Low Oil & Gas Prices Ripple Through the Midstream, Plunging Capital Expenditures 15 Percent Over Two Years With No End in Sight

NEW YORK, Aug. 23, 2017 -- North America’s midstream industry has been largely protected from the early shocks of the oil and gas price drops.  Now, as prices stabilize and the energy sector adapts, the broad effects of low prices are finally beginning to ripple through midstream – and there are worrying signs that this segment of the oil and gas industry is beginning to struggle.

New research from Bain & Company, North American Midstream Strategy in a Time of Uncertainty, reveals that capital expenditures for the largest 11 midstream companies fell by about 15 percent from $34 billion in 2014 to $29 billion in 2016, and the trend continues in 2017. In another indicator, the Alerian MLP index, a bellwether for the midstream industry, has underperformed the S&P 500 over one- three- and five-year periods.  However, as with any period of uncertainty, midstream executives can navigate their way through these challenging times by identifying a set of plausible scenarios tailored to their specific basins, markets, and assets against which they can test the robustness of the portfolio and investment projects.

“Thinking through a set of scenarios now can help midstream companies plan further into the future,” said Riccardo Bertocco, a partner in Bain’s Oil & Gas Practice.  “Doing so will allow them to gain a clear understanding of the cost structures they will need to adopt in order to thrive even amid industry turbulence.” 

Bain’s work with the top oil & gas companies in North America, as well as interviews and conversations the firm has conducted with more than a dozen midstream executives reveal the industry’s concerns around three main trends that are disrupting the sector and putting pressure on returns:

• Stranded assets. Evolving basin economics and persistently low oil and gas prices have left some formerly attractive assets in unprofitable positions. 
• Favorable contracts expiring. Contracts signed in the pipeline boom of the late 2000s are up for renewal. 
• Abundance of private equity capital. More money is chasing fewer deals. An influx of PE-managed investment has changed the game, particularly in the gathering and processing (G&P) part of the industry, as these firms take more aggressive contract terms than incumbent midstream companies.

The implication of these trends is two-fold.  First, overall project returns across the industry are being compressed. There are fewer midstream deals available today, being chased by more capital – and that squeezes margins. 

Second, profit pools are shifting.  G&P is becoming less profitable with the influx of private equity and as exploration and production (E&P) activity concentrates in fewer places. At the same time, fractionation – the process of separating a mixed stream of non-gas liquids into ethane, butane, propane and other pure products – is becoming more profitable as demand from the petrochemical industry increases.

“Few signs point to a quick resolution of the market conditions that have driven down oil and gas prices, and we anticipate the long-term effects will continue to hinder midstream opportunities,” said Whit Keuer, a partner in Bain’s Oil & Gas Practice. “However, midstream companies that can strengthen the resilience of their portfolios, take a more strategic approach to investment decisions and cut costs aggressively, will put themselves in the best position for the next cycle.”

According to Bain’s research and deep industry experience, midstream executives can take four proactive steps to cushion against the impact of current market conditions and position their organizations for continued success:

1. Improve portfolio resilience. Most midstream companies have a two-speed portfolio, with promising Tier 1 assets, but also assets in Tier 2 and Tier 3 basins that are high on the cost curve today. By measuring the resilience of their portfolio against projected E&P activity in several scenarios, midstream companies can get a better picture of how to manage these assets. This will help them establish realistic cost reduction targets.
2. Chart a plan for growth beyond the next three years. Most midstream companies have line of sight on growth projects over the next three years but not beyond that. The old approach of evaluating opportunities on a project-by-project basis worked well when there were many projects vying for capital. Now that an excess of capital is chasing fewer projects, companies need to define their strategic ambitions and where to play.
3. Put in place the right operating model for G&P assets. For many years, G&P has sat uneasily in the portfolios of many midstream companies, given its higher risks and faster bidding and development cycle. But the higher rewards have attracted private equity capital, which has exacerbated these dynamics. As a result, midstream companies are adopting several approaches to maximize the value of their G&P assets.
4. Set an ambitious cost agenda. In a slow-growth environment, efficiency is becoming more important. Most companies have undergone one or more rounds of cost reductions, but Bain’s research indicates there’s still room for improvement: Among the largest 11 midstream companies, each of which has a market cap above $10 billion, those in the top quartile spent about 25 percent less on operations and administration, while the laggards in the other quartiles spent anywhere from $50 million to $1 billion more.

Editor's Note: To arrange an interview, contact Dan Pinkney at [email protected] or +1 646 562 8102

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Media Contact: 
Dan Pinkney
Bain & Company
Tel: +1 646 562 8102
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