The Transformation of U.S. Energy Investing

At the first Privcap Presents event on Nov. 24, 2014, CEO David Snow interviewed Robb Turner, senior partner and founder of ArcLight Capital Partners, on how the U.S. energy market has changed for private equity, and the country as a whole, since 2008

Privcap: Things have changed profoundly in the United States with regard to energy. Help us understand how profoundly the revolution in U.S. energy has changed things, both in our economy and around the world.

Robb Turner, ArcLight: If you go back to 2005-2008 the U.S. had 10M barrels a day of oil production. Over 20 years, production declined about 5M, and the only thing stabilizing it at 5M was offshore Gulf [of Mexico production]. We thought we needed to import natural gas; people thought we had 15 years of supply left. Then another American entrepreneurial miracle happened called long horizontal drilling, or multi-stage fracking, and it unleashed base hydrocarbons across the U.S. This has fundamentally changed this country in the past five, six years, probably in ways a lot of Americans don’t know.

Oil production today is 9M barrels, up from 5M. Natural gas is 65 BCF [billion cubic feet] a day, up from the high 50s, but on its way to 80 BCF a day. And it’s changed the geopolitical environment.

If you go back to our average energy price in the U.S. in 2008 and you compared it to the average energy price around the globe, we had a little bit of a benefit, but not much. We had really high natural gas [prices], pretty high power prices, high oil prices. Today, you have $100B in trade deficit savings, $300B a year of cash savings in this because of our energy savings. It’s still really early days, and we’re still not fully appreciating the impact this is all going to have on the country.

Privcap: You made an interesting comparison, the remapping of the U.S. energy industry versus something of similar size getting reworked: the Japanese economy. Can you make that point?

Turner: We were looking at some statistics on the Japanese economy, which is about $4.5T a year, and the energy business that is impacting the U.S. is $3.5T. So the way we framed it was to act as if you were going to take the entire Japanese economy, throw it up in the air, and reconfigure it because of a disruptive technology. What impact would that have? That’s what we’re experiencing right now in the U.S., and it’s dramatic and a lot of fun to be in the middle of.

Privcap: Can you walk us through the important differences between America’s new bounty of oil versus natural gas? How much of the infrastructure do we have to move our extra oil versus how much to get natural gas exported and transported to different parts of America?

Turner: They’re very different commodities. I’ll start with oil because over the last 25 years, as U.S. production went from 10M [barrels], then slid down to 5M [barrels], we reconfigured our oil infrastructure to accommodate a lot of imported oil. And so the oil infrastructure was built around ports, primarily in the area around Houston, but also in the Northeast and some in California. We got about 25 percent, 30 percent of our natural gas before this revolution out of the Gulf of Mexico and parts of Texas, primarily out west. So the natural gas infrastructure was based in that part of the world.

Today, the oil infrastructure is being completely reconfigured because oil is coming from different parts of the country with big refining areas. And the biggest new gas finds in the U.S. are in the Northeast, so that entire infrastructure needs to be built.

Privcap: What parts of the landscape will change for this infrastructure to be built? Is it the Gulf of Mexico around Corpus Christi [Texas]?

Turner: That’s a tough question because the whole country’s changing. Just for the export of natural gas and natural gas liquids, there’s $120B of construction in that corridor from Corpus Christi around Louisiana. There are cranes all over the place.

We’re also seeing about $50B of construction in Texas and Louisiana, and maybe in Pennsylvania, for the chemical industry. And that’s to export the natural gas and some of the petrochemicals, but also the natural gas liquids.

Part of the reason we haven’t started exporting oil cause it’s illegal in the United States and there’s a product right underneath oil in its heaviness, called condensate. We are starting to export a little bit of condensate, but by law you have to refine those products and then export. So right now, the way we export our oil finds is by refining our condensate. My gut feel is that we’ll start exporting oil.

Privcap: When you started ArcLight in 2000, there was another disruptive technology that everyone was talking about: the Internet. What was it like to try to raise a PE fund focused on industrial objects when everyone was excited about something else?

Turner:  That was a time when everybody wanted to do media, telecom, Internet. So my partner, Dan [Revers] and I were in the middle of the energy business and it wasn’t the sexiest place to be. But there was a revolution going on back then, starting with the deregulation of the power business and then it bled over into the E&P business, spinning out what we call our midstream assets.

And our big break in life was that John Hancock, who Dan worked for, believed in the model and they gave us $500M to start to invest in the first [energy] fund. And we had to go out and raise another $500M. That was a really tough thing to do. Most investors didn’t even have a bucket for energy assets. If they had a bucket, they said, “If you touch E&P we’ll shoot you because we hate E&P because we’ve lost all our money on E&P.”

When we went to start raising the fund, Enron went bankrupt, so then the whole industry gets tarnished. But we believed if we could find 30 investors who understood what we were trying to get to that we would make people good money, and fortunately we did.

Privcap: Let’s fast-forward to the present. There is a huge amount of interest in North American energy. That’s your specialty, so talk about the change in attitude among the LPs that you talk to, compared to your original dotcom era fundraise back in the day.

Turner: Today, LPs have buckets for what they call real assets or energy. So that’s a big change. They have buckets for infrastructure. And a lot of the private equity components of LPs also have their own set-aside within private equity for energy because energy’s 30 percent, 35 percent of the economy. Today, energy’s actually an area people are trying to find a way to make allocations to versus the old days when they were trying to find a way to not make an allocation to it.