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Alerian President and CEO Kenny Feng discusses the outlook for midstream investors Oct. 23 at the Midstream Finance conference in Dallas. (Source: Hart Energy)
DALLAS—Renewables such as wind and solar are sure to produce some variables in the outlook, but Alerian President and CEO Kenny Feng says the energy mix will remain largely unchanged over the next 20 years.
With that understanding, Feng reminded oil and gas executives in attendance at the inaugural Midstream Finance conference on Oct. 23 of the importance of remaining capital-efficient in their business practices.
“This is a growth business,” said Feng, who kicked off the conference as the keynote speaker. “Growing the distributions of cash other than the rate of inflation is a bad use of that capital. Leverage targets need to come down.”
Feng noted that the U.S. is pretty low on the cost curve primarily as a result of the shale revolution, which has driven down costs for everyone from the production side.
“If you compare that to other curves the U.S. is in the low part of that cost curve, which is another way of saying the U.S. is going to be the swing producer of hydrocarbons,” he said.
That reality creates the needs for investors, quite likely non-traditional investors, as the midstream sector looks to improve infrastructure to move oil and gas to market not just in the U.S. but globally. The hydrocarbons being produced need to move to the coasts—whether Atlantic, Gulf or Pacific—to reach markets abroad.
But midstream companies must have the infrastructure in place to do so. Feng said midstream companies will be building that out at an average of $44 billion per year over the course of 18 years in places like Asia.
Feng believes the macro argument is simple—it’s that an investment in North American infrastructure is ultimately a bet on non-OECD Asia growth and the greater need for energy in those countries.
“As we are trying to broaden the pool of investors and really tap new institutions and generalists that message really has to resonate is not energy specific, it’s not midstream-specific,” Feng said. “It’s themes that they are trying to play through investments in other assets.
“Second, why is the financing part of this conversation so important? It’s important because you take $44 billion opportunity over the course of the next 18 years or so and you assume half of that is debt financed and half of that is equity financed and you are looking at a $22 billion equity investment. There are three sources of that capital: public midstream companies, private equity and pensions of rather large organizations who are owning assets directly.”
However, there is still a massive funding gap and a concern over the source of the money. The logical answer seems to be that midstream companies will have to sell assets and retain more earnings.
“Both of these are really important because they are not traditionally how people think about midstream investing that people want to think about,” Feng said. “We don’t want to think about selling assets, we don’t want to think about retaining more earnings and that’s because much of the backbone in investing in this space has built on investors who have been focused on distribution growth.”
When it comes to selling assets, Feng said nothing should be off the table.
“If someone offers you the right price you should be willing to sell it,” he said.
Ultimately, Feng believes the message around this space to investors will be impacted, particularly when it comes to retail.
Feng said, “I personally do not believe retail is going to come back in the size that it did in the past to invest in this space, not in the way that it’s going to make enough of a dent in that $22 billion of equity financing that is going to be required to build out the energy infrastructure here and in Canada, which means the messaging cannot be focused directly on targeting those particular groups of investors.”
Feng said conversations focused on distribution growth and coverage ratio, which is unique to the midstream sector, should give way to topics that resonate with non-traditional midstream investors. The focus should be placed on business growth, payout ratios declining, leverage targets needing to come down, self-funding, learning from other infrastructure sectors (utilities, telecom and exports) and return on capital invested.
By luring in more non-traditional investors, Feng believes the midstream sector is poised to remain strong in the energy mix.
“I think the story around energy infrastructure and investing is incredible, it’s probably more incredible than it’s been in many, many years from a fundamentals perspective,” he said. “What we have to change is collectively as an industry is as we talk about the messaging is really how we are delivering that story to investors.”
Contact Terrance Harris at tharris@hartenergy.com
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