Changing course in midstream: The next big thing?

July 19, 2017


Oil & Gas is changing: not just the where and the who, but even how the sector operates is radically different from what it was ten years ago.  Reserves in established fields like the North Sea are depleting, and new and nimble operators are entering the industry and looking for niche plays.  At the same time, a ‘lower for longer’ oil price is burdening many of the majors with higher levels of debt at the very moment when they need cash to find and exploit new and more challenging reserves, so it’s no surprise that asset disposal is high on their agenda. Put all these factors together, and there are some very significant opportunities opening up, especially in an area of the sector that’s attracted relatively little attention in the past: the Midstream.

Figure 1

Historically, the major oil companies had to ship and store their oil themselves, which meant building their own infrastructure - hence the asset-heavy nature of the typical oil company balance sheet. But these days, oil companies no longer need to own these facilities to make use of them, especially as the typical returns are much lower than for the oil-producing assets themselves.  

So what’s likely to be coming to market in the Midstream? In essence, pipelines and terminals. The ownership of terminals is very fragmented, and there’s a huge variety of assets in terms of size, type and geographical location. Pipelines, by contrast, tend to be concentrated in the hands of the oil majors, but again, the size and function of these assets varies enormously.  All this adds up to a potentially very active market in the Midstream with lots of good-quality assets generating stable returns. Keen sellers will be looking not just for a good price but a ‘good buyer’ they can work with on an ongoing basis, while potential buyers have a lot to choose from.

There are three broad categories of buyer in play: operational, trading, and financial.  

Operational buyers include companies specialising in the Midstream, who make their money by offering services to the oil majors, and downstream businesses looking for greater vertical integration and a more secure supply. Trading companies are relative newcomers in that they haven’t historically owned assets, just traded the commodity, but many of them are now considering buying and storing oil, as part of a wider arbitrage strategy. They’re happy taking bigger risks than other types of business, and have a relatively low cost of capital. And finally the financial investors divide broadly into Private Equity houses and infrastructure funds. PE houses are looking for assets where their own particular skills can ensure the highest possible exit price: in other words, by cutting costs, streamlining operations, reducing risk, and stabilising cash flows. The infrastructure funds, by contrast, want low-risk assets with steady returns, which is why they’re likely to be particularly active in the secondary market, after a PE house has done its work. And there’s potentially a huge market at this stage – an estimated $24bn was raised by infrastructure funds in the third quarter of 2016 alone, and there’s more than $70bn worldwide looking for a good home.

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Rob Turner |  Partner, Deals Strategy
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