By: James Osborne – Houston Chronicle -For years, a small clique of investors has questioned the logic of putting money into oil and gas pipelines that take decades to pay off when climate change policy was pushing the energy sector away from fossil fuels.
Banks and other institutions, however, largely continued to finance the multi-billion-dollar projects, confident in projections by oil and gas companies that the so-called energy transition would take time and oil and natural gas would be needed for decades to come.
But a rash of cancellations and delays of new pipelines, largely brought on by the coronavirus pandemic, raises questions of whether those skeptics’ warnings are starting to catch on and the cancellations reflect a newfound wariness among banks to back the projects in view of an uncertain future for fossil fuels.
“No doubt some of these decisions are short term concern, but also an understanding there is a long term risk profile for (pipeline) assets that cost billions of dollars and at best have 10-year shipper commitments,” said Andrew Logan, head of oil and gas at Ceres, a nonprofit advising investors on sustainability. “There’s a lot more exposure for investors than had been understood before.”
The movement and processing of crude oil and natural gas is the core of Houston’s economy, with not only most of North America’s largest pipeline companies based here, employing thousands of workers, but billions of dollars in investment in new crude and liquefied natural gas terminals for tankers to export abroad.
So far this year, the Houston refiner Phillips 66 has announced it is indefinitely deferring two pipelines, one running from Wyoming to the oil hub in Cushing, Okla. and another, in partnership with the Houston pipeline company Plains All American, from Cushing to the Texas Gulf Coast. Another Houston pipeline company, Kinder Morgan, told analysts in March it was uncertain when its Permian Pass natural gas pipeline would be built because it had been unable to secure contracts with customers.
Last week Enterprise Products Partners, also of Houston, surprised analysts when it said it was canceling its own pipeline bringing oil from the Permian Basin despite previously saying it had contracts in place.
“(The project delays and cancellations) are pretty uncommon, especially if there were committed shippers already signed up, as in the case of the Enterprise project,” said Aaron Brady, an analyst at IHS Markit.
Pipeline companies have explained the moves as a reaction to short-term market conditions brought on by the sudden loss of demand due to the coronavirus pandemic. While acknowledging the long-term challenges facing their industry, they insist it has nothing to do with the current pullback.
“All of the objective analysis shows you’ve got a long runway, decades, with increasing demand for refined products and natural gas before it begins to level off,” said David Conover, vice president of government relations at Kinder Morgan. “The markets are clearly going to be there.”
The International Energy Agency, which advises world governments on energy supplies, has forecast that under current greenhouse gas emissions policies, oil demand will rise through 2040, increasing 8 percent over that time.
But IEA also warns that if governments follow through on promises to adopt stricter policies to avoid a catastrophic rise in global temperatures, then oil demand would decline by more than 25 percent over the next two decades. Natural gas demand, buffered by gas plants’ ability to turn on and off quickly to help the power grid manage uneven electricity flows from wind turbines and solar panels, would decline by 3 percent.
The potential impact of tougher climate policies is increasing borrowing costs for oil and gas companies, analysts said, even as low-interest rates push down borrowing costs for most industries.
“The environmental pushback is starting to increase the cost of capital for some producers, leading to lower overall production, and that ultimately boomerangs into the (pipeline) space,” said John Coleman, an oil analyst at the research firm Wood Mackenzie. “The big question is how long does that transition take. Right now, the market is pricing in a rapid transition.”
Earlier this year, the New York bank JP Morgan Chase, one of the industry’s largest financiers, announced it would no longer finance oil and gas drilling in the Arctic, mines for coal used in power plants or coal-fired power plants themselves. That followed a 2017 decision by USBancorp of Minneapolis to no longer finance oil and gas pipelines — though they were later named as an investor in Energy Transfer Partners’ controversial Dakota Access pipeline project.
The concern among investors is not only will power systems become increasingly reliant on renewables, driving down coal and natural gas demand, but also that vehicle electrification will happen quickly once battery costs come down to the point electric vehicles cost the same as those running on gasoline — which auto manufacturers Tesla and Volkswagen maintain is not far off.
“EVs currently represent less than 1 percent of vehicles in use, so the next 5 years we’re fairly optimistic (on oil demand),” Matthew Portillo, a managing director at the Houston investment bank Tudor, Pickering, Holt & Co., said at an event hosted by Rice University Thursday. “But we have to be aware of the changes on the horizon. The real inflection point for gasoline is the end of this decade.”
Meanwhile, a years-long legal campaign by environmental activists against pipelines and other large oil and gas projects is taking its toll.
Earlier this year Dominion Energy, a Virginia power company, said it was suspending work on its Atlantic Coast Pipeline, despite victory in the U.S. Supreme Court that allowed the project to proceed, because the legal bills had made the pipeline unprofitable. Dominion sold the rest of its natural gas pipelines and storage facilities to Warren Buffett’s Berkshire Hathaway.
Other pipeline companies, however, are showing little sign of shifting their long-term plans.
At Kinder Morgan, they’re still anticipating building Permian Pass once the global economy rebounds, Conover said. Phillips 66 and Plains All American have not ruled out restarting their pipeline project from Oklahoma to the Gulf Coast should market conditions improve.
“There certainly is a large discussion of the climate in the energy sector, but we are not seeing a tangible effect on these projects,” said John Stoody, vice president at the Association of Oil Pipelines. “They are simply shelved until a future date when demand inevitably returns.”
Investors are not as convinced.
Energy share prices have plunged. The stock market value of the world’s top oil and gas companies has fallen by half since 2018, according to the International Energy Agency.
What exactly is driving that discontent is unclear, but some analysts see it as a sign that the stock market is starting to wake up to the existential threat facing the oil and gas sector.
“There’s a growing disconnect between what the oil industry is preparing for and what its customers are doing,” said Logan, of Ceres. “Auto manufacturers are going strongly into EVs. The power companies are making major commitments to clean energy. They can’t all be right at the same time.”