May 2016, Vol. 243, No. 5

Features

Industry Veteran Stan Horton Steers Boardwalk Forward

Stan Horton has seen it all during his 40 years in the natural gas industry: the historic unbundling of the pipelines; shortages and perceived shortages of the commodity; the downfall of once-mighty Enron Corp.; the shale revolution; and the periodic, nerve-wracking up-and-down cycles where natural gas seemed to be either too expensive to buy or too cheap to produce.

Nothing shocks this native Floridian and CEO, president and director of Boardwalk Pipeline Partners LP, an increasingly active midstream company that has a $1.6 billion program of construction projects underway. Yes, even though the oil and natural gas industry is in the doldrums, there is still a lot of pipeline activity out there. You can take that from Stan.

In a wide-ranging interview in his 28^th floor office in Houston’s Greenway Plaza business district, Horton and Jamie Buskill, senior vice president, chief financial and administrative officer, discussed their large portfolio of projects and the strategy that has marked the company’s steady growth to become a major carrier in the states where it serves.

It quickly becomes evident that Boardwalk, its 14,500 miles of transmission pipeline and assorted other assets are in steady hands. Buskill, in particular, offers an insightful primer into the critical decision made in 2014 to revise the MLP’s financial strategy, a move not especially welcomed by the investment community, but which ultimately helped pave the way for the company’s future success.

Boardwalk Pipeline Partners began in May 2003 when Loews Corp. bought Texas Gas Transmission, headquartered in Owensboro, KY.  Buskill, who still lives in Owensboro, was named CFO of Texas Gas at that time. The following year, Loews acquired Gulf South Pipeline Company, headquartered in Houston. In 2005, the company was renamed Boardwalk Pipeline Partners, LP and went public in November 2005. Horton joined the company in May 2011, becoming the chief architect of Boardwalk’s continued growth.

Through a stroke of good fortune – the father of a friend already working there knew of an opening – Horton began his career as an economist with Florida Gas Transmission on Dec. 26, 1973. As he recalls, “they needed someone to come in during the last week of the year to answer the phones because so many people would be on vacation.” He worked with others destined to become heavyweights in the industry: Rich Kinder, Bill Morgan, Ken Lay and Bill Allison. They all worked under the tutelage of the late Jack Bowen, their CEO who would later become CEO of Transco. Horton wound up in Houston following a series of mergers and acquisitions that ultimately led to the creation of Enron Corp. where Horton led the successful Gas Pipeline Group.

Buskill’s career in energy began in 1986 shortly after he graduated from college and was working in a bank. Texas Gas Transmission came calling because it needed accountants to help guide it through the financial challenges created by the unbundling of the pipelines in which they were increasingly becoming transporters rather than just providing a merchant role. He also had the good fortune to work with a number of well-known gas executives such as Robert Best, Kim Cocklin and Gary Lauderdale.

P&GJ: Stan, what are the biggest challenges and opportunities for the midstream sector?

Horton: Short term, growth is slowing down somewhat, albeit Boardwalk currently has a $1.6 billion backlog of projects, because drilling is slowing down. Longer term, I see the glass as half full and not half empty. This is the first time in my 40-year history in the industry that we can really point to a resource base, for both oil and natural gas, which is going to allow this country to be energy independent over the long-term.

The current price dislocation is due to significant technology advances which unleashed the ability to produce reserves that were always there but could not be accessed. Combine that with the availability of rather inexpensive capital and relatively high commodity prices and you had a tremendous supply response that exceeded demand growth. The markets need to balance themselves and they eventually will over the next two to three years.

I am bullish longer term because only until recently has the U.S. had the ability to become energy independent. And now we are in a position to export natural gas and crude.

Most people are looking at 2017 or 2018 for the market to come into balance with the decrease in drilling, and when it happens you will likely see $50 or $60 oil prices. That seems to be the level that producers need in order to spur additional drilling. I don’t see returning to the kind of growth that we saw in the 2008 through 2014 period, but with our resource base and with demand continuing to pick up, you are going to see continued growth in this industry.

P&GJ: Do you consider this a fairly typical “down” cycle?

Horton: Although historically these cycles have been caused by different things, yes, I think this is a commodity price correction driven by supply outstripping demand. Demand will gradually increase and the market will come back into balance, but markets do not stay in balance for long. During my career I have seen natural gas prices spike to $13, and I have seen them drop to the level that they are at now. In the ’80s we had the gas supply bubbles, so there has always been some type of supply/demand imbalance.

P&GJ: Are we witnessing a historic restructuring of the industry?

Horton: I see it as a historic restructuring.  I think some companies will disappear over the next several months. Some E&P companies are overleveraged. So you are likely to see consolidation continue to occur. We are seeing it happen already. I do not see this as a huge watershed event other than the fact that we now have the resource base that we did not before. I lived through the Jimmy Carter era when people had to bundle up in sweaters because we had large supply deficiencies and were captive to foreign markets.

P&GJ: As a midstream operator, where are the biggest challenges and opportunities?

Horton: The driving force has always been at each end of the pipe. You have to have the demand growth that spurs development of the resource base. You have to have a resource base that is adequate to meet demand. The midstream sector has been more reactive than a driving force. I think the midstream segment has reacted very well to increases in supply and demand.

At Boardwalk we are laser focused, making sure that the $1.6 billion of expansions on the drawing board come in on time and on budget. That is critical for us. Jamie is laser focused on making sure that we are strengthening our balance sheet and that we have the liquidity necessary to fund these projects. As Jamie said (on an earlier earnings call), we do not plan in the current environment to issue equity in 2016. We need to ensure that we have the liquidity needed to continue funding these projects. We are also spending a lot of time monitoring the financial health of customers to make sure that there are no surprises.

We have not seen growth stop, but we have seen it slow down. When I talk to our commercial team, led by John Haynes, senior vice president, and chief commercial officer, they are still looking at additional growth projects. I like the deal flow, though I cannot promise we are going to have another $1.6 billion worth of projects to announce in the near future.

P&GJ: This is a good time to expand infrastructure?

Horton: It is always a good time when you have long-term, creditworthy counter parties backing your expansions. We do not do things speculatively. If you look at our projects, they are a mixture of supply and demand driven, with the demand side being by far the largest, which is good. You always like to see demand increasing.

P&GJ: Are you seeing a new customer base emerge?

Horton: We have picked up a substantial amount of loads for LNG. For example, with our growth projects, we have new firm loads totaling 1.7 Bcf/d that will serve both Cheniere’s Sabine Pass plant and the Freeport LNG plant. We are also seeing nice growth in power generation as a result of the economics between gas and coal and new environmental regulations. In addition, U.S. industrial markets led by petrochemical have become more competitive. That kind of growth will help balance supply and demand.

P&GJ: Will there be enough demand to soak up the gas surplus?

Horton: There is about 10 Bcf/d of LNG plant capacity under construction. I think the big question people have is what the load factor of these LNG plants will be. You have to look at global supply and demand. It’s not going to be just about North America anymore.

It is going to help if these LNG plants operate at high load factors. I remind people that these plants are going to be there for the next 40 years, so let’s not get too caught up in what is going to happen in 2017 and 2018 when some of these LNG plants come online. With 10 Bcf/d under construction and a few more plants trying to get regulatory approvals, that is a tremendous amount of gas demand.

Before coming here I did some consulting in Europe and learned that the European utilities like the security of LNG supply from North America. They do not want to be dependent upon just pipeline supplies from Russia or LNG from North Africa. They want a diversified portfolio and they really like the supply security of North American LNG.

P&GJ: Does Boardwalk operate on long-term contracts with both supply and demand customers?

Buskill: Our firm transportation agreements represent approximately 90% of our revenues with the majority of that revenue coming from the fixed fee, or demand charge, component. Approximately half of our revenue comes from producers and the other half comes more from end-use customers. Our average weighted firm transportation contract life is approximately five years.

When you look at the $1.6 billion of expansions we are currently working on, the weighted average contract life for the agreements anchoring those projects is approximately 18 years, and the majority of the revenue tied to these projects is with investment-grade customers.

P&GJ: Let’s hear about your capital projects:

Horton: We have growth projects on several of our assets.

We have projects on Texas Gas to make the pipeline bidirectional, as well as a couple of lateral projects to serve end users. Under construction, we have our Ohio to Louisiana Access project that goes into service in the second quarter of 2016, providing 625,000 Dth/d of capacity to move gas north to south (or to make Texas Gas bidirectional). We have two other projects under construction that will connect new loads on Texas Gas. One is our Southern Indiana Market expansion that will serve an industrial load, and the other is our Western Kentucky Lateral that will serve an electric power load.

In addition to the Ohio to Louisiana Access project, we have the Northern Access Supply project which is the second phase of our ability to move gas bidirectionally on Texas Gas. In total, we have the physical ability to move 1.3 Bcf/d north to south on Texas Gas and that 1.3 Bcf/d will be broken down into three projects: Ohio to Louisiana Access is the first; Northern Supply Access is the second and recently received FERC approval; and then we still have additional north and south capacity that we can sell. Much of that capacity that will be moving from north to south is destined for LNG plants and to serve electric demand growth.

On Gulf South we have the $720 million Coastal Bend Header project designed to move 1.4 Bcf/d into the Freeport LNG plant. We will construct a 65-mile header system interconnecting with major pipelines in Texas, both intrastate and interstate. We will also uprate a portion of Gulf South that will allow for bidirectional flow. Also on Gulf South, we have a project to serve an electric power plant in South Texas.

At Boardwalk Louisiana Midstream (BLM) we have an approximately $150 million project to build facilities to provide transportation and storage services for Sasol’s new ethane cracker. We will be providing Sasol with transportation and storage of ethane and ethylene. We also have about $45 million worth of brine (used in the petrochemical process) supply projects at BLM.

In short, our $1.6 billion capital program covers projects to serve all three of the demand growth drivers: electric power, industrial and LNG exports.

P&GJ: Western Kentucky Lateral and Southern Indiana Market Lateral seem indicative of a growing focus on smaller scale work directly tied to heavy users.

Horton: There will be a lot of laterals constructed, new compression and looping of lines, to increase pipeline capacity in certain places. Western Kentucky and Southern Indiana laterals are nice projects without costing huge amounts of capital. Those new loads amount to about 300 MMcf/d.

Buskill: We are fortunate in that if you look at electric power demand, there are many power plants located along the Ohio River/Mississippi River corridor very close to our assets. Many of the gas fired plants that were originally designed as peaking plants have been acquired by traditional power plant operators and are starting to be base loaded into their fleets.

In addition, many of these same operators are looking at replacing older coal fired plants and some of those will be replaced with natural gas facilities. As result, our revenues generated by serving these natural gas-fired electric power plants continue to grow.

P&GJ: Midstream companies in recent years seem to constantly evolve strategically. Yet, you’ve stayed the course as far as pipelines and storage being your main businesses.

Horton: When I came here we laid out the strategy for Boardwalk going forward. Diversification was something we identified, but we did not want to change the overall risk profile of the company.

We bought Boardwalk Louisiana Midstream (BLM) which transports and stores natural gas liquids, olefins and brine. Our two BLM hubs are in the Lake Charles and Baton Rouge areas. We bought the Evangeline ethylene pipeline, which connects the hubs and runs into East Texas, from Chevron. BLM has fee-based contracts and its business is consistent with our existing assets. We also converted a portion of Gulf South into a gathering system, added gathering lines and built a gas-processing plant.

While we are predominantly an interstate natural gas pipeline and storage company, we like the growth profile of our diversified assets that include about $1.2 billion worth of liquids, gathering and processing assets. For Boardwalk, that is not insignificant.

P&GJ: In February 2014, you and Jamie engineered quite a financial strategy, especially for an MLP, that shocked investors and Wall Street. Now others are following your lead. What was your thinking?

Buskill: When we announced the distribution reduction at that time, we provided guidance that our 2014 distributable cash flow was forecasted to be approximately $400 million for the year, which would be approximately 25% lower than the previous year. If you look at the annual distribution we were paying at the time, $2.13, the distribution could not be maintained with the forecasted distributable cash flow.

The only way we could have sustained the $2.13 distribution was by either borrowing money or issuing equity to cover the shortfall. We looked at the long term and determined that was not the right course of action for us. As we began looking at the distribution and our balance sheet it became evident that we were going to have to reduce the distribution.

We needed to reduce our leverage which we thought was too high. We concluded that the right course was to cut the distribution to $0.40 annually from the $2.13. The $0.40 annual distribution was dramatically lower than what the cash flows supported if we were paying out 100% of distributable cash flows as a distribution. In order to improve our leverage ratios, we decided to take our excess cash and either pay down debt, or our preference was to grow the assets and in turn grow earnings through financing projects with cash flow.

Soon after we reduced our distribution we started seeing the $1.6 billion in projects come onboard. It was the right course of action and has served us well. Today, other companies are reaching that same conclusion or are debating the approach.

If you look at the end of 2014, we ended the year with a debt to EBITDA ratio of approximately 5.4 times based on a trailing 12-months’ earnings. With the ratio that high, it made it difficult to borrow money to finance our growth projects. There was little room since the rating agencies have told us that 5.5 times is really the maximum they want to see in that ratio. When we ended 2015, that ratio was down to 4.8 times, which gives us a lot more headroom.

We were getting concerned about the capital markets in early 2015 as we saw some cracks in the capital markets. The first thing we did was to prefund some debt that was coming due later in the year and issue debt ahead of the maturities in order to eliminate any refinancing risk. In early 2015 we also renegotiated our $1.0 billion credit facility that was not scheduled to mature until 2017. We increased the facility to $1.5 billion, negotiated better terms, and moved the maturity date to 2020.

At the end of 2015 we had $375 million borrowed on our credit facility, so we have most of the credit facility capacity available. And, because our debt metrics improved, we have the flexibility to use that credit facility. We also put in place a $300 million subordinated loan arrangement with our parent, a subsidiary of Loews, which we have yet to draw down, and have until the end of 2016 to borrow under the arrangement.

The combination of our credit facility and the subordinated loan arrangement provides additional liquidity to help fund our growth projects. This is why we said on our yearend earnings call that, based on our current forecast and the current slate of projects, we feel comfortable we can finance our 2016 capital expenditures without the need to issue equity.

P&GJ: What’s been the response from Wall Street?

Buskill: At first the market did not like the reduction in the distribution and the unit price went down, which we anticipated might happen. I believe we were probably one of the first MLPs to lower the cash distribution in order to use the excess cash to fund growth projects. We are probably a lot smarter today in some people’s eyes than we were when we cut the distribution simply because of the changing environment.

Horton: If you pay out all of your distributable cash flow as a cash distribution, you are captive to the debt and equity markets to fund your growth. If the debt and equity markets are not available to you due to rising interest rates, leverage issues or the depressed equity prices we are seeing now, you really have no choice other than to start using internally generated funds or some kind of structure, like the preferred stock deals that have been announced recently.

Jamie is right: People are looking at their financial strategy and how the dividends play into that. We have looked at each phase of our financing structure and determined the best way for us based in the current environment.  I think that is what others are doing now.

P&GJ: One issue that’s affecting transporters during the downturn is the difficulty producers are facing in following their contracts.

Horton: We have a producer services group that is in constant contact with our producer customers. We know where they stand. We constantly monitor the credit of our customers, but it certainly is a tough time for some of them, which we understand.

P&GJ: What’s your view on climate change?

Horton: You are starting to see the effect on the industry. Natural gas has benefited and will continue to do so because of the concern about climate change. That has been at the heart of some of the regulatory changes from the Environmental Protection Agency. People are concerned about emissions and natural gas can help provide the solution.

We’re also seeing the growth of clean fuels. I am of the belief that technology is constantly changing and that will eventually improve the competitiveness for solar and wind. I have always thought that any good energy policy for the United States needs to be a portfolio approach. It is not smart to put all your eggs in one basket. Increased use of natural gas and of clean power is going to help with global warming. It is an issue not just for the United States. The world has to figure it out.

I would like to see the market decide (fuel usage) instead of government fiat. Technology breakthroughs will solve this over time, not the political rhetoric from both sides.