The Energy Sector’s Huge Logistical Roadblock Means There Could Be A Wave Of Deals

nathanHere’s something you might find interesting. Approximately 2.6 million miles of installed pipelines carry oil, gas, liquids, and refined petroleum products throughout the continental United States. For context, the average distance to the moon is 240,000 miles. So if there were lunar hydrocarbon deposits, existing pipeline infrastructure across our great land could span that distance ten times over – with plenty to spare.

I’ve been covering the midstream energy industry for years — and this statistic blew even me away.

The American Petroleum Institute and the Energy Information Administration both have a wealth of info on the subject, along with accompanying charts like this one…

And yet, it’s still not enough…

As the world’s top producer, the U.S. will bring 12+ million barrels of crude oil to the surface today, along with 100 billion cubic feet of natural gas. The same again tomorrow. Moving those tremendous quantities out of remote fields to regional storage hubs and processing plants is a constant challenge.

A Huge Logistical Roadblock

From the Permian Basin in West Texas to the Bakken Shale in North Dakota to the Marcellus in Pennsylvania, there isn’t always enough pipeline takeaway capacity to meet demand. Picture 100 people trying to crowd into a busy airport tram with only 75 open spots, and you get the idea.

Cue the shipping bottlenecks. They have been a persistent problem, forcing buyers and sellers to re-route or arrange alternate transportation (like railways). Producers routinely accept steeply discounted prices to compensate for the added shipping expense. As you might imagine, that can quickly lead to millions in lost profits.

The pipeline deficits have grown so severe at times that drillers have deliberately chosen to leave new wells unfinished. These are essentially just holes in the ground that still require casing, cementing, and fracking. The delay could be a labor shortage, but it most often arises when there is simply nowhere for the oil to flow. As we speak, there are 4,900 drilled but uncomplete (DUC) wells across the country.

Meanwhile, billions of cubic feet of “stranded” natural gas is flared – or burned off – at the wellhead daily because there are no economic means of transporting it to market.

In other words, logistical constraints have forced producers to purposely step on the brakes and curtail output. The addition of new pipeline systems in recent years has helped alleviate the congestion. But new capacity tends to be absorbed quickly. The owner holds an “open season” to gauge potential interest and solicit advance reservations whenever a new project is approved.

Space usually gets fully booked months before construction begins. For example, Kinder Morgan’s (NYSE: KMI) Permian Highway carries 2.1 billion cubic feet of natural gas daily to LNG liquefaction facilities on the Gulf Coast. In November, a 650 million cubic feet per day expansion project is expected to be completed. But those delivery spots filled up over a year ago. Once reservations opened, a single shipper immediately signed a binding commitment for half of the additional space, with the other half gobbled up days later.

And just like that, the tram is fully occupied again. But in this case, there is a fee to board.

We’re Gonna Need A Lot More…

I don’t want to delve too deeply into the demand side of the equation. Suffice it to say that global oil consumption is expected to hit a fresh record high of 102 million barrels per day this year – almost every drop of which must first pass through a pipeline somewhere.

The outlook for natural gas is even brighter. Cheap and abundant, it has supplanted coal as the nation’s primary source of electricity generation and now accounts for about 40% of the power grid – equivalent to wind, solar, and nuclear combined. That alone spells unwavering year-round demand.

But there are other drivers.

Natural gas liquids (NGLs) like ethane are the primary feedstock for petrochemical plants. There are now 23 million vehicles running on compressed natural gas (CNG) worldwide that must constantly be refueled. And don’t forget about exports of liquefied natural gas (LNG) to hungry buyers from Asia to South America.

With global consumption rising, U.S. natural gas output is expected to climb even further into record territory next year, rising by another two billion cubic feet (bcf) daily. Remember, one bcf is enough to power 24,300 homes annually. This incremental production will tax existing infrastructure even further.

With thousands of new wells being drilled, we will need more gathering lines across production grounds. More processing and treatment to strip out impurities. More fractionation facilities to separate out useful liquids. More high-pressure interstate lines and compressor horsepower to push this versatile fuel to local utilities and liquefaction plants.

But there’s no quick and easy solution. These large-scale projects are costly and can take years to bring online. That’s assuming they get the permitting green light in the first place – increasingly difficult in this contentious political climate.

A Mountain Of Red Tape

The controversial Keystone XL Pipeline is but one high-profile example. The proposed $9 billion expansion was rejected by President Obama, revived by the Trump administration, and finally canceled by an executive order from President Biden on his first day in office. That decision triggered a legal challenge from two dozen states, but ultimately, the project was scrapped.

Even when Federal governments give a thumbs-up, pipeline construction can still be stymied by injunctions and legal delays at the local level. For years, Canadian oil producers had to settle for discounted prices because their products had no outlet to the sea and instead had to be routed south to the U.S. The lack of export pathways costs as much as $15 billion in lost revenues yearly.

Seeing an opportunity, Kinder Morgan stepped up and invested $1 billion to expand the Trans Mountain Pipeline System and triple the oil flow through the Canadian hinterlands to marine terminals on the coast, where the supplies could be shipped to Asian markets. The project had the full backing of the Canadian government. Unfortunately, provincial leaders in British Columbia threw up roadblocks, and the project was locked in a stalemate.

In the end, the prospective builders were forced to sell their interests and walk away.

Then there is Duke Energy (NYSE: DUK), which spent years trying to build a 600-mile artery carrying much-needed natural gas supplies from production grounds in West Virginia southward to utilities and power plants. The Atlantic Coast Pipeline briefly passed below the Appalachian Trail, so it needed the approval of the U.S. Forest Service – which was granted. But an appellate court overruled the Forest Service and rescinded the permit.

The dispute then went before the U.S. Supreme Court, which vacated the lower court’s decision. But by then, initial cost projections had already escalated by several billion dollars, so the owners decided to pull the plug.

I could go on, but hopefully, you get the picture. Future pipelines are in for hard-fought battles with environmental groups. Some will get bogged down by legal delays and protests; others will be abandoned altogether.

So how can growth-minded companies expand their footprint? The solution lies not in building — but in buying.

This Sector Is Ripe For Deals

While the upstream oil & gas sector is famous for its M&A activity, the midstream space is no stranger to deals either. Just last week, Oneok (Nasdaq: OKE) came forward with a generous $18.8 billion takeover offer for Magellan Midstream (NYSE: MMP).

The former is a major player in natural gas liquids processing, storage, and transportation. The latter operates strategically located arteries connecting roughly half of the nation’s refineries. The union of these two market leaders will create a $60 billion juggernaut with 25,000 miles of liquids pipelines and an unrivaled collection of complementary systems and networks stretching from the Gulf Coast to the Rocky Mountains.

I had a front-row seat to this spectacle because Magellan is a current recommendation in my High-Yield Investing newsletter (and Oneok is a prior holding). The same with Enterprise Products Partners (NYSE: EPD) and its $3.2 billion acquisition of Navitas Midstream last year.

Trust me, they won’t be the last. Accretive deals like this tend to spur more consolidation — if the synergies and scale advantages weren’t enough of an incentive.

In the meantime, we’re about to see the “mother of all oil booms” in the West Texas oil fields. And this little-known company is set to unlock it…

By now, you probably know that the Permian is home to a vast amount of untapped oil. But you’ll be shocked when you find out how much. We’re talking about nearly a billion barrels of oil… just from one company. And in the coming days, it could unleash a surge of mega-profits.

Click here for the full briefing now.