Aug 29, 2023
Transcript of Energy Conference Call on Vistra/Energy Harbor Increased Scrutiny, EQT/Quantum Consent Orders, and Lofty Drilling Plans for Small Upstart
On August 25, The Capitol Forum’s Teddy Downey, Sharon Kelly, and Daniel Sherwood discussed the most pertinent issues impacting energy markets and policy, covering key topics such as Vistra’s takeover of Energy Harbor and consent agreements that block private equity player Quantum and the U.S.’ largest natural gas producer EQT from gaining and sharing confidential information. The full transcript, which has been modified slightly for accuracy, can be found below.
TEDDY DOWNEY: Thank you for joining today’s Energy Conference Call. Welcome. I am Teddy Downey, Executive Editor here. And I’m joined by our dynamic duo on the Energy Team, Daniel Sherwood and Sharon Kelly. We’ve got a lot to cover. So let’s go right into it. I mean, I know it’s a nice Friday. It’s beautiful weather. But we’ve got so much to cover, I just want to get right to talking. Does that work?
DANIEL SHERWOOD: Yes.
TEDDY DOWNEY: So let’s start off with this Vistra‑Energy Harbor deal. It’s getting more scrutiny at FERC. It’s got the DOJ second request. What are we thinking about the timeline here?
DANIEL SHERWOOD: Absolutely. Yeah, Sharon’s been keeping abreast of this deal. And these are important assets. This is related to First Energy and the bribery scandal in Ohio. This is related to a big contributor to the grid. This is related to nuclear fleet and a kind of novel take now on how combining nuclear with natural gas might have some anti-competitive effects. So Sharon, please, if you could give us the downlow.
SHARON KELLY: Absolutely. So we saw two very recent developments. First off, you have Vistra quarterly filings, where they disclosed that DOJ second request. Then you saw — actually, I guess, three developments. Because we broke the news last week that you had FERC asking for more information on the deal. A lot of the concerns there seem to be consistent with these concerns about market power and the way that running a fleet controlled by the same company where you have both natural gas/coal and then you add baseload nuclear to the mix, how that affects the potential for maybe perhaps market manipulation and some of the concerns there.
So second, you have FERC asking these questions. And then third, just this week, you saw the Department of Justice, they entered a filing in the FERC docket indicating that they are actually quite concerned about the market power issues here. They sort of echoed a lot of the concerns — I think even directly echoed the concerns that had been raised by PJM, which is the regional grid regulator — that had been raised by PJM’s Independent Market Monitor.
And again, they were like, listen, if you have a situation where you have a company that has this blend of specifically natural gas power plants, which are dispatchable, which means that they’re sort of easier to turn on and off, and then that same company also provides baseload power from nuclear, then you wind up in a situation where the company basically has the ability to potentially impact pricing, particularly in moments where there are strains on the system — not uncommon these days, generally writ large, not specific to the PJM region but you see these trends nationally — and then if there’s an ability for the same company to dial down natural gas output and drive prices up while running baseload nuclear power plants that will benefit from higher-priced always-on power generation, then that potential is something that PJM, and apparently also the DOJ, are concerned enough to be raising issues over.
And then, as far as timeline goes, the most recent update that we’ve had from Vistra is that they do still expect to be able to close by end of year. We reached out to the company last Friday to ask if that was still their position. We did not actually have a confirmation in either direction.
The outside date for the transaction is in early March 2024. So there’s a little bit of time to see if they are able to resolve these concerns or if they’re able to figure out — I think PJM’s Independent Market Monitor had sort of described some really pretty hyper technical potential controls that mostly relate to pricing and supply. And the DOJ had sort of indicated their support for something similar in their most recent filing.
DANIEL SHERWOOD: Yeah, my reading of the tea leaves there — and thank you for that great update — a lot of movement. And I think we were surprised, Teddy, to see the DOJ almost double down on the FERC docket. Like obviously, we already knew with the second request that they were concerned about something. But then to say, hey, FERC. You have subject matter expertise here. Like, you know these markets really well. Here are some things that stick out to us. And you’ve already asked for more information, but these are the issues that we’re really tuned into. It struck me as kind of definitely noteworthy to see the relative protectiveness and coordination between these agencies. You don’t always see that as you know.
So, yeah, without being able to speak directly to the timeline, these things move slow. They have enough time, the outside date of March, I think, possibly. But I wouldn’t be surprised, I’ll say, if there is a revision to it being closed by the end of this year, for instance. So that’s where we are on that file.
TEDDY DOWNEY: Yeah, I would say one other thing. I mean, not only is it interesting that DOJ wrote this letter, but this is an interesting situation in that if DOJ has a real problem with this merger, they have a lot of resource constraints right now. I mean, we’ve reported about how busy they are with this Google search doc review and that litigation is happening soon. Then they have the Google ad tech rocket docket litigation. So they have all hands on deck for all the antitrust litigation they have. They still have time. Not that writing a letter takes that many resources, but they have time to get in the weeds and get involved directly in this. That’s pretty interesting.
And then I think always when it comes to these mergers, if they do have a real problem in the end and FERC and they are coordinating. You know, obviously, FERC probably has way easier, I would say, rules and much broader power just to prevent a merger than DOJ. I don’t remember if it’s a public interest rule or whatever sort of laws that govern FERC’s decision making. But I think they’re reminiscent of how the FCC has broader authority to block deals.
So that’s always kind of an added risk in the sense that if they do end up taking an aggressive posture in the end, it’s easier to litigate than if DOJ has to then use all its own resources to go out and do it on its own. I mean, we’ve seen this with DOT, with the FCC. So I think that adds another element here. And the other thing I would say is FERC left to its own devices, I don’t have a lot of confidence that they like have an anti-monopoly bent or anything. It’s kind of like it feels like a more check-the-box place, like you just keep at it. I mean, Daniel, correct me if I’m wrong, but they don’t seem to be the most aggressive enforcers out there.
DANIEL SHERWOOD: I wouldn’t disagree. But I will say while their enforcement may not be exemplary in certain respects, or some people think it’s technocratic, they do have rigorous reviews. I mean, just for instance, remember the degree of specificity to which they reviewed if they had jurisdiction over the San Juan plan of New Fortress. Or in a competition perspective, Sharon, we didn’t prepare for this in the call, but I believe you reported on it at one point. But recently, FERC did deny — correct me if I’m wrong here — but was it American Electric Power’s Kentucky Power deal with Algonquin Power. They did block transaction to a certain degree, at least due to competition concerns. And I believe it was in Appalachia as well. Is that right, Sharon?
SHARON KELLY: It was Kentucky Power, yeah.
DANIEL SHERWOOD: And that was December 2022.
SHARON KELLY: Yeah, very recent. Yeah, and I think too, as much as there is this sort of concurrent review, where you have both the DOJ and FERC looking at antitrust concerns writ large, the other thing to remember is like they both do — as you highlighted, Teddy — they both review based on different standards. So FERC has a test that ultimately comes back to public interest. But when you look a little bit more technically, they’re actually using older DOJ FTC guidelines, I believe it’s the antitrust agencies’ 1992 horizontal merger guidelines that FERC uses for their review.
DANIEL SHERWOOD: Isn’t that funny?
SHARON KELLY: It’s concurrent review but the standards are not the same.
TEDDY DOWNEY: It’s interesting that they use those because those are not very aggressive or at least not nearly as aggressive as the new ones, the draft ones, that got put out. I think more broadly, because FERC is a regulator, they have a lot more — they tend to have more confidence that their behavioral remedies are like something that could work and that they can kind of technically come up with them. And so like because they have technical expertise and because they’re regulators sort of have this, I think largely misguided. But I’m not at FERC. I’m not at the FCC. I think people have a lot of confidence that their remedies will work. And I’ve never seen any of these remedies ‑‑ I mean, I’ve been doing this for 15 years. I’ve never seen one remedy, behavioral remedy, that seemed to really achieve what they thought it would achieve.
So, I mean, there are some exceptions. But I think there is a little bit more confidence at the FERCs and the FCCs of the world that they can solve their problems with regulation or behavioral remedies and things like that. And they do have better ability to monitor and enforce them. So I think it’s understandable that they have that approach. But at the same time, that’s definitely not going to be DOJ’s view. So when it comes to remedies, I would say they’re going to come up with them for sure. And DOJ is probably going to say, we still have issues. And then if I were these companies, I would be trying to get FERC on my side.
DANIEL SHERWOOD: Absolutely.
TEDDY DOWNEY: And then go to DOJ and be like, we have a remedy. Like you’re not going to do this on your own.
DANIEL SHERWOOD: I may sound like a fatalist. But because of the underlying assets at play here, I don’t know what remedy you could have. I mean, this is kind of one of the interesting things about some of these transactions is because the value, the proposed value, sometimes erodes when you peel off some of the anti‑competitive nature of the deal. And the only assets at play here are an aging, hardly compliant, not profitable, recently emerged from bankruptcy nuclear fleet, that has struggled for a long time to figure out how to be operational.
So how do you remedy that? It’s like they’re not going to just say — I don’t think they’re going to be okay with just buying the best one. So I think it’s going to be difficult. And I’m painting with a broad brush here. But I do think it’s an interesting merger in the first place. And I think it would be difficult other than if they promised to run all of their natural gas plants at X percent or something like that to assuage some of these fears. And for the record, the companies all say that it’s, you know, they dismiss the alleged anti-competitive conduct.
But yeah, it’ll be interesting. We got a lot of good questions about this. I’m just reviewing them right now. Thank you, Susan, for forwarding them on. I think really the only thing that we didn’t hit that I see here is whether or not a deficiency letter is bad or normal as far as the FERC and the letter is concerned. And I would say that it is not normal. I wouldn’t say that it’s awful either, but it is definitely a trend in the wrong direction. And FERC is not a fast moving agency in many instances. So I think that’s what gives us pause as far as the timeline is concerned.
TEDDY DOWNEY: Yeah, the last thing I would say is I think the one thing about all of this that kind of indicates that FERC is actually in the new era of the antitrust enforcement is ‑‑ and I’m not as familiar with FERC, but the different business models and competition. How competition in different business models really works. I think, historically, the past 40 years, well, there’s a “let me just count how many players there are.” You know, it’s like kind of a simple thing. And it’s like, well, fine. Yeah, it’s nuclear. It’s natural gas. But it’s all in the same place. So it should be fine.
And the specifics of the different business models — obviously with energy production it’s more obvious how different those are. But we are seeing this in other antitrust areas where the composition of that type of business model actually is important to the analysis — I mean, it’s not always important, but I think it’s kind of indicative of, I think, the more rigorous, robust analysis that’s being done, as much of the time as they can, given the research constraints at the antitrust agencies.
So I love this. I’m excited to keep covering it. I think it’s fascinating. And I think from my standpoint, thinking through it — because clearly they’re going to have to come up with some remedies, right? Like, they can’t just say, hey, this isn’t a problem. I would imagine that some kind of remedy is how they’re going to try to fix this. So I’m excited to see what that looks like and what you think about it, Daniel, going forward.
Let’s go to another merger that we looked at very closely and did a lot of work on. And it seems like, from what we saw in the consent agreement, the FTC saw a lot of the same things that we did. So, we had the FTC EQT and Quantum consent order. Give us an update there, Daniel and Sharon, on what happened.
DANIEL SHERWOOD: Yeah, when Sharon and I prepped for this, we kept being like let’s not get — there are specific provisions that came from the Pennsylvania Attorney General and the FTC that are quite fascinating for us wonks over here. And I’d love to almost go bullet point by bullet point. But I don’t think that would necessarily be value added for everyone else.
I think the big picture takeaway that we really want to emphasize here is this regulatory move is kind of, I would argue, a watershed experience, from an antitrust enforcement perspective, and E&P’s, explorer and producers. And there has been this this notion, and we’ve written about this ad nauseum and we’ve written about it in different basins and we’ve written about it in different commodities. Sharon released an entire Coordination Out Loud series about the natural gas liquids market in Appalachia, demonstrating how capital discipline and capital maintenance and maintenance mode and production flattening can be kind of coordinated out loud, to a degree that it may manipulate the market.
And in this instance — and one of my favorite things that the FTC got from the second request was this text between EQT and Quantum where it ends in an emoji in which they’re admitting, look, if we can all just keep production flat, prices will go up. That’s illegal, you know.
And so a common refrain that we’ve been getting when we write about these things is — this is in the context of the Chevron/PDC deal as well — is that natural gas or oil is fungible. And because you can produce a methane molecule in Appalachia and a methane molecule in North Dakota and a methane molecule in Texas, what’s going on in Appalachia is not necessarily anti-competitive because you can go somewhere in Texas and produce more of it. Sure. But no, not sure. That’s incorrect.
And what this consent order shows is that that’s not the case and that there are enough facts to demonstrate that Appalachian is a market unto itself and thus informs natural gas prices. And when you have a major market player like EQT, largest natural gas producer in the United States, if they are planning to make it a trend to buy the small private operator that’s willing to ramp production, and as we explained throughout the last year of our reporting, we think that Quantum was strategically doing this. I mean, we think that Quantum was purposely saying, hey, look, big producers who are keeping things flat, we aren’t. We aren’t. We aren’t. You’ve gotta buy us. Which is fine. From that perspective, it’s a good marketing technique.
But yeah, so that’s my high level take away. You can see I’m getting all excited. This is a fascinating thing for us. We’ve written about the Appalachian Basin so, so much and Upstream really was how Sharon got ahead on looking at Tug Hill — those are the producing assets. And I’ll say in conclusion — and then, Sharon, I’ll pass the mike to you – stereotypically, what we usually see in antitrust enforcement in this space is a midstream divestiture. And there are midstream assets at play here. But that’s not what this was about. This was about controlling production output in a regional market. So yeah, it was exciting.
SHARON KELLY: And the only add that I would make there is, what’s really fascinating here to me is what you’ve now seen sort of baked into this consent order is this idea of basin-level market definition. And that for mergers and acquisitions for oil and gas in general in the U.S., that really does feel like that’s a very significant sea change in how you approach questions of market concentration, all of these antitrust concerns that flow out of a market definition.
And what you saw in this EQT consent order is the FTC sort of cracking the code on how to approach this market at a basin level and it involved looking up and down in the supply chain. So not just looking at the molecule of methane or the barrel of oil, but looking at mineral rights leasing, which is inherently regional, and sort of making clear that that’s a part of the analysis here. And I think that really is, you know, it provides an entirely new lens, an entirely new sort of like structural — it’s a structural shift, I think, in the way that oil markets and natural gas markets and exploration and production in general are approached by antitrust regulators. And it’s very interesting to see this baked into a consent order as well. Like it’s an expression of a philosophy. And then you saw that statement from Lina Khan. To my ears, it sounded like there’s significant remaining concern about some of the competition issues that you see in this industry and in this regional market.
TEDDY DOWNEY: Yeah. I mean, I think it’s a landmark decision. I couldn’t agree more. I know energy antitrust lawyers are reacting similarly to how they reacted to the new HSR form. What a big change. This is a huge deal. I just want to reiterate, I think it’s also interesting. It’s kind of a classic law enforcement matter, right? You are coordinating this pricing discipline. We have documents. We picked up on it in public quotes, signaling, and then that was backed up by the documents. I think the public quote was included as well, the one that we highlighted, Daniel, on one of these calls.
So, look, this is a leading indicator of a problem. If you’re engaging in Coordination Out Loud, our whole series, and in your merger, guess what? You’re probably going to get a second request. You’re probably going to have a close look at that. Maybe companies will stop doing that. I don’t think so. I have an alert in my email of like 20 of these every day. So I don’t think it’s going to stop anytime soon. But if you want to do a deal, you probably should stop doing that.
And then also, we get all these questions like what’s the theory of harm? What’s the theory? What’s the economic theory? And this is just so strict, like, hey, Section 8, you had the overlapping directors. You’ve got to divest. Hey, you can’t collude. And they had all these other provisions in a consent agreement. I don’t want to spend too, too long on this. And I know we’re going over. But I do want to take a look at some of the provisions that you thought were interesting, Daniel, or get a little bit more in the weeds. Since it’s such a landmark case, I think it’s probably worth looking into that. I was also struck by the Lina Khan statement as well, and maybe we’ll see more Section 8 enforcement going forward. But any provisions that you want to talk about before we move on?
DANIEL SHERWOOD: Yeah, it was in Section 8 enforcement. And a standalone Section 5 enforcement and the ability to transfer information with the board seat, but also because of the equity, like because of the shares that they were going to control. So now it’s in a blind trust with a mandatory sale date where they can’t control, for instance, that’s a term that stuck out to me. The Mineral Company is a huge notion that stuck out. And Sharon highlighting that speaks to your earlier point, that the actual underlying business models here are becoming much more relevant.
So yeah, Teddy, these companies themselves, EQT is still saying stuff like, yeah, you know, all this gas is going to go out of basin now like with Mountain Valley Pipeline coming out. And you have a bunch of peers admitting that there’s not going to be ‑‑ which makes sense. That’s factually not a surprise. But they seem to not understand that if they’re highlighting basis differentials from different, you know, compared to peers in different areas and then they’re excited to compete in those markets and then doing things to control the regional market, you know, in some ways they’re kind of putting themselves in a little bit of a quagmire.
And I’m excited to see how when, assuming the Mountain Valley pipeline comes out in the next 12 months, that will continue to play into this kind of matrix of how these companies will operate and be able to keep production at a rate that’s profitable for their shareholders.
So, yeah, I think The Mineral Company provision, I think kind of the part of the deal of them having less control and insight into their position in EQT. And, you know, Quantum is a major, major private equity player with assets throughout the country. So it’s like this is a big deal for them too and I think another feather in the regulator’s cap of tamping down on private equity market control.
SHARON KELLY: That point about private equity is really important, given the current situation where there are so many private equity players out here in oil and gas. And if you look at the consequences for Quantum in this deal, they are quite significant. Not only the trust, where the stock has to be, you know, they’re not allowed to even really hold it. It’s put in trust. But then it’s got to be sold off over some set period of time – and we’re talking about 50 million shares, so that’s about roughly one in seven outstanding shares of EQT. And then on top, again reflecting a basin-level market definition, Quantum’s now barred from the board of any of the seven top Appalachian nat gas producers and there’s a compliance monitor appointed for ten years.
The value for a private equity company like Quantum, there’s a significant impact there. And there’s so many private equity companies that are involved in oil and gas that I think there’s potential for significant broader impacts there. Yeah, I think there’s a lot of reasons to consider this a little bit of a sea change.
TEDDY DOWNEY: Yeah, it’s fascinating. I’m excited to see how this plays out going forward, particularly when it comes to — because there’s just so much chatter in the oil and gas industry about discipline and production. I mean, it’s just such a common, common comment by executives, I’m curious to see how that gets enforced going forward or if antitrust counsel suggests that people stop saying stuff like that.
Let’s move onto a small Appalachian driller that has unsuccessfully targeted shallow oil in West Virginia in the past, recently got bought out with plans to uplift later this year. And we’ve done some work on that. Why don’t you guys talk about how Upstream thinks about the company’s footprint?
DANIEL SHERWOOD: Yeah, we’ll be we’ll be quick on these last two items. We like to look at the fringe operators sometimes. We like to look at the companies in any energy sector that are attempting to do things differently. This company reminds us of kind of a mini Diversified. They’re saying, hey, we can resuscitate these old wells and/or drill in these shallower plays and find a great paydirt of oil. And so, yeah, I mean, this got some press and the announcement was a little weird. I can’t help myself. So I log on Upstream and I’m looking at it and I’m like, hold on. Based on it was like $352 million acquisition, which isn’t even true, but that was literally the headlines that ran. And then I was like, Sharon, what would happen if you looked into their success in the past? And so that’s what we did. And Sharon, if you could just give us a quick rundown.
SHARON KELLY: If you’re wondering, is it possible to sort of apply modern drilling techniques, some of the techniques that are used for shale gas development and to revive a conventional oil field in West Virginia? I think unfortunately, the answer here is — we haven’t seen evidence of that yet. A lot of operators have made some attempts. The last well that we saw that was a horizontal oil well that was attempted in Appalachia, that was back in 2019. And a lot of these efforts have been sort of walked away from. But then this operator, in 2019, they had made a little splash in the regional news based on the results that they’d gotten from a four-well well pad in West Virginia.
So we took a look at that. And if you follow the wells over time, what you see is — it’s probably a little familiar to anybody who’s followed wildcatters, which is like they had a few wells with a pop in production. But then those wells pretty quickly were — within a few years, had dwindled down to what’s known as stripper well production levels, which is a production rate of 15 barrels a day or less. All of this operator’s wells, including their best new wells that were highlighted in 2019, had hit stripper production levels within a few years or been abandoned.
So, from there, we tried to figure out, like did any of these newer wells actually pay out? We don’t have access to enough information from what has historically been a private operator to say directly. And the operator did not weigh in on that for us, despite our best efforts.
So there’s a lot of conventional operators in Appalachia with portfolios filled with stripper wells. The difference here is you do have this recent drilling program and that means you have the recent horizontal drilling costs. The question of whether and when a well pays out is always a difficult one.
What we do know is that they now have a very ambitious drilling program laid out ahead of them. They are planning 68 wells. That is more wells than they’ve completed since they were founded in 2008. So, we shall see.
DANIEL SHERWOOD: Color us skeptical.
TEDDY DOWNEY: The name of the company is Houston National Resources, correct? Is that the one that we’re talking about?
DANIEL SHERWOOD: Yeah.
TEDDY DOWNEY: I’m curious. How are they going to list? How are they planning to get listed in one of the exchanges? Are they big enough?
DANIEL SHERWOOD: Well, Teddy, that’s a good question and one that we hope to be answering in written format soon. So there’s more in the deck. And just as far as what’s publicly available, Frank Kristan, who’s running HNRC, which is what bought this West Virginia operator, has a SPAC that’s listed on the NYSE. And they’ve also listed a proxy statement for a separate SPAC that’s tied to this Cunningham character. And they’ve also separately, separately recently done an investment in mining. So there’s been a kind of a flurry of announcements from these folks. And there’s a lot of paper. And we’re figuring out kind of what’s behind all these announcements?
TEDDY DOWNEY: Okay, awesome. Look forward to that. And then lastly, I know we had our great call the other day on ESG issues with Hinshaw’s Bessie Antin Daschbach and would love to sort of just pull back. I know she talked about SEC state policy, international investments abroad. Where do you think ESG is headed for lawyers, for investors? What are your takeaways from the call? And what do you think is interesting sort of right now in that space? Is Daniel frozen. Sharon, why don’t you kick us off?
SHARON KELLY: I think the conversation with Bessie, I think — let me see if I can get Daniel to share some of the notes of what he wanted to say.
TEDDY DOWNEY: Well, let’s give him a minute and see if we can get him back. If not, we can just talk about this the next time we do a call. It’s not like ESG isn’t going to continue to be important. Daniel’s power went out because he has a tornado in the area or at least close enough to his power generator. So that seems a fitting way to end an energy conference call in this 2023, given all of the extreme weather events that we’ve had. So good luck to Daniel with his power and hopefully this tornado doesn’t affect too many people. Sharon, thank you so much for doing this. And thank you to everyone for joining the call today. Have a good one. This concludes the call.