Natural gas production out of the Permian Basin is on pace to double over the next decade, according to an estimate from Wood Mackenzie. That growth represents a massive opportunity for natural gas pipeline giant Kinder Morgan (NYSE:KMI) to build pipelines that will move this production out of the region and into end markets. The company has already captured one opportunity by developing the Gulf Coast Express Pipeline. However, it's now rapidly advancing a second project, the Permian Highway Pipeline, which would enable it to meet the region's growing demand for gas takeaway capacity.
The highway to the world
Kinder Morgan announced that it signed a letter of intent with private equity-backed EagleClaw Midstream Ventures and Apache Corporation (NYSE:APA) to develop the Permian Highway Pipeline Project. The proposed $2 billion, 430-mile pipeline would move 2 billion cubic feet of natural gas per day from the Permian to the Gulf Coast. However, the partners are evaluating the feasibility of building a larger pipeline that could move even more gas. Kinder Morgan and EagleClaw would each initially own a 50% stake in the project, though Apache has the option to acquire a 33% interest from those partners. Apache has committed to supply the pipeline with about a quarter of its initial capacity, while EagleClaw has also agreed to be a significant shipper on the proposed line, which could enter service by the end of 2020.
What's unique about this pipeline is that it will hold capacity on Kinder Morgan's intrastate pipeline systems in Texas, which will enable it to deliver gas to several market hubs, including the ability to export gas to Mexico as well as to global markets via Freeport LNG and Cheniere's (NYSEMKT:LNG) Corpus Christi LNG facilities. That connection to Cheniere's facility is worth noting since the company recently approved the construction of a third natural gas liquefaction train that should start up in late 2021 and increase its capacity to ship gas to global markets.
Because of these interconnections, the project will "provide unrivaled market optionality for Permian producers," according to Kinder Morgan. That access was a key selling point for Apache, which likes the "additional operational flexibility and market optionality" that includes "unparalleled access not only to growing legacy markets along the Gulf Coast, but also to expanding LNG and export markets." Those factors increase its appeal to other shippers, which should make it an easier sell so that Kinder Morgan can lock up enough long-term contracts to move forward with the project.
Quickly clearing up the uncertainty
This joint development agreement is an important next step for Kinder Morgan because it helps increase the clarity on how the company will replace its Trans Mountain Pipeline and the associated expansion project, which it's selling to the Canadian government. At an estimated cost of $5.7 billion, the expansion project represented about half of the company backlog and earnings growth potential. However, after securing the Gulf Coast Express project late last year and now unveiling the Permian Highway Pipeline, Kinder Morgan could potentially offset as much as a third of that lost expansion opportunity, depending on whether Apache exercises its options on both projects.
Meanwhile, the company's Canadian subsidiary will receive about $3.5 billion by selling Trans Mountain, which will give it a large cash war chest that it could use to make midstream acquisitions in Canada. The right deal could move the needle in replacing not just the lost income from the existing pipeline but a significant portion of its growth potential.
The future is looking brighter by the day
Investors have spent much of the past few years worrying about Kinder Morgan's growth prospects due to the uncertain fate of the Trans Mountain Pipeline expansion. However, as the Gulf Coast Express and Permian Highway show, the company can still deliver needle-moving growth. While it still has some work to do so that it can completely offset the impact of Trans Mountain's loss, it's well on its way. As that progress continues, it should lift the weight of uncertainty that has shares trading at a bottom-of-the-barrel valuation.