The Fight For The Atlantic Coast & Mountain Valley Pipelines
Two proposed long-haul natural gas transportation projects—the Atlantic Coast Pipeline (ACP) and the Mountain Valley Pipeline (MVP)—are now in peril. That’s the result of a decision by the U.S. Court of Appeals for the Fourth Circuit in Richmond, Virginia in late February.
The court didn’t just reject U.S. Forest Service permits for the ACP to cross the Appalachian Trail. They ruled the Forest Service lacks the authority to permit any pipeline crossing the A.T., without an act of Congress. If that stands, it invites a fresh challenge to the MVP project, which is also attempting to transport gas from Appalachia to the Southeast US.
The ACP’s lead developer and 48 percent owner Dominion Energy (D) will file an appeal with the US Supreme Court “in the next 90 days.” If that fails, management will have to decide whether to seek an unlikely exemption from Congress, substantially re-route the pipeline or cancel the project entirely.
Prior to its defeat at the Fourth Circuit, Dominion had announced a plan to separately construct the “Supply Header” portion of the ACP, a pipeline system stretching from central to southeastern Virginia and then to southeastern North Carolina. That portion now has a projected commercial in-service date of end-year 2020 at a cost of $650 to $700 million and could conceivably be filled with gas from other sources.
The rest of ACP is now projected to enter service in “early 2021.” That’s a timetable management believes will allow for a court or legislative remedy, though probably not substantive re-routing. The total project cost including Supply Header is now $7.25 to $7.75 billion, up from an estimate of $6 to $6.5 billion in early November.
MVP’s proposed route is considerably shorter, bringing gas from the Marcellus Shale of West Virginia into southern and western Virginia. According to lead developer EQM Midstream (EQM), the project is 70 percent complete, but work has been suspended, boosting expected cost to $4.6 billion. The company has filed an amicus brief at the Fourth Circuit in support of the ACP partners.
That leaves two big questions for investors. First, is it still likely these pipelines will eventually enter service? Second, how exposed are the owners to further cost overruns, and to the worst case that these projects are abandoned and written off?
There’s no disputing that natural gas produced in the Marcellus and Utica shales of Appalachia is among the lowest cost in the world. Nor is there any question these pipelines if built will be kept full, supplying a fast-growing heating market and power utilities’ ongoing switch to gas from coal.
ACP is also advantaged by the fact that major partners Dominion and 47 percent owner Duke Energy (DUK) would be its major customers, with regulators in full support. Southern Company (SO) at 5 percent ownership will also benefit from additional gas flowing south.
MVP partners Consolidated Edison (ED) at 12.5 percent and NextEra Energy (NEE) at 31 percent are purely investors and not customers. But Altagas Ltd (ALA, ATGFF) at 10 percent and RGC Resources (RGCO) at 1 percent will benefit from increased gas flow. And 45.5 percent owner and lead developer EQM Midstream’s (EQM) entire midstream business would get a lift, as would its primary customer and former parent EQT Resources (EQT).
That’s a lot of incentive to keep going in the face of current adversity. And the partners are mostly large utilities and therefore deep pocketed enough to fund the overruns so far, especially given support of regulators and major customers. The challenge rather is finding a path forward with so many opponents attempting to litigate these projects to death.
The great irony of the Trump era so far as the energy industry is concerned is how much more difficult it’s become to build anything than it was during the Obama Administration. The troubles started with the loss of a quorum on the five-member Federal Energy Regulatory Commission in early 2017. That was the result of the then Republican-controlled Congress blocking Obama appointees, followed by the new administration’s inability to find its own nominees.
The president has also proven to be the ultimate fundraiser for pipeline opponents. And the result is groups like the Sierra Club now have the resources to issue challenges to projects in multiple arenas simultaneously.
I continue to think the developers of ACP and MVP will find a way forward, even if they fail at the Supreme Court. But investors can no longer be entirely sanguine about the possibility that one or both of these projects could be abandoned.
For ACP developers, financial exposure appears limited. Even at the upper end of project cost, Southern Company’s share is only $388 million, or 1.3 percent of shareholders’ equity. And actual exposure is a great deal lower, since most projected ACP costs have yet to be spent. That’s why delays have had such a big impact on estimates.
Building the Supply Header portion first should further limit the partners’ financial risk. Using the same math as with Southern, Dominion and Duke’s roughly $3.64 billion share of current estimates for a completed ACP is a manageable 13 percent and 8.3 percent of their shareholders’ equity, respectively. But with actual spending to date far less, the biggest risk from cancelling ACP is opportunity cost, which is largely incorporated already in their most recent guidance.
I would still expect declines in both stocks near-term if ACP is shelved. But the companies have multiple drivers to meet management’s long-term earnings and dividend growth targets. Dominion and Duke remain as buys up to $80 and $77 respectively.
MVP partners are a different story. There’s no problem for NextEra Energy, which assuming 70 percent of the estimated $4.6 billion cost is spent would be on the hook for less than $1 billion, or around 2 percent of its shareholders equity.
It would appear the same for RGC, which owns just 1 percent of the project, but that’s deceiving. Mainly, the company has been booking its MVC costs as equity earnings, and now has “Investment in Unconsolidated Affiliates” that’s roughly equal to 40 percent of shareholders’ equity and potentially at risk to write-off. That risk is not reflected in the lofty valuation of 27.6 times trailing 12 months earnings. Conservative investors should sell RGC.
Altagas inherited its MVP stake by merging with the former WGL Holdings. A worst-case write-off of 70 percent of its share of current project estimates is $322 million or 7 percent of shareholders equity. That’s enough to delay but not derail recovery, and risk is priced in below our buy target of USD12.
EQM on the other hand is massively leveraged to MVP’s success or failure. If the project sticks to the target late 2019 startup date, shares should have no problem reclaiming a trading range in the upper 50s or low 60s. Conversely, failure raises risk of a big write down, possible distribution cut and a drop in the shares to at least the low 30s.
I still believe odds favor success. But given the high stakes, EQM is a suitable holding for aggressive investors only until there’s greater clarity on MVP.