Energy Transfer needs to get into the chemicals business

The future is export

As stated in my prior article, I am bullish on Energy Transfer (ET). As part of expanding its export business, I believe moving into the chemicals business is key. I hesitate to say petrochemicals business since the feedstock will largely be natural gas based. I also know that at this moment there are readers, those who want to see a laser focus on paying down debt, that are screaming “no”. They are the contingent of ET shareholders that don’t want to see ET make any significant expansion and investment. I think they are wrong. I believe an expansion of the export business can drive growth to ET’s bottom line. ET is already onboard. As Tom Long said on the last conference call, “We believe that our cracker will be a very unique, world-class facility, providing unparalleled access to the lowest-cost feedstock through our pipeline systems”

We have seen with the war in Ukraine and the resultant energy shortage around the world, especially in Europe, that the export of American energy is vital for our friends’ survival. The sanctions on Russia have not only cut off Russian heating fuel and oil, but cut the feedstocks used in the petrochemical industry. Russia had big intentions of getting into the petrochemical business as well, with huge crackers planned to export plastics and chemicals. Hopefully the sanctions will be effective in derailing those plans.

The petrochemical industry has been migrating toward natural gas over the last decade. Given the rising and volatile price of petroleum, the petrochemical industry has been adopting alternate feedstock. Traditionally, the price of feedstock oil was the cost driver in the petrochemicals industry. Feedstock accounts for 60-70% of the cost to manufacture petrochemicals. Cheap, or relatively cheaper, natural gas has been one of the winners in this movement. As Mr. Long pointed out above, ET has a competitive advantage in this space due to the lowest-cost feedstock.

This cheap gas is now coming from the shale gas areas across America. The wet gas areas of the Marcellus, Utica and Eagle Ford shale gas are especially rich in NGL (natural gas liquids). NGL is comprised of ethane, propane, butane, isobutane, and natural gasoline. The Orbit deal with Satellite that ET entered in 2018 exports ethane for use in ethane crackers in China’s Jiangsu Province. I believe a significant amount of the ethane being exported from Marcus Hook goes to ethane crackers in Norway and Scotland. As gas supplies from the North Sea fields have slowed, American shale gas has become more important to our European allies. With Russian gas cutoff, it’s becoming even more important.

Ethane is primarily used in the manufacture of plastics. Ethane is delivered to a cracker, which heats it to produce ethylene. Crackers use heat and pressure to turn naphtha from oil, or ethane from natural gas, into ethylene. From the cracker the ethylene is then sent by pipeline to be turned into polyethylene. Ethylene, still a gas, is pressurized with a catalyst to create polyethylene, a resin. The polyethylene resin pellets are then sent to manufacturing facilities to create end products.

Propane is also a component of the wet shale gas. Propane dehydrogeneration (PDH) units are used to create propylene. It is the second most significant source for the petrochemicals industry behind ethylene. Most of the propylene is used to make polypropylene which is used across the plastic manufacturing industry. It accounts for 25% of the plastics in use today.

ET has been active in the export space at its Nederland and Marcus Hook terminals. Those facilities focus on NGL export. Today, ET is a major exporter of NGL accounting for roughly 20% of the world market. They export more than any other company or country. ET’s focus should be on continuing to expand its export markets. That ability to expand though, is capped by the capacity at their docks. At Nederland, propane and butane can be loaded at 30,000 BPH. Ethane can be loaded even faster. It takes then about a day to load a VLEC (very large ethane carrier) holding about 900K barrels. There’s a practical limit to what ET can export. There’s also a limit to VLEC ships and other transporters. If ET is to expand its export capacity, it needs to change what it’s exporting.

ET has been steadily evolving up the food-chain. It moved from transporting natural gas, to adding storage, adding fractionation, adding export, and recently adding more salt cavern storage space for NGLs. It’s a natural progression to expect ET to continue to move up the food chain. Rather than exporting raw materials, they need to export more refined products. Take the ethane and propane from their fractionators, store it in the caverns, transport it to their chem plant, use natural gas to fuel a steam cogeneration facility, use the steam to crack ethane/propane into ethylene/propylene, turn that into polyethylene and polypropylene and export that. Or given our recent experiences with supply-chain issues, meet American demand and export the excess.

This opportunity to increase demand on their facilities, and therefore profit, has not been lost on ET’s competition. Enterprise Products (EPD) is interested in building an ethylene cracker on the Gulf Coast. The information I saw indicated that it would have a capacity of 2m metric tons of ethylene per year and cost about $5B. EPD already owns a dehydrogenation facility that can produce .75m metric tons of propylene per year. Shell announced last week that they had completed construction on their ethane cracker in western Pennsylvania. It cost $6B and took about 5 years to build. It will input ethane and output polyethylene pellets.

This is all in addition to the ongoing Lake Charles work. The proposed LNG facility will take natural gas, compress it, and then be able to ship it overseas. It’ll be decompressed and transported for use on overseas pipelines as natural gas. By my accounting, ET seems to be about 60% of the way to getting the commitments that would push them to FID (final investment decision) on the project. I'm assuming that an 80% utilization rate is acceptable to reach FID. It looks to be a huge win for ET. They get to take a retired asset and repurpose it for a new market.

Investment thesis

All of this bodes well for ET’s future. If they were to sit still and do nothing but pay down debt, they would be slowly shrinking the business. For example, the town I live in now prevents natural gas heating and appliances from being installed in new construction. There are forces at work that want to undermine the use of natural gas. ET is wise to be seeking new opportunities for its assets in new markets.

I also appreciate the steady approach ET’s current management seems to be taking toward new investments. The use of partners to spread and reduce the risk and to help fund the efforts seems to have become the modus operandi for new projects.

In looking at partners, it would be great to see ET extend its partnership with Shell. Shell was originally involved with Lake Charles but pulled out in 2020. With their most recent LNG purchase agreement, they look to be getting involved once again with the project. Seeing a partnership that included Lake Charles, Shell's new ethane cracker, and Marcus Hook would be great for ET and Shell. One can only dream. 

I do have confidence in management that they will make sure that every growth project is financially certain before investing in it. This growth has the potential to keep ET as a healthy investment for many years to come.