Over the past year, we’ve covered a number of major acquisitions and joint ventures involving larger energy companies and independent oil and gas producers with footholds in North American shale plays.

For example, in last week’s issue of The Energy Letter, Wheeling and Dealing in the Utica Shale, we revisited Statoil’s (Oslo: STL, NYSE: STO) USD4.4 billion acquisition of Bakken Shale operator Brigham Exploration (NSDQ: BEXP) and BHP Billiton’s (ASX: BHP, NYSE: BHP) USD12.1 acquisition of Petrohawk Energy Corp, a leading player in the gas-rich Haynesville Shale and an early mover in the liquids-rich Eagle Ford Shale.

We continue to expect ongoing consolidation in these established plays, as well as in emerging oil-laden fields such as the Ohio portion of the Utica Shale. Although much exploration and development work remains to be done in this formation, Chesapeake Energy Corp (NYSE: CHK) has already inked a letter of intent to form a joint venture with an international oil company in a deal that values the involved land at about $15,000 per acre. Based on comments from other leaseholders in the area, additional deals should be forthcoming.

Meanwhile, John Bannerman, CEO of the US exploration and production (E&P) arm of French energy giant Total (Paris: FP, NYSE: TOT), at the recent World Shale Gas Conference and Exhibition said that the company was “on the lookout” for additional shale deals, particularly in oil- and liquids-rich plays. At present, the company’s only direct exposure to North American shale fields is an interest in 266,000 net acres in the Barnett Shale, a gas play in the Fort Worth, Texas, area that’s been in production for more than a decade.

The shale oil and gas revolution under way in the US has also sparked a wave of consolidation in the midstream segment, as pipeline operators jockey to expand capacity in underserved areas such as the Bakken Shale, the Eagle Ford Shale and the Marcellus Shale. Much of these efforts involve massive investments in organic growth projects, but deal flow has also picked up substantially in 2011.

One popular strategy among E&P firms seeking to monetize their midstream infrastructure and place them in a more tax-efficient structure is to spin off these assets into a master limited partnership (MLP). MLPs are pass-through entities that don’t pay taxes at the corporate level; instead, quarterly distributions are passed directly to unitholders (investors), who pay individual tax on their distributions. (My colleagues Elliott Gue and Roger Conrad discuss the ins and outs of MLP taxation in MLPs and Taxation: A Quick Refresher for Tax Season.)

For example, Chesapeake Energy in July 2010 created Chesapeake Midstream Partners LP (NYSE: CHKM), spinning off more than 3,000 miles of gathering pipelines in the Barnett Shale and the Midcontinent region of Texas and Oklahoma that includes the Granite Wash, the Permian Basin and the Anadarko Basin. This initial public offering raised $446 million.

More recently, EQT Corp (NYSE: EQT) had flirted with divesting some of its midstream assets to help fund drilling activity in the roughly 500,000 net acres it holds in the Marcellus Shale. Management has noted that the company can earn a roughly 40 percent return at the wellhead in the Marcellus Shale–an impressive rate of return at a time when the US natural-gas prices remain depressed.

Earlier in 2011, the company sold its ownership interest in the Big Sandy Pipeline–a 70-mile gas pipeline in Kentucky that links to the Tennessee Pipeline and connects the Huron Shale and Appalachian Basin to gas markets in the Mid-Atlantics and Northeast–to Spectra Energy Partners LP (NYSE: SEP) for $390 million in cash.

However, management has decided to monetize its midstream assets serving the Marcellus Shale in a way that enables EQT Corp to maintain control of the size, timing and location of any incremental expansion of its gathering pipelines and will ensure that the firm has ample off-take capacity as it ramps up production.

Steve Schlotterbeck, EQT Corp’s senior vice president of exploration and production, on Nov. 11 explained this strategy to analysts at the Bank of America Merrill Lynch Global Energy Conference:

We do think it’s very, very important–just from our experience of having control of the Midstream, we think it’s very important that we maintain control of that. We’ve gotten significant advantages from being able to design the pipelines to suit our needs in terms of pressures and flow rates. We have a lot of certainty about the timing of the pipelines because it’s all internal. And those are advantages that we are very, very reluctant to give up. So we are evaluating structures that would allow us to keep that control in-house.

Schlotterbeck further elaborated on this strategy during the Q-and-A portion of his presentation:

[W]e clearly think we need to use someone else’s money to fund the development of our–or the expansion of our Midstream system. And we think control of that expansion is critical. So we’ve narrowed it down to basically two options that we think could achieve our objectives, and one is an MLP and the other is a joint venture.

With a number of other E&P firms looking to monetize their midstream assets to fund drilling programs, we expect similar transactions to occur in coming months.

At the same time, the past few months have also brought a surge in traditional mergers and acquisitions, with midstream-focused MLPs targeting corporations that own natural gas-related infrastructure.

Kinder Morgan (NYSE: KMI), the general partner of Kinder Morgan Energy Partners LP (NYSE: KMP), on Oct. 17 announced a bid to acquire El Paso Corp (NYSE: EP) for $38.1 billion. The equity portion of the deal amounts to about $21 billion, and Kinder Morgan will assume roughly $17 billion worth of El Paso’s debt. The deal represents a 37 percent premium to El Paso’s closing price on Oct. 14, 2011.

El Paso owns natural-gas storage facilities, more than 43,000 miles of gas pipelines and oil- and gas-producing fields. Kinder Morgan will divest El Paso’s exploration and production assets and use the proceeds to pay down the debt it’s taking on to fund this acquisition. El Paso’s energy-producing assets include significant acreage in the Eagle Ford Shale in southern Texas and the gas-rich Haynesville Shale in Louisiana.

Kinder Morgan’s takeover of El Paso Corp is the largest acquisition in the energy patch since ExxonMobil Corp (NYSE: XOM) purchased XTO Energy for $41.3 billion in late 2009.

The deal will make the combined company the largest owner of natural-gas pipelines and storage assets in the US when you factor in the firm’s general-partner interests in Kinder Morgan Energy Partners and El Paso Pipeline Partners LP (NYSE: EPB). The post-acquisition company’s roughly 80,000 miles of pipelines include connections to the Barnett Shale, the Eagle Ford Shale, the Fayetteville Shale, the Haynesville Shale, the Marcellus Shale and the Utica Shale.

In a press release announcing the transaction, Kinder Morgan CEO Richard Kinder noted that the “once-in-a-lifetime deal” reflects the company’s bullish long-term outlook for natural-gas demand in the US:

We believe that natural gas is going to play an increasingly integral role in North America…With the recent development of shale resources, there are now abundant domestic supplies of natural gas, which are being used increasingly to generate electricity and are environmentally friendly. If America is serious about reducing carbon emissions to benefit the environment, and reducing its dependence on foreign oil, natural gas is absolutely the best readily available option. We are delighted to be able to significantly expand our natural gas transportation footprint at a time when it seems likely that domestic natural gas supply and demand will grow at attractive rates for years to come.

This takeover came on the heels of another megadeal: Energy Transfer Equity LP’s (NYSE: ETE) $8.9 billion purchase of Southern Union (NYSE: SUG), a transaction that wasn’t settled until mid-August 2011 after several counteroffers from Williams Companies (NYSE: WMB) bid up the price. Southern Union has set Dec. 9, 2011, as the meeting date for shareholders to vote on the proposed takeover.

Once the deal is approved, Energy Transfer Equity will add Southern Union’s 15,000 miles of natural-gas pipelines that connect new production from fields in Texas and Oklahoma to markets in Florida and the Midwest. The combined company will boast a pipeline network that’s 44,000 miles long and capable of transporting more than 30.7 billion cubic feet of natural gas per day.

Despite being pipped by Energy Transfer Equity in its bid for Southern Union, Williams Companies CEO Alan Armstrong reaffirmed the company’s interest in acquiring additional natural gas-related infrastructure during a conference call on Nov. 2, 2011:

We continue to be very excited about the infrastructure play here as the US starts to really take advantage of natural gas and we think that the infrastructure assets are going to play an important role in that, so we continue to be very interested in that. We think we are very well-positioned as a company to grow in that space and we’ll continue to look aggressively at any opportunity we see out there to do that. So I think you should expect to see us to…continue to be aggressive in that space.

With Williams Companies on the prowl for midstream natural-gas assets, expect additional deal flow in this space. My colleague Roger Conrad identified several likely takeover candidates in the Nov. 6, 2011, issue of Personal Finance.

Meanwhile, several companies have announced plans to go “long” natural gas by scooping up undervalued acreage in conventional fields. During an Oct. 17 conference call, Atlas Energy LP’s (NYSE: ATLS) CEO Ed Cohen announced that the firm will spin off its E&P assets into a new MLP called Atlas Resource Partners LP that will pursue opportunities in conventional fields:

As a result of the present heated, cash-consuming and costly competition to develop unconventional oil and gas plays, an effort to be sure in which we have been a early pioneer, companies struggling to pursue these costly projects are often amenable to selling production into acreage in conventional plays on terms extremely attractive to buyers. But with everyone fixated on developing unconventional gas, there are relatively few purchasers for these undervalued conventional assets. Atlas Energy to the rescue….We have decided to create a separate currency, which will better enable us to significantly expand cash flows from our upstream E&P natural gas and oil production assets through strategic acquisitions and organic development…[W]e are creating a new exploration and production; that is, E&P master limited partnership named Atlas Resource Partners LP, which will hold substantial all the natural gas and oil development in production assets.

Following this announcement, private-equity outfit TPG Capital likewise disclosed plans to invest up to $1 billion into a new venture, Maverick American Natural Gas, that will focus on acquiring and operating conventional, natural-gas producing properties in the US. 

The moves might strike some investors as counterintuitive–after all, North American natural-gas prices remain at depressed levels and are likely to sink further in the near term. Nevertheless, an extended period of cheap natural-gas prices should stimulate additional demand and give utilities added impetus to replace coal-fired plants with gas-fired facilities.

Although The Energy Strategist’s model Portfolio currently includes a short play on US natural gas prices, my colleague Elliott Gue remains bullish on the commodity over the longer term and explained his rationale in the Sept. 8 issue, Step Off the Gas:

Adjustments on the supply and demand side eventually will return natural gas prices to between $5 and $6 per million British thermal units. Low prices and lower CO2 emissions will drive the shift to natural gas-fired plants, while industrial users will also increase their use of natural gas. Supply growth should also level out as producers allocate more money oil-rich plays.

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With the US economy likely to grow at a lackluster pace over the next few years, expect the stock market to suffer through a period of extreme volatility as investors adjust to the new normal. The EU’s ongoing sovereign-debt crisis will also continue to enervate investors. Throw in “Black Swan” events such as the civil war in Libya, and it’s easy to see why investors are on edge. A fearmongering media that focuses on worst-case scenarios rather than the likely outcomes doesn’t help matters.

But Investing Daily’s 2012 Wealth Summit will give you the edge in these uncertain times. This year’s event will focus on winning investment strategies that generate profits in both up and down markets. To learn more about this must-attend Wealth Summit, go to InvestingSummit.com or call 1-800-832-2330 for more details.

Around the Portfolios

Gushers Portfolio holding Gushers Portfolio holding Nabors Industries (NYSE: NBR)is the world’s leading land drilling contractor and one of the largest land well-servicing and work-over contractors in the US and Canada. In the third quarter, the company generated operating revenue of $1.63 billion, up 50 percent from year-ago levels and 19 percent sequentially.

At the end of the second quarter, about 70 percent of Nabors Industries’ land rigs in the Lower 48 were tier-one or tier-two rigs. In the third quarter, the company retired 104 tier-three rigs, many of which had been used only sparingly in recent years, as well as 84 well-servicing rigs and about 60 trucks.

Whereas demand for these older, low-specification rigs was practically nonexistent, frenzied drilling in liquids-rich US shale plays continues to support robust demand for newly built units. During a conference call to discuss third-quarter results, CEO Eugene Isenberg noted that 216 of the company’s rigs working at the end of October 2011 and that the firm is “continually getting requests for built-for-purpose rigs.”

This momentum should continue into next year. Management noted that the spread between the day-rates offered under term contracts and those offered in the spot market was negligible in the hottest US unconventional plays. With the contracts on about 95 of Nabors Industries’ land rigs slated to expire in 2012, the company has ample opportunity to book new deals that offer superior terms to the day-rates that prevailed even a few years ago.

At the same time, management learned its lesson from the Great Recession and has dramatically increased the percentage of the firm’s revenue that’s covered by term contracts. Nabors Industries’ pressure pumping operations have even secured 13 extended contracts and more are in the works.

As Isenberg acknowledged during an Oct. 26, 2011, conference call, “We’re trying to make hay while the sun shines and do what we can to convert into multiyear contracts.” Prevailing rates in the pressure pumping business support investment in additional capacity, though management acknowledged that the industry will likely overbuild at some point.

Better still, about 75 percent of the firm’s current income in the US and Canada comes from oil and liquids–commodities that still command elevated prices.

Nabors Industries’ international division posted a sequential decline in operating income, largely because of project delays in the Middle East and weak demand for its shallow-water assets. Nevertheless, management stuck by its previous forecast that the company will have 30 rigs working in Saudi Arabia by the second quarter of 2012.

We remain bullish on Nabors Industries’ near-term growth prospects and rate the stock a buy up to 25.