trading outcomes," Colton Bean, an analyst at energy investment bank Tudor Pickering Holt & Co., said in an email. "Increased spending (or allusions to the possibility of it) drove equity sell-offs across the sector."

Specifically, Bean pointed to the nearly $1 billion cost hike for Enbridge Inc.'s Line 3 replacement project and Keyera Corp.'s C$300 million cost increase for its joint venture Key Access Pipeline System. He added that Oneok Inc.'s "increased budget weighed on the near-term [free cash flow] outlook," while Enterprise Products Partners LP erred by indicating that its budget would not surpass $2 billion compared to guidance of $1.6 billion.

"While the upper bound may have been intended to alleviate concerns on material capex creep, it had the exact opposite effect," Tudor Pickering Holt told clients Feb. 3.

Less than half of the top 10 midstream companies in an S&P Global Market Intelligence analysis experienced percentage decreases in both adjusted EBITDA and distributable cash flow during the fourth quarter of 2020 compared to the prior-year period. Crude pipeline operators Magellan Midstream Partners LP and Plains All American Pipeline LP recorded the biggest declines, which analysts at Mizuho Securities USA LLC attributed to "a lower product margin (-$8 million) and continued weakness in aviation fuels and liquified petroleum products" and "underperformance in supply and logistics ($4 million versus $57 million estimated)," respectively.

Kinder Morgan Inc. also reported percentage decreases for both metrics, but still beat Raymond James & Associates Inc.'s expectations for the fourth quarter. Even so, Raymond James' Justin Jenkins noted the gas pipeline heavyweight's units traded down.

"The one bigger surprise was even the companies with midstream earnings beats, those stocks struggled and it was almost a 'sell' reaction across the board," he said in an interview. "We didn't think positioning was that extreme with investors to cause that type of outcome."

Kinder Morgan plans to invest $800 million in expansion projects and contributions to joint ventures this year — down sharply from the $1.7 billion budgeted for 2020 — but also signaled that it expects more natural gas utilities to shed pipelines like Dominion Energy Inc. did last year and may scoop up some of those assets for the right price.

On the ESG front, Cheniere Energy Inc. announced plans to give its LNG customers emissions data associated with each cargo it produces at its two U.S. export terminals, making its environmental footprint more transparent at a time of increasing pressure on buyers to reduce their shale consumption.

France's Engie said in November 2020 that it had halted talks with NextDecade Corp. about a supply deal tied to the developer's proposed Rio Grande LNG facility in Texas. With strict carbon emissions goals, European utilities are being pressured to shy away from signing new deals for importing U.S. shale gas.

Sempra Energy, meanwhile, said is talking to traditional and strategic energy infrastructure investors about selling a noncontrolling interest in a new unit that will combine some of its natural gas, LNG and renewable infrastructure.

The unit, Sempra Infrastructure Partners, will support Sempra's planned North American LNG export expansion.

The energy transition was also top of mind for pipeline owners. Magellan CEO, President and Chairman Michael Mears said an anticipated oversupply of crude oil transportation capacity out of the Permian Basin could push some midstream operators to convert their assets to accommodate other commodities, including greener fuels.

"I can tell you, we think about it — if the need is there — to do that with our pipes," he said. "... If you get into an environment where the margins are so low, all the contracts are gone, you have excess capacity, so everyone's fighting per barrel with extremely low tariffs, then there is going to be a huge incentive for people to look for economic conversions and take capacity out of the market."

Harry Weber is a reporter for S&P Global Platts. S&P Global Market Intelligence and S&P Global Platts are owned by S&P Global Inc.