On Sunday, Dominion announced that it would sell virtually all of its midstream natural gas assets to Berkshire Hathaway Energy for $9.7B. It also announced the cancellation of Atlantic Coast Pipeline. We estimate that the sale is at about 10.2x EBITDA. While it is a transformative action by D, our initial take is that it is not a great signal for the midstream sector.
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In this week’s report we recap YTD stock performance trends and give our expectations for key macro drivers of midstream stocks for the remainder of the year. The defensive names have outperformed materially alongside broader contractions in midstream valuation multiples. Looking out, we believe key macro drivers of stocks will be 1) the November election and 2) the trajectory of US shale production volumes.
Chesapeake declares bankruptcy. On Sunday, Chesapeake Energy filed for Chapter 11 protection and will implement a plan of reorganization to eliminate roughly $7B of debt. The filing also indicates intent to address “legacy contractual obligations”. As a result of the announcement, we decided to revisit the pipeline exposure report that we last produced last November after CHK issued a going concern with their 10Q and updated for the pipelines most contractually exposed to CHK volumes. We see above market contracts at risk of renegotiation here, particularly transmission, though the impact should be manageable within our coverage.
Friday capped off a tough finish to an even tougher week for both the market and midstream. In this week’s report we take a look at whether a potential draw-down of DUC inventory can help reduce our concerns on 2021 production volumes with the rig count having been decimated. We also give our updated thoughts on the Mainline contract tariff proceeding after Enbridge filed supplemental testimony giving more context on ENB’s expected return profile and key risks it faces by offering longer-term contracts.
In this week’s report we discuss the potential recovery scenarios for US production – will it be V-shaped like many investors are hoping, or more L-shaped as implied by EPD’s recently published outlook? We also take a look at unlevered FCF yields for our coverage which appear strong when factoring in our estimates of base capex needed to sustain the cash flows of the business. Finally, we give our thoughts on two positive developments for gas pipelines from last week, namely the Supreme Court decision allowing pipelines to cross the Appalachian Trail and the Solicitor General petitioning the Supreme Court to stay the vacatur of NWP12, and discuss next steps.
Today, FERC opened an NOI kicking off the review of the liquids pipeline index. Every 5 years FERC updates its formula for setting ceiling rates for liquids pipelines operating under index-based rates to adjust for changes in industry costs. The review seeks to calculate increases in pipelines’ cost of service using Page 700 data from each pipeline’s annual Form 6 and then anchors this to changes in PPI-Finished Goods. At the conclusion of this NOI, FERC will decide on an official “PPI + x%” that drives pipeline rate changes from July 1, 2021 through June 30, 2026. In the NOI, FERC proposed a preliminary index of PPI + 0.09% using the prior methodology. This is close to the PPI + 0.2% we forecast in our liquids pipeline index preview two weeks ago, and is slightly below the PPI + 1.23% used over the current July 2016 – June 2021 period.
Tomorrow (06/17/20) Equitrans Midstream is expected to close its transaction to acquire EQM Midstream Partners. We therefore terminate our coverage of EQM, but continue to provide research coverage on ETRN. Investors should not rely on our previous ratings, price targets, or estimates for EQM.
ETRN had some encouraging news on Monday. The Supreme Court reversed the 4th Circuit decision that prevented Atlantic Coast Pipeline (and MVP) from crossing the Appalachian Trail. This resolves a major overhang for MVP though there is still some work ahead. Moreover, FERC is expected to rule on the certificate for MVP Southgate extension on Thursday, and the DOJ filed at the Supreme Court for a stay on the NWP12 permit vacatur (will know more in the next week or 2). We reiterate our Outperform rating and $12 target price on ETRN, for 3 reasons: 1) MVP still likely to get done; 2) gas-driven basins like Appalachia are better positioned as associated gas volume growth slows; and 3) attractive valuation.
Midstream stocks were hit hard this past week which more than offset the strong start to June. In this week’s report we take a deeper look at this year’s historic rig count decline and the potential implications for 2021 volumes. We also recap some key takeaways from our fireside chat with NextEra Energy CEO Jim Robo last week which revealed some concerning datapoints for gas over the longer-term.
Friday closed off another strong week for midstream which has continued to rally alongside a run up in crude prices. In this week’s report we give our thoughts on the rally and whether the pain trade is for higher beta names to continue to outperform over the shorter-term. We also take a high-level look at the outlook for crude oil prices and US shale production volumes as OPEC and Russia address production cut extensions and US producers ease curtailments. We close out this week’s report with a refreshed look at the current environment for LNG and its impact on the gas bull case in 2021.
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