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This article (published on the PEN Group consulting network website) outlines the key steps of the Asset Valuation process, the starting point for companies seeking to acquire or divest particular pipeline assets.
Valuation of Pipeline Assets
by Alan L. Stumbaugh, P.E.
Summary: The determination of value for existing pipeline assets is an often tricky proposition requiring a combination of engineering and construction knowledge, financial evaluation skills, and a familiarity with the markets the assets will serve. The following is a discussion of the approach that should be used to determine that value.
In today’s environment many of the larger oil and gas companies are selling their non-strategic pipeline assets. This has opened up new opportunities for the smaller players in the pipeline business and given new life to older, under-utilized systems. The problem comes in trying to place a fair, realistic value to these assets. Several factors can affect this valuation and should be investigated thoroughly before proceeding:
The age and condition of the facilities. Any costs to repair or modify the lines must be taken into consideration when determining value. This includes the identification and quantification of any pre-existing environmental problems.
The possibility of placing the lines in alternative service. In many cases the value of a pipeline can be enhanced substantially by finding an application for the line other than its originally intended purpose. For example, a line may have been built to supply crude oil to a refinery but, based on changing supply patterns, it is no longer needed for this purpose. A potential buyer (as well as the seller) should investigate the viability of converting the line to transport another commodity such as refined products or natural gas.
The value of fee property or rights-of-way. This can be a major consideration for older systems where land or right-of-way values may have escalated considerably between the time the facilities were constructed and the present time. The value of land and right-of-way usually only come into play if the buyer is planning to (1) salvage or sell part of the system; (2) replace the existing line with a larger line; or (3) lay additional lines in the same right-of-way.
Following the completion of this investigation the interested party should attempt to arrive at a value for the assets under four different scenarios. This “range of values” can be a useful tool in later negotiations between the buyer and seller.
Scenario 1 – Replacement Value
This is simply the cost to replace the system in today’s dollars. Depending on the location and age of the assets this could be a very high number. Commercial and residential development in many areas of the country have encroached on and surrounded many older systems to the point that the cost to replace the line along the same route may be impractical or even impossible. In these cases alternate routes between the same origin and destination points should be considered in order to arrive at a Replacement Value.
Scenario 2 – Salvage Value
The valuation process for pipeline assets under a salvage scenario is a complicated process requiring a careful assessment of the actual costs to remove the pipe, pumps, tanks, etc. versus the value of these materials on the open market. Equipment and materials from many older systems may have little or no value in today’s market. The cost to cut down and re-build shell tanks may equal or exceed the cost of new tanks. The overall cost to remove and re-condition line pipe and to restore the right-of-way usually makes it impractical to salvage smaller line sizes. Some appraised value can normally be assigned to fee property and rights-of-way but the actual value will be set by the market.
Scenario 3 – Alternative Service Value
The value of the line in alternative is service is driven by the volume of product that is available to transported in the line and the average fee (per unit of volume) that can be charged. A market study should be conducted to identify potential users by product and volume. For purposes of valuation, “transport fees” are usually determined by analyzing existing transport costs or product value differentials between the origin and the destination of the pipeline. With this information in hand the interested party can determine a reasonable value for the assets by using conventional discounted cash flow (DCF) analysis techniques. Don’t forget to include any capital costs that may be necessary to repair or modify the system to prepare it for the new service!
Scenario 4 – Existing Service Value
The possibility of enhancing the value of a pipeline asset without changing service should not be overlooked. A new owner may be able to cut operating expenses or more aggressively market the asset to increase throughput. Either of these actions can bring added value to the asset and should be assessed using the same DCF analysis techniques as outlined for Scenario 3.
The interested party, whether it be the seller or a prospective buyer, is now ready to enter into serious negotiations with a clear understanding of the value of the assets under four distinct scenarios. However, in the final analysis the real value of a pipeline asset – like all assets – is the price that can ultimately be agreed to between a willing buyer and a willing seller.