Kinder Morgan, El Paso may sell $900 million line under pressure

Kinder Morgan (KMI) Inc. may reap more than $900 million if it has to sell natural-gas pipelines in the Rocky Mountains to secure federal approval of its $21 billion acquisition of El Paso Corp. (EP), scheduled to close in the second quarter.

Older gas pipelines, such as Cheyenne Plains, may be put on the block as the companies seek to reduce an estimated 52 percent market share in the Rockies to overcome antitrust concerns, Becca Followill, an analyst with U.S. Capital Advisors in Houston, wrote in a Jan. 6 research note. The Cheyenne line may fetch an estimated $912 million, based on her calculations.

Kinder Morgan and El Paso spent billions to build three major pipelines in the past decade to carry gas produced in the Rockies to major cities on the East and West coasts, according to data compiled by Bloomberg. The new conduits came online just as production began to boom in shale fields in Pennsylvania, making the fuel available closer to East Coast hubs and cutting demand for Rockies gas.

Cheyenne is the most likely candidate for a sale because it has transported less gas since the Ruby and Rockies Express pipelines started, said Edward Kallio, director of gas consulting for Ziff Energy Group in Calgary. Average daily throughput on the line, which runs from Wyoming to Kansas, dropped to 80 percent of its capacity in 2010, from 96 percent in 2008, according to a filing.

“Ruby took away gas that could potentially flow on Cheyenne,” said Kallio. “The one arm makes the other arm redundant.”

Cheap Gas

Spectra Energy Corp. (SE) may bid for some of the lines, Chief Executive Officer Greg Ebel said in an interview yesterday at Bloomberg’s headquarters in New York.

“If they come up for sale, just like any other pipeline, we’d look at it,” Ebel said. “There’s probably some opportunities in the south, definitely some of the Rockies assets.”

Other potential buyers include Williams Cos., Sempra Energy and Boardwalk Pipeline Partners, Followill said in her note. Spokesmen for those companies declined to comment.

Larry Pierce, a spokesman for Kinder Morgan, declined to comment on a potential sale. Kinder also is trying to sell El Paso’s oil and gas exploration and production unit to help finance the takeover.
Price Differential

El Paso opened the Cheyenne pipeline system in December 2004. By 2007, the gas price was $4 higher in the Northeast than in the Rockies, making it profitable for producers to ship the gas to population centers there, according to data compiled by Bloomberg. Kinder Morgan’s Rockies Express, co-owned with Sempra Energy (SRE) and ConocoPhillips (COP) and running from Colorado to eastern Ohio, was completed in 2009. El Paso’s Ruby line from Wyoming to Oregon opened in the summer of 2011.

During the same time, newly-accessible gas fields like the Marcellus Shale of Pennsylvania were being tapped. Using hydraulic fracturing, producers have been able to increase production in Pennsylvania to 3.34 billion cubic feet of gas a day, about 45 percent more than the Rockies Express can carry, reducing the need for pipelines between the Rockies and the Northeast.

The Northeast profit advantage for Rockies gas has shrunk, Followill said. In the second quarter of 2007, gas averaged $3.80 a million cubic feet at the Opal Hub in Wyoming, and $8.20 at the New York hub. Yesterday, gas was $2.60 a million cubic feet at Opal, and $3.98 in New York, according to data compiled by Bloomberg.

Steady Returns

Demand may still be high for any Rockies pipelines, since they earn good returns despite the drop in volume, Followill, of U.S. Capital Advisors, wrote in her research note.

The pipelines could sell for as much as 12 times their earnings before interest, taxes, deduction and amortization, she wrote. That implies a price of about $912 million for Cheyenne Plains, which had $76 million in EBITDA in 2010.

The average price for North American pipeline sales over the last two years was about nine times EBITDA, according to data compiled by Bloomberg.

Buyers for the Rockies pipelines may include integrated energy companies that can afford to take a long-term view, said Darren Horowitz, an analyst at Raymond James & Associates in Houston.

Without the appeal of gas discounts to attract shippers for the line, “It’s going to take the right strategic buyer for this asset that can bolt it in and extract synergies,” he said. Throughput on the Cheyenne Plains line may increase as more power plants are built that use gas for fuel, said Horowitz, who rates Kinder Morgan an “outperform” and owns none of its shares.

Working With Regulators

Since its $21 billion cash and stock purchase of El Paso was announced Oct. 16, Kinder Morgan has said it may need to sell assets to secure regulatory approval. The transaction will create the largest U.S. gas network, the companies said. The combined company would have 67,000 miles (107,826 kilometers) of interstate natural gas pipelines and would carry one-fourth of the U.S. gas supply.

“The one area where we do have some overlap is in the Rockies, where we have a number of pipelines, they have a number of pipelines and we’ll just have to work with the regulators to see what we need to do in that respect,” Chief Executive Officer Richard Kinder said in an Oct. 17 employee meeting, according to a transcript.

The Federal Trade Commission issued a so-called “second notice” to Kinder Morgan and El Paso for more information and documentation about the merger on Dec. 5, according to Kinder Morgan’s Dec. 14 proxy statement.

‘Crown Jewels’

Kinder Morgan and El Paso may have to reduce their market share in the Rockies to 40 percent to gain regulatory approval, Followill wrote in a note to clients.

The companies may need to sell other pipelines, such as Ruby and Kinder Morgan’s TransColorado Gas, to meet that threshold, wrote Followill, who rates El Paso a “hold” and owns none of its stock.

Kinder is more interested in El Paso’s “three crown jewels,” said Bradley Olsen, an analyst at Tudor Pickering & Holt in Houston. El Paso’s Southern and Tennessee systems connect Texas to markets in the U.S. Southeast and Northeast, and it owns a 50 percent share of the Florida Gas Transmission system.