TC Energy: The Future of Hydrogen Energy Infrastructure
As TC Energy faces stagnating growth, it should use existing infrastructure to expand into hydrogen energy.
The Ivey Business Review is a student publication conceived, designed and managed by Honors Business Administration students at the Ivey Business School.
A Giant in Midstream Infrastructure
TC Energy (TCE), an industry leader in North American midstream energy, has once again captivated attention in the oil and gas industry: its Keystone XL (KXL) Pipeline was cancelled, bringing an end to a project that has become symbolic of tensions between the industry and community stakeholders.
Founded in 1951, today TCE’s pipeline network transports 25 percent of North America’s natural gas as well as two billion barrels of crude oil annually from Alberta’s oil sands to refineries in the U.S. Midwest and Gulf Coast. In 2020, TCE continued to build on its $100 billion asset base by bringing another $5.9 billion of assets into service. It has also built a reputation of strong sustainability practices and industry-leading safe delivery rates, investing over $1.3 billion in pipeline integrity services.
The Flows are Slowing
TCE remains insulated against a backdrop of negative sentiment towards the oil and gas industry, with 95 percent of its cash flows locked into long-term contracts which minimize short-term revenue fluctuations. However, the Toronto Stock Exchange Oil and Gas index has declined less than one percent since February 2020 while TCE’s share price has dropped nearly 20 percent over the same period. Furthermore, TCE has seen revenue fall 2.5 percent over the last three years. Consensus estimates also show stagnant projected growth, with EBITDA estimated to grow just 3.8 percent from 2020 to 2021. This slowdown in growth is concerning, as TCE has long-term debt obligations that need to be serviced—20 percent of its $58 billion in long-term debt needs to be serviced over the next five years.
The KXL cancellation, along with other political decisions, social trends, and economic indicators, is just the latest in a series of headwinds facing TCE.
A New President in the White House
On January 17, 2021, newly-elected President Joe Biden announced plans to cancel the KXL pipeline, a project that would have transported over 590,000 barrels of oil per day. Along with this executive order, Biden announced plans to invest $400 billion into clean energy and innovation over the next ten years, which would increase pressure on fossil-fuel-driven energy companies to produce more environmentally-friendly alternatives. This trend is further emphasized through BloombergNEF’s prediction that 58 percent of all automobile sales in 2040 will be electric vehicles. Canada has established similarly ambitious carbon emission targets, with goals of achieving net-zero emissions by 2050.
A Fossilizing Arena
The upstream oil & gas industry is enjoying rising interest rates alongside crude prices which exceed pre-COVID-19 levels. In years past, this has generally translated to upstream producers increasing production, thus increasing the demand for TCE’s midstream transportation of energy. However, over the last few years, upstream players have prioritized cost reduction to increase profits rather than increasing production to drive top-line growth. The Canadian Association of Petroleum Producers has decreased estimates of Canadian Oil and Gas investment in 2021 to $27 billion, a drop of over 65 percent relative to its 2014 estimate of $81 billion. Consolidation has become the new theme of the energy sector. With cash flows diverted into shareholder pockets rather than into the ground, TCE faces a limited need for takeaway capacity. The company must find other ways to stimulate growth within its mature and slowing industry.
Environmental, Social, and Gas (ESG)
Another headwind facing the energy market is the growing importance of environmental, social, and corporate governance (ESG) factors in shareholder decisions. In early 2021, Norway’s Government Pension Fund sold off its entire portfolio of oil production stocks after losing $10 billion. An estimate from the Global Sustainable Investment Alliance reports that global ESG investments equate to $30 trillion annually, presenting a clear danger to TCE and its shareholder confidence. There are pressures from governments and external stakeholders, both calling for TCE to shift away from the transportation of oil towards more environmentally-friendly energy sources.
Pipelines: Out of Order?
Without a shift to a more sustainable business model, TCE cannot continue its history of achieving steady long-term growth. The logical next step in the energy transition would be a shift toward natural gas, as Asia represents a growing market for liquified natural gas (LNG) exports. Countries such as China are transitioning from high emission fossil fuels such as coal to lower emission fossil fuels such as natural gas. TCE already expects to capitalize on growing LNG exports with the Coastal GasLink project, a pipeline running from Northeastern B.C. to an LNG export terminal in Kitimat, B.C.. However, Pembina Pipeline Corporation’s Jordan Cove and AltaGas’ RIPET terminal are just two examples of companies taking advantage of the LNG export opportunity. The export terminals alongside existing natural gas pipelines such as the Enbridge B.C. pipeline make it clear that the LNG export market is becoming saturated. Is there a better sustainable growth path for TCE to take part in the transition towards renewable energy?
Infrastructure: Taking a Blended Approach
The answer for TCE is providing pipeline and storage infrastructure for hydrogen energy. The hydrogen value chain involves the production, storage, transportation, and use of hydrogen. The production stage requires electrolysis plants to take electricity and split water molecules into oxygen and hydrogen. Hydrogen can also be created through natural gas in a reforming process by using high-temperature steam. Hydrogen can ultimately be used in fuel cells, in industrial applications, or as a method of storing renewable energy. The segment of the value chain where TCE has the potential to make the largest impact is the transportation and storage of hydrogen, given its comparable existing infrastructure.
The hydrogen market is still in its early stages with no dominant midstream company. The International Energy Agency has emphasized that infrastructure such as pipelines and storage will be crucial in supporting large-scale development of hydrogen production and use. This is where TCE’s existing network of pipelines across North America can provide a large advantage when entering this industry.
Meanwhile, expanding into hydrogen infrastructure reduces regulatory risk exposure, since there is increased social and political interest in renewable-based infrastructure. The Government of Canada released a call to action in December 2020 outlining the future of hydrogen in Canada: it estimates that upwards of 30 percent of Canada’s energy will be delivered through hydrogen and it will be an essential pillar to achieving net-zero emissions by 2050. With the U.S. expected to launch a similar call to action, given its $400 billion investment into renewable energy, a hydrogen pipeline would circumvent much of the political scrutiny present with hydrocarbon-based transport.
There are strong use cases for hydrogen in the form of fuel cells in industries that are difficult to electrify, including long-distance transport and heavy machinery. Additionally, hydrogen can serve as a method of storing excess renewable electricity that is not immediately absorbed by the power grid in a form of potential energy. Electrochemical battery technology like lithium-ion is effective for storing and discharging energy for short periods. However, technological limitations reduce efficiencies for longer discharge and storage, pointing to hydrogen to fill that gap. These use cases further the argument that hydrogen will be essential to reaching a net-zero future.
Renewed interest in environmentally-conscious capitalism is leading to higher valuations for renewables-based companies. Midstream oil and gas companies trade at an average Enterprise-Value-to-Revenue Multiple of around 5x, compared to hydrogen companies, which trade at multiples exceeding 50x. The difference reflects the tremendous growth investors expect in the hydrogen sector and the stagnation of upstream growth for the midstream oil and gas industry. TCE can capitalize on this growth opportunity by using its existing infrastructure as a gateway into the sector.
Blending the Lines
TCE should begin introducing hydrogen by blending hydrogen gas into existing natural gas pipelines. For example, Enbridge started a project in the Greater Toronto Area that blends hydrogen into local natural gas lines, reducing greenhouse emissions of burning natural gas in homes. Tests from the U.S. Department of Energy show it is possible to blend up to 20 percent hydrogen without an increased risk of ignition or leakage. However, investment in blending infrastructure is required to make hydrogen blending possible, and TCE will need to be cognisant of the metal used in the pipeline, as certain types of steel degrade in the presence of hydrogen.
One of the leading applications of hydrogen is the storage of off-peak renewable energy production. Electricity produced from renewable sources can be stored as hydrogen through electrolysis and used to produce energy when there is a shortage of supply in the electrical grid. To establish TCE’s presence within this space, suitable partnerships should be explored with all companies along the hydrogen energy value chain.
Beginning at the point of energy production, TCE should secure partnerships with wind farms, such as Enel Green Power’s Riverview and Castle Rock Ridge wind farms in Southern Alberta. Intermittent energy sources such as wind pose a challenge to Alberta’s power grid, which is accustomed to the baseline power provided by hydrocarbons such as coal. Storing excess off-peak electricity in the form of hydrogen is a viable solution, as hydrogen can be converted to electricity on-demand similar to non-renewable generation.
Next, the development of a hydrolyzer is required to convert electricity from the wind turbine to hydrogen. Hydrolyzers are projected to decrease by up to 60 percent by the end of the decade, and TCE can capitalize on this through a partnership with a hydrolyzer producer. Cummins or Parker Hannifin, two of North America’s largest hydrolysis equipment manufacturers, can provide the hydrolyzers necessary to convert the excess electricity generated from the Pincher Creek wind farms into hydrogen.
The next step in the process is to transport the hydrogen to storage and/or into Alberta’s power grid. A portion of TCE’s Nova Gas Transmission Line pipeline system is well-situated in southern-Alberta surrounding Pincher Creek and the existing wind farms. This portion of the pipeline could be modified to transport up to 20 percent hydrogen blended with natural gas. The existing pipeline system is TCE’s competitive advantage in entering the hydrogen market. It would provide crucial infrastructure connecting renewable electricity producers and hydrolyzer manufacturers to the fuel cell companies which can supply Alberta’s power grid. A partnership with Cummins would extend further down the value chain as Cummins recently completed the acquisition of Hydrogenics, a fuel cell company that could be the end-user of hydrogen.
A major pitfall of hydrogen conversion is the round trip efficiency. Storing excess electricity as hydrogen and converting back to electricity is approximately 35 percent efficient compared to approximately 95 percent for a battery. That being said, the cost of hydrogen energy storage becomes much lower compared to battery storage once storage lengths exceed 13 hours, and this efficiency has the potential to continue improving. Efficiency improvements will allow Pincher Creek and other wind farms across Alberta to further improve scalability and reduce intermittency. With this scalability, Alberta can cost-effectively decrease its coal reliance before the Canadian federally mandated coal phase-out by the end of 2029.
Reacting for the Future
Facing a commodity market with an uncertain future and a dearth of exploration & production investment, midstream energy companies must look to adapt amid the growing influence of governments on clean energy initiatives and focus on creating value from existing infrastructure. As the price of hydrolyzers decreases and investments increase within the hydrogen energy market, TCE should utilize strategic partnerships to transition to a sustainable path of growth.