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Michael McDonald

Michael McDonald

Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance…

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Death By A Thousand Cuts: Can Trump Save U.S. Pipelines?

Pipeline

Energy Transfer Partners shareholders probably understand a little bit of the frustration that Transcanada shareholders felt a few years ago. ETP is in the process of building a new underground oil pipeline called the Dakota Access Pipeline, and like Keystone before it, DAPL is running into fierce opposition. The election of Donald Trump will reduce but not eliminate some of those concerns. The failure of Keystone and the high-profile opposition to DAPL illustrate just how much the world has changed in the last few years, and why existing pipelines may command a significant premium going forward.

The DAPL, if it is eventually finished, is set to connect the Bakken with major markets in Illinois. The pipeline’s roughly 1,200 mile path is proposed to take it through North Dakota, South Dakota, Iowa, and Illinois. The pipeline would transport around half a million barrels of crude daily which, while less than the carrying capacity of Keystone, is still more than enough to set off a flurry of concerns among environmentalists and impacted populations in the area. DAPL passes through several Indian reservations and there are concerns that it would impact the water supply and potentially various sacred tribal sites in the area. The tribes’ concerns mirror those of Bismark, North Dakota residents who had similar concerns previously.

DAPL had previously gained Army Corps of Engineers approval to cross waterways indicating that the group felt the risk of water contamination was minimal. Nonetheless, protests against the pipeline continued unabated. The DAPL path forward became more complicated in September when a judge ruled that construction on the pipeline could continue, but at the same time, three federal organizations--the Justice Department, the Army, and the Department of the Interior—ordered a halt to construction on an area of Army Corps land. Related: OPEC’s Gloomy Long-Term Outlook For Oil Markets

The reality in the pipeline business is that projects like Keystone and DAPL are becoming more and more difficult to complete. Environmentalists have become like wolves after Keystone – success has emboldened them to challenge even more energy projects, and even after Democrats ended up losing the White House, legal challenges to pipelines like DAPL are going to continue. It’s likely that getting new projects passed will continue to be very difficult in many cases. That is especially true if a pipeline crosses a “blue” state where local and state officials have the power to throw up roadblocks to development. Blue state Illinois is very much a concern for DAPL then.

That difficulty underscores the challenges of building a pipeline even where one is desperately needed such as with the DAPL. Bakken crude has been extremely problematic in recent years because of the volatility of the product. This has led to train derailments, explosions, and accidents. The reality is that without the DAPL, Bakken crude will still be produced – it will just be shipped by rail and truck instead of the safer choice of pipeline shipping. Environmentalists aren’t interested in that logical thinking though, and seem intent on destroying the Bakken industry through a form of death by a thousand cuts.

ETP shareholders should not be making the same assumption of eventual pipeline completion that Transcanada shareholders once did. The end result of all of this is that existing pipelines may command a significant price premium in the future. Prices for all assets are dictated by supply and demand. To the extent that the supply of new pipelines is constricted but demand for pipelines is steady or even increasing (due to increased oil production or at a minimum greater oil demand because of population growth), the pipelines themselves should become more valuable. Restricted supply will also help boost pricing that infrastructure operators such as railroads can charge. If the DAPL is not built, crude by rail will remain the de facto method of transport in the region. All of this has clear implications for investors and how they should be positioning themselves for the next few years.

By Michael McDonald of Oilprice.com

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