Costs are rising for natural gas pipeline developers

Energy companies are rushing to build natural-gas pipelines to carry swelling supplies from onshore fields but, as the backlog of projects grows, costs are following suit.
Developers including Kinder Morgan Energy Partners, Spectra Energy and CenterPoint Energy have faced escalating costs as they develop new pipelines to transport gas from the Rockies and from so-called shale plays, where gas is extracted from deep within formations of dense rock. Shale-gas production has grown exponentially in recent years as improved technology makes it easier to extract gas from these areas, creating a need for more pipelines to transport the output to market.

Several major pipeline projects developed over the past two years, including the Rockies Express Pipeline, the Southeast Supply Header and the Midcontinent Express Pipeline, have been beset by cost overruns. Managing the increased costs of labour, equipment, materials and permitting has proved difficult for many developers, weakening the companies' balance sheets at a time when falling energy prices are putting a dent in their earnings. And as developers continue to build shale-gas pipelines, the financial risks are likely to persist.
"When cost overruns become significant, the rates of return on these projects shift quickly from attractive to mediocre," said Jason Stevens, an analyst with Morningstar in Chicago.

Pipeline projects that go significantly over budget tend to have weaker credit quality than other pipelines do. Moody's Investors Service in August gave a Baa3 credit rating -- barely investment grade -- to Southeast Supply Header, a joint venture between Spectra Energy and CenterPoint Energy that built a 274-mile pipeline stretching from east Texas to Southeast markets. Cost overruns of about 50 %, from the original $ 842 mm to $ 1.2 bn, left the project saddled with debt.
Spectra, which managed construction of the project, had delays in securing certain permits, said C. Greg Harper, senior vice president and group president, pipelines and field services, for Houston-based CenterPoint. A large number of pipelines being developed at the same time can overwhelm regulators, leading to increased wait times for permits.
"The number-one rule is to have all your ducks in a row in terms of having the permits in hand," Mr Harper said.

Spectra did encounter some permitting problems for the Southeast Supply Header, but weather delays and the scarcity of experienced contract workers contributed to the bulk of the cost overruns, said Joseph Ramsey, group vice president, project execution for Spectra. Pipeline developers are also facing rising costs for labour, equipment and materials as companies compete for the same resources.
The cost of building the 1,679-mile Rockies Express Pipeline from Colorado to eastern Ohio, developed by Kinder Morgan Energy Partners, Sempra Energy and ConocoPhillips, climbed to $ 6 bn from earlier estimates of $ 4.4 bn as a result of rising labour and permitting costs.

Similar cost overruns beset the 500-mile Midcontinent Express from Oklahoma to Alabama developed by Kinder Morgan and Energy Transfer Partners. Costs for that project rose from an initial $ 1.25 bn to $ 1.8 bn.
Labour and materials costs have eased somewhat within the past year as a result of the economic downturn, and developers can minimize financial risks by forming partnerships with other pipeline companies.