H2O Midstream— a shining star in emerging water midstream industry

It has been well established that oil-field water management is one of the fastest-growing segments of the unconventional oil and gas industry.

Even with the recent reports of layoffs and a slowdown in drilling and completion activity, oil-field water management is still drawing private equity money that has moved away from other segments within the energy sector.

We have seen merger and acquisition activity continuing within oil-field water management while it has slowed down in other segments of the oil and gas industry. Even though there is a slowdown of access to capital for drilling and completions, all projections show an increase in oil production, but much less growth than has been recently seen.

Produced water volumes are tied to oil production. So, increases in oil production will lead to increases in produced water, except that water-to-oil ratios in the Permian are 4-5:1. That means we will continue to see significant volumes of produced water.

This is all good news for the oil-field water-management industry, and the real focus within oil-field water management is Water Midstream. Water midstream is the shining star within the oil-field water management sector and for good reason.

Water midstream companies are typically valued in the range of 8 to 10 times earnings before interest, tax, depreciation and amortization (EBITDA), while water-treatment companies are viewed similarly to service companies and valued at 3 to 4 times EBITDA.

The reason for this has a lot to do with water midstream companies getting 10- to 15-year acreage dedication contracts, while water treatment companies are lucky to get one-year contracts.

spwm patton25A lot of the water treatment segment is also more directly tied to completion activity like on-the-fly recycling or treatment. And completion activity can fluctuate with oil price, while produced water management is tied more directly to oil production.

Essentially, a water midstream company owns hard assets and has long-term contracts that provide stability and risk avoidance. That leads to a higher valuation and more attractive investment.

H2O MIDSTREAM BACKGROUND
One of the shining stars in this emerging water midstream industry is H2O Midstream. H2O Midstream was formed in 2016 with initial funding from EIV Capital and co-investments from several of EIV’s institutional partners. One of their founding principles was that water should be treated as a commodity and not a waste.

spwm patton26Their first acquisition was the Midland Basin produced water infrastructure from Encana, consisting of more than 100 miles of pipeline and five saltwater disposal wells (SWDs) with a capacity of more than 80,000 barrels per day.

In May 2018, they announced the first commercial truckless, produced water hub in Texas. They followed that with a long-term water agreement with Legacy Reserves and a joint venture with Layne Water Midstream on University Lands in the Delaware Basin, which became known as UL Water Midstream.

This great progression of growth and acquisition was not by accident, instead the result of a seasoned executive team led by Jim Summers and consisting of Stephen McNair, Gerardo Rivera, Gauri Potdar, Barry Ballard, Darrell Bull and Frank Olmsted. This amounts to more than 200 years of midstream experience. H2O Midstream also needed the front-line management by Dennis Schmitt, Matt Tate and others to help execute their vision.

With the beginning of a “Super System” in place, the next acquisition moved them clearly into Super System status. This acquisition was the produced water infrastructure of Sabalo. Adjacent to H2O Midstream’s existing Howard County operations sits Sabalo’s 37 miles of pipeline, nine Ellenburger saltwater disposal permits and several third-party interconnects.

With the beginning of a “Super System” in place, the next acquisition moved H2O Midstream clearly into Super System status.

With San Andres disposal wells in the Midland Basin being overpressurized, the addition of deeper Ellenburger wells becomes critically important. Their Midland Basinbased Super System consists of:

THE SUPER SYSTEM
• First third-party, truckless produced water hub in the Permian Basin consisting of 1 million barrels of produced water storage that is available to multiple customers for enhanced reliability, peak flowback management and reuse
• 560,000 barrels per day (bpd) of permitted disposal capacity from 24 SWDs (16 owned and eight third-party) via a pipeline network of more than 200 miles
• Four Ellenburger SWD well permits comprising 120,000 bpd of capacity

spwm patton27IT’S ALL ABOUT SCALE
This Super System provides great scale and with scale, comes a cost reduction (see inset on economies of scale). It is not unusual to see an operator’s produced water infrastructure operate at 50% or lower utilization as they are always planning on expansion and cannot risk a lack of capacity or availability to stop their growth.

The Super System concept leverages size and multiple interconnects to company-owned and third-party disposal wells to increase utilization and reliability. Now you are getting increased scale and efficiency for even lower cost.

We expect water midstream companies to build bigger and bigger networks, but scale alone isn’t all you need. You need utilization of your capacity, which means you need contracted volume or acreage dedications.

Unused capacity as a result of a lack of contracted volume will only increase your overall cost as your fixed costs are now spread over a smaller volume. However, as you increase utilization, you have to be efficient and a good operator. You cannot afford upsets or downtime because you will likely have contractual commitments on produced water takeaway capacity. Hence, reputation and uptime will become important to the water midstream company and its growth and success.

spwm patton28HOW TO BUILD A SUPER SYSTEM
For H2O Midstream, this started with a key acquisition, some organic growth and another key acquisition. But is it really that simple? In short, No. This is where reputation and performance play a role.

This Super System provides great scale and with scale, comes a cost reduction.

The key to success when building a Super System is reputation and reliability. Operators aren’t going to partner with someone who doesn’t have the operational reputation to manage their produced water or produced water assets. This is what will ultimately differentiate the winners from the losers in the water midstream business.

spwm patton29IT’S REALLY ABOUT RELIABILITY AND REPUTATION
So, how exactly do you achieve reliability? For H2O Midstream, the pursuit of Health, Safety, Environmental and Regulatory (HSER) excellence is a core value. Safe, reliable and environmentally sound operations are a top priority. Based on decades of industry experience, they have developed best practices for water, which parallel those used by best-in-class midstream operators for hydrocarbons. From their first day of operation, H2O Midstream has achieved 99.98% runtime and zero recordable incidents as a result of their commitment to core principles.

These core principles are:
• Continuously foster their HSER culture by committing to human health, safety and good environmental stewardship at work sites and in communities where they conduct their business
• Engage and communicate openly with their employees, contractors, neighbors, business community, officials, public-interest groups and other stakeholders regarding significant HSER matters
• Meet or exceed applicable health, safety, environmental and regulatory laws and standards
• Train their employees to anticipate, recognize and mitigate health, safety and environmental risks in all phases of their work
• Empower employees and contractors with the right and responsibility to stop work they believe may be unsafe or environmentally unsound
• Explore opportunities to minimize the impact of their business on the environment and communities where they operate by reducing their land footprint, wastes, emissions and discharges, and by using water and energy efficiently
• Establish health, safety and environmental accountability metrics for their operations and monitor ongoing performance results.
• Articulate clear health, safety and environment expectations to their employees and contractors, and provide incentives to meet and exceed those expectations

Most water midstream companies have plenty of cash, and with cash, someone is going to sell you gathering systems and disposal wells. But without the reputation and operational performance, they will not secure the long-term contractual relationships needed to build a Super System, at least not a sustainable one with the cost structure that will attract more operators.

And you can’t develop reputation and operational performance without the establishment and execution of core principles.

ENVIRONMENTAL SUSTAINABILITY
For H2O Midstream, environmental sustainability is already incorporated into their core principles. Core principles alone don’t get it done. You must also execute on those core principles.

For example, elimination of trucking for water operations by using interconnected pipeline networks in Howard County. Eliminating trucks provides for a significant reduction in the carbon footprint, while reducing the risk of injuries or accidents by 37 times.

It’s not just eliminating trucks, obtaining environmental sustainability includes stewardship of best practices by a world-class water midstream team. Environmental sustainability is becoming a more important principle today.

The oil and gas industry as a whole has a bad reputation, and that reputation is beginning to impact oil price and may be partly responsible for capital drying up for drilling and completions in the unconventional oil and gas industry.

Another important area that is creating better environmental sustainability is recycling produced water. H2O Midstream found that acceleration of produced water recycling by leveraging common infrastructure across contiguous acreage to fundamentally change the economics for smaller producers provided the best path forward.

spwm patton30THE ROAD TO EL DORADO
No, not the lost city of gold, but H2O Midstream’s recycle facility incorporated into their Super System. For this facility, and considering environmental sustainability, H2O Midstream selected Hydrozonix as their recycle technology partner.

Eliminating trucks provides for a significant reduction in the carbon footprint, while reducing the risk of injuries or accidents by 37 times.

Hydrozonix provided a package of aeration and ozone to complete most of the treatment with gravity settling for solids.

Hydrozonix provided a package of aeration and ozone to complete most of the treatment with gravity settling for solids. This provides an environmentally sustainable solution by replacing liquid chemicals like oxidizers and coagulants with air for aeration and ozone, which is made by compressing air, separating oxygen and adding electricity.

The raw material for this type of recycling is the surrounding air, with no liquid-chemical usage or storage. Recycling in itself is an environmentally sustainable practice, but when you can accomplish it with a lower carbon footprint and a lower cost, everybody wins.

A key part of the overall design is pits used for primary treatment and settling, as opposed to tanks. These primary pits are designed with a slope that allows solids to settle in one end of the pit, while a suction manifold allows the solids to be collected regularly.

Previous applications of this pit design have achieved solids reduction similar to a 5-micron filtration system, but all using gravity settling without coagulants.

Not only is this a greener and more sustainable solution, it also reduces the cost of produced water recycling. The key aspects of the produced water recycling program are bacteria, iron, sulfide and solids control.

spwm patton31Aeration is used for both pre-treatment and to maintain the quality of the treated produced water. Ozone is a strong, but natural oxidizer that provides bacteria, iron and sulfide control. Ozone also degrades to oxygen, providing some extra oxygen for the aeration program.

Other oxidants can leave chlorinated byproducts, which at some point will have to be addressed and removed if produced water ever takes the next step to discharge quality or agricultural reuse.

Oxygen is a mild oxidizer that will also provide bacteria, iron and sulfide control. Because it is a weaker oxidizer, it requires much more time to work. Produced water storage points are ideal for aeration.

Aeration replaces pit treatments with liquid chemical biocides or oxidizers. One of the challenges is to apply aeration in a way that it doesn’t work against the gravity settling that is being used for solids control. You can accomplish this by isolating the two processes or adding turbidity curtains.

A part of our HYDRO3CIDE ozone oxidation system is our operating platform we call hydrOS. This operating system not only controls the ozone system, but is the operating system for the entire recycling facility.

hydrOS is controlling the aeration systems, pumps, valves and the ozone system. Programmed logic will allow pumps and valves to open and close when key performance indicators are met without any operator intervention. This operating system can be and has automated a completely unmanned recycling operation. This leads to additional cost savings.

spwm patton32SUMMARY
Through numerous meetings, design reviews, field visits and conference calls in planning for El Dorado recycling facility, I was able to get a peek behind the H2O Midstream curtain and with that learned to appreciate the vision and execution of their core values that make them a special team.

We all understand the important role water midstream companies will play in the future of produced water management, but what we learned from H2O Midstream is success has more to do with building a reputation based upon performing with peak operational efficiency. Then taking that reputation to engage and partner with operators to build safe and efficient gathering systems.

We have been honored to participate in their El Dorado recycling facility and the development of a truly environmentally sustainable produced water recycling facility. We expect to see even more great things from H2O Midstream and anxiously await the next phase of El Dorado. 

 

Authored by Mark Patton