Rice Energy Inc. (RICE) is pushing ahead with a premier midstream system in the Utica Shale, but its portion of a $640 million joint venture (JV) may put the company in a bind in 2016.

Rice is poised to outspend cash flow by more than $400 million in 2016 based on current strip prices.

Subsidiary Rice Midstream Holdings LLC (RMP) and ally Gulfport Energy Corp. (GPOR), which operate in an area of mutual interest (AMI) in the Utica, said Oct. 8 they will invest about $520 million to develop gathering and compression assets and $120 million for water assets within the JV over the next six years.

“This significantly increases Rice's retained midstream footprint in Ohio, which previously consisted solely of the acreage inside the Rice/GPOR AMI,” said Daniel Braziller, equity analyst for Jefferies LLC.

The assets will be candidates for future dropdowns to Rice’s midstream subsidiary, which will help fund the company’s upstream business and accrete value to Rice Midstream's general partner.

Under the terms of the JV, Rice will own 75% of midstream assets and be responsible for construction and operations of the midstream assets in Belmont and Monroe counties, Ohio.

Gulfport will own the remaining 25% of the JV and dedicate about 77,000 leasehold acres to the midstream project, including the acreage recently acquired in its Paloma Partners III LLC and American Energy – Utica LLC transactions.

Under the agreement, Rice and Gulfport will pay a proportionate share of the total capital investments. Gulfport’s capex for the JV will be about $160 million over the next six years, said David Kistler, analyst with Simmons & Co. International.

In June, Gulfport entered into agreements to purchase 35,325 net Utica acres from American Energy for $407 million. Gulfport also acquired 24,000 net acres from Paloma in April for $301 million.

Gulfport will also contribute an 11-mile gas gathering pipeline and a 350 million British thermal unit per day (MMBtu/d) TETCO interconnect, which are both located in Monroe County.

Rice will build a 165-mile dry gas gathering system of high and low pressure pipelines.

Kistler said Gulfport has been transparent about its goal of securing dedications on its acquired acreage. Its selection of Rice as a partner “builds on their prior working history with Rice in the Utica.”

Down Drop

Daniel J. Rice IV, CEO, said the JV furthers the company's midstream relationship with Gulfport in the core of the Utica.

“This joint venture will be one of the premier midstream systems in the prolific dry gas core of the Utica and adds to Rice's attractive inventory of potential dropdown candidates to Rice Midstream Partners," he said.

Rice could use those dropdowns to help overcome its estimated 2016 deficit, Braziller said.

In 2015 and 2016, Rice’s capex is at least double its discretionary cash flow.

Rice’s estimated 2015 discretionary cash flow is $332 million while capex is $678 million—a $347 million deficit, according to Wells Fargo Securities LLC.

In 2016, estimated discretionary cash flow falls to $286 million while spending rises to $709 million, resulting in Rice spending $424 million more than it takes in.

To help balance its budget, Rice’s existing water distribution assets will likely be dropped down to Rice Midstream in early 2016 for proceeds of roughly $150 million, Braziller said.

“RMP is low-debt and we are optimistic that it will have access to external funding sources” he said.

Rice may also drop roughly one-third of its existing Ohio gathering EBITDA into its midstream subsidiary by the end of 2016.

Combined proceeds of roughly $270 million would help improve Rice’s balance sheet and funding outlook materially, Braziller said.

Under the terms of the JV agreement, Gulfport will have the right to participate on a proportionate basis in any direct or indirect sale transactions by Rice, which includes potential dropdown transactions with its midstream subsidiary.

The JV will also pursue additional third-party opportunities within a 340,000-acre AMI in Belmont and Monroe counties. Future acreage leased by Gulfport and Rice in the counties will be dedicated to the JV.

Darren Barbee can be reached at dbarbee@hartenergy.com.

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