A Pipeline to Profits: PAA

PAA Plains All American Pipeline
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We are seeing elevated oil prices and questions around the OPEC and U.S. producers’ future output. I see real opportunity in the midstream energy space. If you’ll recall, the midstream consists of the pipeline and storage companies in the center of the energy supply chain. 

Midstream organizations connect the upstream producers that pump crude oil and natural gas to the downstream operators in refineries, manufacturing facilities, and retail organizations. Today, let’s talk about why the midstream will be critical in one key production center for American oil… and the company that offers plenty of potential in the oil rich state of Texas. 

Let’s Talk Texas

Right now, there’s a lot of chatter around the need for more oil production in the United States. West Texas Intermediate (WTI) crude oil prices topped $130 in early March. That price could remain elevated well above $100 for months. OPEC members represent nearly 40% of the global output. However the United States is poised to be the largest single producing nation. 

Last year, the U.S. pumped more than 12.1 million barrels of oil per day. This topped Russia – second at 10.8 million barrels per day. Saudi Arabia was third at 9.58 million. All three numbers come from the Energy Information Administration (EIA). But the U.S. has much more capacity. And we’re likely to see a big boost of crude production this year and in 2023 in the Permian Basin. The Permian Basin is a massive swath of oil sands in western Texas and portions of New Mexico. 

Right now, large oil majors like ExxonMobil and Chevron have started to increase production across this region. Exxon will increase its output by about 100,000 barrels per day (bpd) in the Permian alone in 2022. That figure is up from the nearly 460,000 bpd boost that it experienced last year. Chevron, meanwhile, will boost Permain output by another 60,000 barrels daily.

Oil Production Across the United States

The U.S. is expected to reach daily production in all 50 states of 12.6 million barrels next year, a figure that would be a record. The Permian will be the driving force behind that record level of production. 

Not only is there a massive amount of oil in the region, but it is also extremely economical to drill there. The EIA notes that the lower 48 states added 220 oil-directed rigs between January 8 2021 and February 7, 2022. During those 13 months, the Permian added 114 of this total (more than 50%). 

Each new rig in the Permian will add 1,178 barrels of oil each day to the region’s output. The Permian will experience 5.2 million barrels of oil per day in March 2022, and 20.35 billion cubic feet of natural gas per day. With all that oil and gas coming out of the ground, it has to go somewhere. That’s where our Master Limited Partnership enters the conversation.

Money in the Midstream

Considering the sheer volume of crude exiting the Permian each day, producers need to get those fuels out of the region and toward the shipping networks and refineries. Pipeline operators simply take the crude and pump it across the state – either north toward Cushing, Oklahoma (the largest delivery point and hub of oil storage facilities on earth) or east toward the refinery network or shipping ports. That brings me to an opportunity in Plains All American Pipeline (PAA).

PAA operates more than 18,000 miles of pipelines, storage capacity, and marketing for about 75 million barrels of crude. It can also store about 28 million barrels of NGLs and 68 billion cubic feet of natural gas. Now, the opportunity for PAA – which operates the tax-efficient strategy of being a Master Limited Partnership – comes in the expansion of Permian production. 

The company already had a robust presence in the region from the last oil boom that happened in the previous decade. But last year, the company merged some operations with another pipeline company called Oryx Midstream to unite about 5,500 miles of pipeline systems. I stress that this is a VERY large number of pipeline mileage.

Following the PAA Pipeline

The new unit (65% owned by PAA), would synergize regional operations and allow PAA to establish an even bigger foothold in the growing Permian Basin. Access to this lower-cost region in a business friendly and energy friendly state makes PAA a major beneficiary as Texas energy leads the U.S. back to record-level output. 

But keep something in mind: Pipelines aren’t going up in value. What matters is the cash flow that is generated by the pipelines. PAA’s business model focuses on fee-based storage, terminaling, and throughput services. It has a margin-based supply and logistics business, but that’s not what pays the bills. 

Because the company is a MLP, the company gets to pass 90% of its cash flow to investors through a 1099. This enables the partnership to bypass corporate taxes and pay higher-than-average dividends. PAA currently pays 6.4% as a dividend. And as the company pays down debt and increases its tolls, it will increase the distributions to their unitholders. That makes it a compelling cash machine NOW and in the future.

Garrett Baldwin
Garrett Baldwin
Garrett Baldwin joined Godesburg Financial Publishing as Chief U.S. Markets Analyst in early 2021. A Johns Hopkins-trained Economist, he’s worked with hedge funds, venture capital firms, angel investors, and economic advisors to the U.S. government. Baldwin specializes in market anomalies and alternative investments. He’s written extensively on momentum, value, insider buying, and other unique strategies that provide investors that elusive edge.
Garrett Baldwin
Garrett Baldwin
Garrett Baldwin joined Godesburg Financial Publishing as Chief U.S. Markets Analyst in early 2021. A Johns Hopkins-trained Economist, he’s worked with hedge funds, venture capital firms, angel investors, and economic advisors to the U.S. government. Baldwin specializes in market anomalies and alternative investments. He’s written extensively on momentum, value, insider buying, and other unique strategies that provide investors that elusive edge.

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