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After Berkshire Deal, Pool of Large-Scale Midstream Investors Shrinks

Source: S&P Global Intelligence, July 7, 2020

Berkshire Hathaway Energy’s $9.7 billion acquisition of Dominion Energy Inc.’s natural gas transmission and storage business may indicate investor interest in that part of the midstream sector, but some analysts said opportunities for future large-scale asset M&A remain limited.

The Berkshire Hathaway Inc. subsidiary will own more than 7,700 miles of natural gas transmission lines, with about 20.8 Bcf/d of transportation capacity and 900 Bcf of operated gas storage when the deal closes toward the end of 2020, in addition to a 25% stake ownership in the Cove Point LNG terminal. In a June 6 SEC filing, Berkshire cited the assets’ “approximately 96% firm contracted revenues” and “approximately 78% of revenue derived from investment-grade counterparties” as drivers for the deal.

With an appetite for midstream M&A muted as the COVID-19 pandemic destroys demand and stunts oil prices, the transaction is “a large and very public vote of confidence to the long-term value of natural gas transmission and storage assets,” analysts at East Daley Capital Advisors Inc. wrote in a July 6 note to clients.

But while the Berkshire deal “offers some validation that there are big investors with an interest in high quality midstream assets,” according to CBRE Clarion Securities portfolio manager Hinds Howard, it also “removes one very large cash buyer from the pool of potential buyers.”

The Dominion transaction is Berkshire Hathaway’s first foray into the pipeline sector since the company acquired the Kern River and Northern Natural pipelines in 2002, East Daley noted.

Henry Hoffman, a partner at the energy-focused investment firm SL Advisors LLC, said Koch Industries Inc. could emerge as a potential buyer, but noted that Berkshire Hathaway can likely do more in the industry as bigger midstream firms hesitate to consolidate for now.

“I don’t know if there’s someone else like Berkshire Hathaway that’s just going to write checks of a huge size without kind of a merger going on,” Hoffman said in an interview.

At the same time, demand for assets also relies on whether potential buyers think gas infrastructure will remain viable as utilities, such as Dominion, ramp up investments in renewable energy.

“It feels like a good deal for the buyer, but highly dependent on your view of the terminal value of natural gas pipelines decades from now, which feels like it is being called into question in recent years,” CBRE’s Howard said.

Dominion Chairman, President and CEO Thomas Farrell II noted that growing opposition to new and existing natural gas midstream infrastructure has overshadowed the company’s plans to expand that footprint.

“To state the obvious, permitting for investment in gas transmission and storage has become increasingly litigious, uncertain and costly,” he told analysts and investors on a July 6 conference call. “This trend, though deeply concerning for our country’s economic growth and energy security, is a new reality which threatens the pace at which we intended to grow these assets.”

Those concerns forced Dominion and Duke Energy Corp. to abandon the $8 billion Atlantic Coast pipeline project even after securing a recent victory at the Supreme Court, which vindicated the 604-mile, 1.5-Bcf/d pipeline project and decisions made by permitting agencies.

In addition to Atlantic Coast, Williams Cos. Inc. in February canceled its Constitution pipeline project that would have transported gas from Pennsylvania shale fields into New York and decided not to keep pursuing the hotly disputed Northeast Supply Enhancement pipeline project in May. Even in Texas — a traditionally energy-infrastructure-friendly state — Kinder Morgan Inc.’s Permian Highway pipeline project is facing substantial opposition from landowners concerned about groundwater pollution.

According to Miller/Howard Investments Inc. portfolio manager John Cusick, that list is poised to get longer as environmental activism persists and younger investors embrace environmental, social and governance standards.

“It’s not like the train coming down the tracks where you’re waiting and seeing it coming. It’s kind of here,” Cusick said in an interview.