Impairments by the global upstream and midstream energy industries surged in 2020 due to the intermingled challenges of pre-existing oil oversupplies along with the demand destruction brought about by coronavirus and the associated economic contagion.
A 50-company publicly-traded sample of North American midstream companies was assessed to monitor the impairment landscape. In the sample, aggregate asset impairments announced in 2020 have reached $15.8 billion, surpassing the $15.6 billion write-downs observed over the entirety of 2015 among the same companies.
As state, provincial, and federal governments across the U.S., Canada and Mexico instituted curve flattening measures to slow the spread of COVID-19, many jobs evaporated and economic activity in many regions subsided meaningfully.
The fallout has been considerable for multiple industries. With respect to the North American oil and gas industries, the extraordinary circumstances have pressured prices and driven record demand destruction, which have reduced upstream activity, condensed crude and refined petroleum production, gathering, transportation, and processing, resulting in a substantial degree of impairments.
Write-offs disclosed by the midstream industry during first-quarter 2020 financial releases have cut across several midstream segments including gathering and processing, transportation and storage, and diversified enterprises.
The 2015-2016 oil bust may provide a guide to 2020
During the previous oil bust, chiefly caused by upstream oversupplies from burgeoning unconventional shale oil production and reactionary market swamping by Saudi Arabia, the midstream industry responded with write-downs that peaked in late 2015, with impairments rising nearly 14-fold to $15.6 billion from an aggregate of $1.1 billion in 2014.
While gathering and processing operations were the heaviest casualties in 2015, the dislocation in the present energy environment has telegraphed further downstream, impacting not only gathering and processing, but several transportation and storage industry operators.
The toll for each segment, has generally been dependent upon the degree of underlying exposure to the liquids value-chain, including crude oil, oil sands, NGLs, and refined products. Certainly some enterprises have benefited from opportunities to store large volumes of spare crude oil while prices recover. However much of the midstream space has been negatively impacted and many management teams foresee volatility for years to come.
Transportation and storage impairments reach all-time high of $5 billion
Two companies out of the 19-company transportation and storage segment represented the majority of write-downs. MPLX LP and Plains All American Pipeline LP impaired about $2.2 billion and $2.6 billion, respectively, of goodwill and long-lived oil and gas assets. The impairment at MPLX was primarily related to its gathering and processing assets, with its logistics and storage business generally unscathed.
The write-down by Plains All American Pipeline, or PAA, was principally associated with goodwill. The company expects challenges to its transportation business in 2020, as crude oil tariff volumes may fall 13% on average this year compared with prior projections. In addition, the company's Canadian NGL business is expected to realize lower margins. PAA anticipates its supply and logistics business will benefit from near-term contango opportunities, though the benefit is unlikely to fully offset challenges to its transportation business.
Gathering and processing write-downs mirror late 2015
The majority of 2015 impairments were associated with the midstream value-chain segments most closely aligned with upstream activities such as gathering and processing and with diversified enterprises that owned G&P infrastructure. Gathering and processing, or G&P, impairments have reached above $6 billion in 2020, and until now had not attained a similar magnitude since 2015 when write-downs registered $6.6 billion.
2015 G&P impairments increased by roughly 19-times to $6.6 billion from $350 million in 2014.
Diversified enterprises are not completely immunized despite some stronger financials
Most of the large diversified operations continue to be a mix of synergistic businesses including gathering and processing, liquids transportation and storage, in addition to flagship interstate natural gas pipeline systems held by several of them.
Midstream impairment reporting in 2020 began with one of the largest diversified midstream enterprises, Kinder Morgan Inc. Despite a drive by the company in recent years to gradually increase the degree of contractually-protected cash flows, a complete inoculation against revenue disruptions under all conditions is not possible, considering unforeseen events.
Over 90% of Kinder Morgan cash flows are derived from take-or-pay and fee-based contracts, significantly reducing cash flow volatility in times of stress. The company's interstate natural gas pipeline network anchors the company's overall performance, and helps minimize the expected impacts from dislocations in the liquids environment that have arisen from falling upstream production, low prices, and dampened downstream demand.
The anticipation for weakness in the gathering and processing and refined products businesses caused Kinder Morgan to write down $971 million of goodwill and long-lived oil and gas assets on April 22. Depending upon how well the company's assumptions for 2020 bear out, additional impairments in latter 2020 are possible if the operational environment worsens in some segments. Steven Kean, CEO and director, noted in the company's earnings call, referring to the setting in April: "refined products volumes are coming down in a way we've never seen before." Previously the company recognized $2.1 billion in impairments in 2015, and then an additional $997 million in 2016.
Kinder Morgan has estimated that 2020 EBITDA will be about 92% of budget, or down 8%, with the expectation that distributable cash flow would consequently fall by 10%. To address the potential for lower distributable cash flow, Kinder Morgan stepped-down its capital expenditure budget, and pared an additional $700 million from the 2020 capex. The updated capex level is $1.7 billion, a 30% reduction from the $2.4 billion announced earlier this year.
Williams Cos. Inc. recognized a $1.2 billion non-cash pretax charge — primarily related to its gathering and processing businesses in several crude-oil focused shale basins. The write-down reflects the potential impact this year from the significant declines in crude oil prices due to oversupplies and decreased demand, and the fallout for producers. Despite the pressures on producers, and increased counterparty risks associated with the smaller and less capitalized upstream businesses, the company highlighted its strong track record in previous economic upsets regarding the ability of wellhead gathering service contracts to perform and survive through a variety of distresses including restructuring and bankruptcy.
Management noted that the company's natural gas infrastructure business was purpose-built for the long-haul and is expected to remain durable despite present market volatility. Moreover, Williams' management believe the company’s northeast gathering and processing business will be resilient as producers in dry gas basins eventually return to drilling and development.
Regulatory Research Associates is a group within S&P Global Market Intelligence.
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