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MERGERS & ACQUISITIONS • PRIVATE CAPITAL• STRATEGIC ADVISORY
Energy Sector Report
AN OVERVIEW OF NONDESTRUCTIVE TESTING
An Overview of Nondestructive Testing | BlackArch Partners | 2
Nondestructive testing (NDT) is the use of non-invasive analysis techniques to
quantitatively inspect, measure and evaluate the safety and integrity of
mission-critical infrastructure and systems without interfering with the overall
operation or future usefulness of those assets. This creates an interesting
proposition for asset owners and operators within the oil and gas industry, who
must balance increasingly stringent, non-discretionary regulatory and
environmental compliance and safety requirements placed on energy drilling,
production, transportation, storage and processing assets and systems.
The NDT market represents a sub-segment of the broader testing, inspection and
certification (TIC) industry, a $125 billion global market. The TIC industry spans a
diverse range of primary end markets, including energy, manufacturing,
transportation, aviation and healthcare. Driven by the perpetual and increasing
demand for safety, quality and compliance, companies in the TIC industry
provide a vast array of services throughout the full lifecycle of the underlying asset.
The NDT market has displayed considerable expansion recently as a result of
secular growth driven by recurring maintenance spending and expansionary
capital investment, resulting in an estimated $3.5 billion in annual spending in the
industry across all end markets. However, improvements in safety remain the
primary motivator for TIC services as firms attempt to minimize the probability of
catastrophic failure, especially as a result of the several recent, high-profile
incidents noted in CHART A. This graphic illustrates the evolution of the NDT
industry in response to technological advancements, end market demands and
regulatory forces over the past two centuries.
CHART A: Evolution of the NDT Industry
Introduction
Technological Innovation
1800s
End Market Developments
Regulatory Forces
Digital Radiography, Automated Phased Array
“Oil and Whiting” and Visual Inspection methods
Magnetic Particle; Eddy Current; Industrial Radiography; Ultrasonic;
Acoustic Emissions Testing developed
Emergence of NDT within the rail and
automotive industry
1920s-1950s 1950s-1980s 1980s-Present
1895: X-Rays discovered by Wilhelm Conrad Röntgen
Growth spurred by WWII and quality requirements across the transportation, maritime, aerospace and
industrial sectors
Growing, but highly fragmented regulatory
framework
Increased globalization of international standards and
best practices
1976: ASNT establishes NDT level III certification program
9
Application of NDT across numerous end markets
such as energy, healthcare, chemicals April 2010: BP Macondo
oil spill – catalyst for heightened compliance
requirements in the GOM
September 2010: San Bruno pipeline explosion – triggered national pipeline regulation
movement
Data management, risk-based analysis and predictive analytics
services
Workplace Safety Rule/SEMSMandatory MI programs for all
production assets
Shale play proliferation
An Overview of Nondestructive Testing | BlackArch Partners | 3
NDT services validate the integrity of materials and process equipment by detecting
defects/deficiencies that could lead to failure and by providing analyses on asset life, asset
usage, etc., offering a balance between quality control and cost effectiveness. This results in
improved performance economics due to reduced repair costs, extended asset life,
greater levels of safety, higher asset quality and compliance with standards and
governmental regulations. Additionally, capacity utilization is improved as a result of
reduced scheduled or unexpected downtime. The most common methods of NDT include
visual inspection, liquid penetrant inspection, magnetic particle inspection, radiography,
Eddy current testing and ultrasonic inspection, which are described in further depth in
CHART B.
CHART B: Common Methods of NDT
The NDT universe is a highly fragmented market of service providers that includes small,
locally operated companies, as well as a select group of larger, more diversified players.
Within this market, few independent companies possess the size and scope (across both
service lines and end markets) to operate as a one-stop shop for all end market customers.
Visual Inspection
Most basic inspection method, which utilizes tools such as fiberscopes, borescopes and magnifying glasses
Large tanks, vessels and sewer lines can be inspected with the a portable video inspection unit
Robotic crawlers permit observation in hazardous or tight areas, such as air ducts, reactors and pipelines
Liquid Penetrant Inspection
A liquid with high surface wetting characteristics is applied to the area of inspection and allowed to seep in to the surface breaking defects
A developer in the form of a powder is applied to the area’s surface to pull out and collect the trapped liquid
The accumulated liquid is loaded with a dye and inspected under UV light to reveal potential defects in the area
Magnetic Particle Inspection
The part to be inspected is first magnetized and coated with finely milled iron particles
The iron particles are attracted to magnetic flux leakage fields and will cluster directly over any discontinuity in the part, creating a visually detectable indicator under correct lighting conditions
The source of radiation can come from either an X-ray generator or a radioactive source to examine a part
In film radiography, the part is placed between a radiation source and a film piece, which will display relatively darker or lighter areas of development depending on the density of specific sections of the part
Uses electromagnetic induction to detect flaws in conductive materials
Well suited for detecting surface cracks but can also be used to make coating thickness measurements
High frequency sound waves are introduced into a material and are reflected back from surfaces or flaws
Reflected sound energy is displayed as a cross section of the part’s depth of features that reflect sound
Radiography
Eddy Current Testing
Ultrasonic Inspection
An Overview of Nondestructive Testing | BlackArch Partners | 4
A variety of factors continues to influence the evolution of the TIC and NDT
markets:
Increasingly stringent regulations, codes and standards
Trend towards outsourced services
Consolidating base of service providers
Increasingly Stringent Regulations, Codes and Standards
Within the broader TIC industry and NDT sub-sector specifically, significant
standards and oversight of engineering services and non-destructive testing are
already in place both domestically and internationally through organizations such
as the American Society of Mechanical Engineers (ASME) and International
Organization for Standardization (ISO). However, in response to high profile
incidents, including the BP Macondo disaster (2010), the San Bruno pipeline
explosion (2010) and the BP Texas City refinery explosion (2005), a more stringent
focus on safety, environmental sustainability and regulatory compliance continues
to develop. According to a recent study by Forbes magazine, more than half of
executives interviewed cited
regulations and environmental
opposition as the biggest
concerns facing the energy
industry over the next 5 to 10
years (summarized in CHART
D). As a result of the
heightened public and
regulatory focus on safety, asset
owners and operators across the
industry are continually faced
with high economic and
reputational costs of
non-compliance.
A Shifting
Landscape for the
TIC/NDT Industry
CHART D: Biggest Concerns Facing
Energy Industry Over the Next 5 to 10 Years (% of Executives Interviewed)
Source: Forbes 2012
7%
20%
21%
23%
27%
52%
66%
0% 20% 40% 60% 80%
Other
Difficulty Finding New Supply
Lack of R&D Financing
Foreign Market Instability
Shortage of Skilled Workers
Environmental Opposition
Regulations
An Overview of Nondestructive Testing | BlackArch Partners | 5
Trend Towards Outsourced Services
As a result of the increasing sophistication of NDT methods and stricter
regulations, combined with the increased usage of data for compliance, insurance
and engineering purposes, asset owners and operators across the energy spectrum
are: i) increasingly complementing their in-house NDT and mechanical integrity
testing functions to third-party providers and ii) tightening the selection criteria in
their choice of vendor partners. Given the mission-critical nature of NDT services,
the industry shift away from smaller, less-capitalized operators to larger,
professional service providers with broader capabilities has
disproportionately benefitted more established companies over the past few years.
Consolidating Base of Service Providers
The global TIC industry remains highly fragmented, with nearly 60% of the market
comprised of small companies generating less than $13 million in annual revenues.
However, a select group of major players and
several mid-sized service providers have
remained highly acquisitive in an attempt to
bolster their portfolio of service offerings and
gain access to new end markets. One particular
driver behind consolidation trends is the
limited and aging workforce of certified
technicians, with the average age of NDT
inspectors having increased from 41.5 years in
2006 to 45 years in 2010. CHART F illustrates
the highly fragmented nature of the TIC
industry.
Primary customers for NDT services across the energy markets include: i) oil and
gas exploration and production companies; ii) offshore oil and gas structure
fabrication contractors; iii) offshore and onshore oil and gas pipeline owners,
operators and contractors and iv) oil and gas drilling and production equipment
manufacturers. CHART G, displayed on the following page, presents the NDT
requirements associated with primary energy infrastructure across the primary end
market in the energy sector.
End Market Customers of NDT
Services in the Energy Sector
CHART F: TIC Market Share
Source: Analyst research
59%
41%
<$13 Million of Revenues
Large-Cap Providers
An Overview of Nondestructive Testing | BlackArch Partners | 6
CHART G: NDT Requirements of Key Energy Infrastructure
Onshore
Mid
stre
amD
ow
nst
ream
Critical Infrastructure NDT Requirements
Inspection of fabricated piping and pressure vessel welds and valves
Ongoing inspections and maintenance of production platform piping systems and critical infrastructure
Mechanical integrity programs mandated for all production equipment and systems in the GOM
In-line inspection of risers, internal welds and other difficult to access platform infrastructure
Industry pressure mounting to increase inspection frequency
Well Completion Equipment
Onshore Production Facilities
Onshore Oil and Natural Gas Pipelines
Offshore Oil and Natural Gas Pipelines
Petrochemical / Chemical Plants
Oil and Natural Gas Refineries
Inspections for pipeline internal and external corrosion and cracking
Weld integrity testing
Point-to-point inspections and assessments of pipe wall thickness to detect leaks and localize deficiencies
Integrity management, fitness-for-purpose assessment and risk-based assessment required throughout the operating life of the pipeline
Certification of distribution pipeline safety, pursuant to regulatory standards
High-temperature corrosion monitoring of critical plant equipment and piping systems
In-line assessments of rotating equipment to minimize downtime and improve utilization
Mechanical integrity and predictive maintenance to prolong the operability of rotating equipment and plant assets
Certification of asset installation, maintenance and repair
Repetitive service needs driven by perpetual operating schedules
Up
stre
am Evaluation of potential wellhead sites and
inspection of fabricated piping
Extensive drill pipe and tool inspection, utilizing bottom hole assembly inspection and full length ultrasonic inspection
Casing and coil tubing inspection using EMI equipment to evaluate well deterioration
Recurring evaluation of equipment and material integrity once well becomes productive due to increasingly harsh operating conditions of new drilling techniques
Offshore Fabrication Yards
Oil and Natural GasProduction Platforms
Offshore
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Overview of the Upstream Energy Sector
The upstream energy market is comprised of oil and gas exploration and
production (E&P) companies that drill for and extract oil and natural gas from
inland and offshore deposits. According to industry resources as of May 2014,
there are approximately 1,854 onshore and offshore drilling rigs currently operating
in the United States producing approximately 7.8 million barrels of oil per day.
Upstream activity reflects the global demand for oil and gas, which has continued
to rise in large part due to the sustained growth in long-term energy demand,
particularly from emerging economies.
Onshore Market
The onshore oil and gas value chain starts with the exploration of suitable drilling
areas and is set in motion after wellsite activity is permitted at either the federal or
state level. After identification, investment in infrastructure and equipment is
necessary to complete the wellsite in preparation for drilling activity. During the
well completion phase, NDT services are necessary to ensure operational safety and
productivity once the wellsite becomes active. Drill pipe and tool inspection has
been made increasingly effective through the use of computerized electromagnetic
inspection, which quickly and accurately detects pipeline wall deterioration and
other defects. Once well production begins, NDT inspection services are required
on a continual basis to conduct follow-on testing and to ensure all equipment
functions properly. CHART H illustrates the onshore oil and gas process.
CHART H: Oil and Gas Operations Process
Upstream Energy
Sector Overview
Onshore Market
Overview
Recurring Pipeline
Inspection and Maintenance
Manages conservation of federal lands and natural resources
Well Production Continual follow-on
work and inspection necessary once well becomes operational
z
Advanced Drilling Techniques Spur Continued Growth
Escalating Wellsite Cost Ensure Demand for NDT Services
~ 75%of all U.S. drilling activity in
2013 was horizontal and directional drilling
$6.5 M - $9.5 Mto drill a horizontal well, nearly double the cost of
conventional well drilling
Environmental Disasters Drive Increasingly Stringent Regulation
Exploration and Drilling Activity
Drilling, Casing and Well Completion
Oil and Gas Well Production
Onshore Pipelines
Exploratory Drilling Identification of suitable
areas to initiate large-scale, profitable drilling operations
Well Completion Casing and tubing
inspection necessary to enable wells to produce oil or gas
140Year estimated supply of
domestic natural gas reserves
> 60%First year decline rates of natural gas shale plays
An Overview of Nondestructive Testing | BlackArch Partners | 8
The onshore market has been influenced by three primary trends, including: 1)
increasing onshore drilling activity; 2) greater wellsite costs as a result of escalating
operational complexity; 3) growing service intensity; and 4) more stringent
environmental regulation.
Increase of Onshore Drilling Activity
The need for E&P investment and related NDT service support has grown in
tandem with greater onshore drilling activity. Industry sources agree that the
“easy” energy sources are becoming scarce as a result of this increase in activity. In
response, E&P companies allocated a record high $678 billion in 2013 to capital
spending, a increase of 10.0% from 2012.
The migration towards advanced extraction techniques and processes, such as
directional drilling and hydraulic fracturing has been dramatic, unlocking
significant reserves in unconventional formations. However, the use of new
drilling techniques has resulted in much higher production decline rates between
resource plays: while a standard
vertical well historically
experienced decline rates of about
20% to 30% in its first year of
production, initial observations
suggest a first year decline rate in
excess of 60% for natural gas and
liquid-rich shale plays. This shift
is expected to drive shorter
duration, but more frequent
expansionary drilling activity.
CHART I supports the increased
importance of wellsite NDT
services as operators are forced to
drill more wells in closer
proximity to maintain the
production levels of their
positions.
CHART I: Rising Well Count and Footage Drilled
Source: Analyst Research
U.S
. W
ell
Dri
lled
(00
0s)
Fo
ota
ge
Dri
lled
(m
m f
t.)
Average Footage Drilled Per Well
2009: 6,233 ft. 2013: 7,284 ft.
34 40
45 47 48
0
10
20
30
40
50
60
2009 2010 2011 2012 2013
215 264
311 335 346
0
75
150
225
300
375
450
2009 2010 2011 2012 2013
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Escalating Operational Complexity Resulting in Greater Wellsite Costs
The widespread adoption of advanced drilling techniques has culminated in
significantly higher service intensity levels and wellsite costs that average two to
three times more than conventional methods. According to an EIA analysis of
well-related expenses in the Eagle Ford, Marcellus and Bakken shale plays, the
average cost of drilling horizontal wells can range from $6.5 million to $9.0 million
compared to approximately $2.0 million to $5.0 million for conventional vertical
wells. Driving these escalating costs are the greater lateral lengths and fracturing
stages per well that characterize unconventional drilling applications (reflected in
CHARTS J and K). Notably, the extended lengths of underground infrastructure
required for horizontal drilling increase the incidence of malfunction.
Growing Service Intensity
In combination with a shift by operators in the United States from dry gas to more
liquid-rich oil reserves and geographies, additional services are required to manage
the extraction and separation of
hydrocarbons. Notably, advanced
gas systems are one of several add-on
services provided in liquid-focused
regions. CHART L illustrates the
compounding service intensity
factors by: (i) drilling convention and
(ii) natural resource type.
CHART J: Increasing Lateral Lengths CHART K: More Fracturing Stages
Source: Baker Hughes, Analyst Research Source: Baker Hughes, Analyst Research
0
5
10
15
20
25
30
35
40
45
Bakken Eagle Ford Fayetteville Haynesville Marcellus Woodford
Av
erag
e F
rac
Sta
ges
Per
Wel
l
2008 2009 2010 2011
2008 Average: 9 Stages
2011 Average: 25 Stages
0
2,000
4,000
6,000
8,000
10,000
12,000
Bakken Eagle Ford Fayetteville Haynesville Marcellus Woodford
Av
erag
e L
ater
al L
eng
th (
Fee
t)
2008 2009 2010 2011
2008 Average: 4,060 ft.
2011 Average: 8,333 ft.
CHART L: Compounding Service Intensity
Source: Baker Hughes, Analyst Research
1.0x
4.0x
8.0x
0.0x
2.0x
4.0x
6.0x
8.0x
10.0x
Vertical Well Horizontal
Gas Well
Horizontal Oil
Well
Ser
vic
e In
ten
sity
An Overview of Nondestructive Testing | BlackArch Partners | 10
Greater Emphasis on Environmental Regulation
In the onshore market, the shift to more challenging resource plays and the use of
service-intensive extraction techniques are drawing scrutiny and increased
compliance requirements from regulators and environmental advocacy groups.
Safety concerns around drilling in complex formations, coupled with the real and
perceived environmental fears related to hydraulic fracturing and groundwater
contamination (particularly in densely populated and earthquake prone regions)
has culminated in a renewed focus on safety, environmental sustainability and
regulatory compliance. This tightening regulatory environment, which
increasingly resembles the more stringent offshore requirements, continues to
impact the decision making of operators across the energy landscape.
An Overview of Nondestructive Testing | BlackArch Partners | 11
Offshore Market
The Gulf of Mexico (GOM) is one of the largest offshore hydrocarbon reserves in
the world with an estimated 6.1 billion barrels of oil and 27.2 trillion cubic feet of
natural gas. After a period of declining new drilling activity in the wake of the BP
Macondo oil spill, capital spending activity in the U.S. GOM has rebounded over
the past two years.
The production of hydrocarbons within the GOM reflects the cumulative efforts of
a wide range of parties and begins with leasing and permitting activities. Once a
permit is obtained, drilling and production activities commence, which, in turn,
lead to significant capital expenditures and the demand for production
infrastructure. During the phase for offshore production infrastructure, NDT
companies provide testing and inspection services, along with baseline mechanical
integrity (MI) services, for fabrication yard operators. NDT services are
required even after the completion of the construction phase, as a recurring base of
demand is generated upon the commissioning of production infrastructure.
Finally, new production facilities typically require the installation of new offshore
pipelines to transport the produced hydrocarbons onshore for processing. CHART
M illustrates the GOM operations process.
CHART M: GOM Oil and Gas Operations Process
Offshore Market
Overview
Offshore Pipelines Testing and inspection
services for offshore pipeline systems
z
Expanding Drilling and Production Activity
Ongoing NDT Needs Throughout the Full Production Asset Lifecycle
> 2,800Production Platforms and
Structures in the GOM, with an Average Life of 40 Years
< 40%of GOM Operators Have Fully Implemented the Mandated MI Program
Increased Regulatory Oversight –SEMS Mandatory MI Program
Permitting and Compliance Requirements for Operators
Drilling / Workplace Safety Rules
Exploration and Drilling Activity
Production Platform Fabrication and Installation
Oil and Gas Production
Offshore Pipelines
Petrochemical Plants
Refineries
Fabrication Yards Testing, inspection and
front-end MI assessments of oilfield production equipment and systems
Offshore Platforms Continual platform MI as
mandated by Safety & Environmental Management System (SEMS) and riser inspection (RADAR)
25,000
Miles of Offshore Pipelines in the GOM
30%Increase in GOM
Infrastructure Spending in 2013 to $40 Billion
Leasing Activity
An Overview of Nondestructive Testing | BlackArch Partners | 12
Similar to the onshore oil and gas sector, drilling and production activities in the
GOM have evolved considerably in recent years. The primary factors that continue
to shape the complexion of the U.S. offshore oil and gas industry in the GOM
include: 1) the resurgence of GOM drilling and production activity, 2) increased
capital spending and infrastructure requirements to support growth, 3) installation
of the offshore infrastructure base and 4) an increasingly stringent regulatory
environment.
Resurgence of GOM Drilling and Production Activity
Continuing its recovery from the downturn that followed the BP Macondo oil spill
of April 2010, the GOM has re-emerged as one of the world’s most prominent oil
and gas producing regions. One
of the leading indicators of the
resurgence of GOM production
is permitting activity, which has
steadily increased since the
lifting of the federally imposed,
six-month deepwater drilling
moratorium in 2010. The
number of offshore drilling
permits issued to operators in
the GOM increased by
approximately 31% from 2011 to
2013, as shown in CHART N.
In line with improved permitting and leasing trends, drilling activity in the GOM
has returned to pre-Macondo levels and continues to rise.
Increased Capital Spending and Infrastructure Requirements
The accelerated growth in drilling and production activity across both the shallow
water and, more notably, the deepwater regions of the GOM has resulted in
unprecedented levels of capital spending. For 2013, total offshore spending across
the GOM exceeded $40 billion, an increase of 30% over prior year levels.
CHART N: GOM Drilling Permits and Rig Activity,
2008 to 2013
Source: Baker Hughes, Quest Offshore Resources, Inc.
0
15
30
45
60
75
0
100
200
300
400
500
2008 2009 2010 2011 2012 2013
Deepwater Drilling Permits Shallow Water Drilling Permits
Total Rigs in the GOM
Rig CountPermits
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CHART O illustrates the
historical capital spending levels
across the shallow water and
deepwater regions of the GOM.
In conjunction with heightened
levels of offshore spending, the
movement of producers into
deeper, more demanding
regions of the GOM has driven
significant growth in fabrication
yard activity as increasing
amounts of infrastructure, such
as floating production systems
(FPS), are needed to support
deepwater production. The
growing complexity of
deepwater infrastructure assets
has contributed to the
substantial increase in the GOM
offshore fabrication backlog.
CHART P highlights this growth
since 2003 for GOM fabrication
across the types of offshore
infrastructure.
Installed Offshore Infrastructure Base
Currently, there are more than 2,800 active production structures and subsurface
facilities in the GOM, as well as more than 25,000 miles of oil and gas pipeline on
the GOM sea floor. Production operations, which are driven primarily by sustained
energy demand, are much less sensitive to changes in oil and natural gas prices
than drilling operations, as the marginal costs of operating production platforms
are relatively low. Producers will typically operate platforms for up to 40 years
because the ongoing costs to operate the platforms are minimal when
compared to the revenues generated from production. As a result of their
CHART P: GOM Offshore Fabrication Backlog
Source: Quest Offshore Resources, Inc.
CHART O: GOM Offshore Capital Spending ($ in Billions)
Source: Quest Offshore Resources, Inc.
$0
$5
$10
$15
$20
$25
$30
2008 2009 2010 2011 2012 2013
Deepwater Shallow Water
Average: $10.5 Billion
$22.5 Billion
0
100,000
200,000
300,000
400,000
500,000
600,000
700,000
800,000
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Metric Tonnes
Floating Production Systems Fixed Platform Drilling Other
An Overview of Nondestructive Testing | BlackArch Partners | 14
perpetual operating schedules, the extreme environmental conditions in which they
operate and the increasingly
stringent safety and operating
requirements, production platforms
throughout the GOM require a high
degree of inspection, maintenance
and mechanical integrity support.
According to Quest Offshore
Resources, annual operating ex-
penses across the GOM have from
$16.8 billion in 2008 to $18.3 billion
in 2013 (reflected in CHART Q).
Increasingly Stringent Regulatory Environment
In response to the BP Macondo oil spill of April 2010, the U.S. Department of the
Interior’s offshore regulatory structure was overhauled. This reorganization
resulted in the Bureau of Ocean Energy Management, Regulation and Enforcement
(BOEMRE), which, on October 1, 2011, was divided into two individual entities:
the Bureau of Ocean Energy Management (BOEM) and the Bureau of Safety and
Environmental Enforcement (BSEE). Since its creation, the BSEE has undertaken
aggressive and comprehensive reforms to offshore oil and gas regulation, provid-
ing clarification as to the minimum inspection standards and strengthening a range
of requirements from well design and workplace safety to corporate accountability,
as depicted in CHART R.
CHART R: Major Legislation Affecting the Offshore Oil and Gas Industry
CHART Q: Offshore Opex Spending
($ in Billions)
Source: Quest Offshore Resources, Inc.
$5.7 $6.2 $6.7 $7.1 $7.3 $7.6
$11.1$11.2 $11.3 $10.8 $10.6 $10.5
$16.8$17.4 $17.9 $17.9 $17.8 $18.1
$0
$5
$10
$15
$20
2008 2009 2010 2011 2012 2013
Deepwater Shallow Water
Workplace Safety Rule
(October 2010)
Applies to all offshore oil and gas operations in federal waters and makes mandatory the previously voluntary practices in the API’s Recommended Practice 75 (RP 75)
Requires that offshore oil and gas operators develop and maintain a SEMS program with the initial SEMS audits to be completed by November 2013
A SEMS program is a comprehensive management program for identifying, addressing and managing operational safety hazards and impacts
Requires all operators to implement a comprehensive mechanical integrity program for all equipment and systems used in the production of hydrocarbons and report annual performance measures data to the BSEE
Drilling Safety Rule
(August 2012)
Prescribes heightened equipment standards, safety practices and environmental safeguards that must be met prior to the commencement of exploration and development activities
Permit applications for drilling projects must meet new standards for well-design, casing and cementing, and be independently certified by a professional engineer – operators must demonstrate that they are prepared to deal with a potential blowout and worst-case discharge
Modified Workplace Safety Rule – SEMS II
(April 2013)
Enhances the original SEMS rule by supplementing operators’ SEMS programs with greater employee participation and oversight, while also improving guidelines for reporting unsafe work conditions to BSEE
Imposes new requirements for job safety analysis, stop work authority, employee participation plans and mandatory audits to be conducted by accredited third-parties
Audits of SEMS II compliance must be completed by June 2015
An Overview of Nondestructive Testing | BlackArch Partners | 15
Overview of the Midstream Energy Sector
Current North American midstream infrastructure exceeds 2.5 million miles of
pipeline that transport trillions of cubic feet of natural gas and hundreds of billions
of ton-miles of liquid petroleum products each year. This existing midstream
infrastructure network creates annual spending in excess of $6 billion for
maintenance, inspection and integrity services.
CHART S: The Midstream Infrastructure
Long-term industry trends have created demand for NDT, integrity and
maintenance services among midstream asset owners and operators. The three
primary trends are: 1) an aging midstream infrastructure, 2) increasingly stringent
regulatory requirements and 3) the transformation of domestic midstream
infrastructure in response to the development of new shale locations.
Midstream Energy
Sector Overview
z
Gathering Pipeline
Trucks/Barges
NG/NGL/Oil Pipeline
Crude Oil Refining/NGL Fractionation
Storage
Trucks/Barges
NG/NGL/Refined Products Pipelines
Gas Processing and Compression
Manufacturing Petrochemical Power
Generation
Recurring Maintenance, Repair and Testing Demands
Increasing Regulatory, Safety and Environmental Requirements
Proliferation of Shale Plays
2.5 Million
Miles of Pipeline in the United States
400Number of Domestic Underground Storage
Facilities
525Number of Domestic
Gas Processing Facilities
1,400Number of Natural Gas Compressor Stations in
the United States
Extensive New Infrastructure Construction Needs
Enforces safe operation of U.S. pipeline transportation and infrastructure
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Aging Midstream Infrastructure
The North American midstream infrastructure is aging and requires consistent
maintenance, and inspection. Approximately 50% of non-distribution pipelines in
the United States are more than 40 years old, and an estimated 30% of existing
pipelines are beyond their useful lives. CHART T illustrates the estimated age
distribution of domestic pipeline infrastructure for gas transmission and gathering,
hazardous liquids and gas distribution infrastructure, respectively.
CHART T: Aging Midstream Infrastructure
Increasingly Stringent Regulatory Requirements
Mirroring the broader energy landscape, the midstream infrastructure sector has
become subject to increasingly stringent regulatory requirements and escalating
costs of non-compliance. Pressure to strengthen regulation has resulted from a
handful of major incidents, including the San Bruno pipeline explosion in 2010 and
the Enbridge Energy oil spill into the Kalamazoo River in 2010, which was the
largest and most costly on-land oil spill in U.S. history. Disasters such as these over
the past decade drove major legislation changes that have affected midstream asset
owners and operators. CHART U (following page) presents a summary of recently
implemented legislation.
Gas Transmission
and Gathering
Hazardous
Liquids
Gas
Distribution
Source: U.S. Department of Transportation
59%
32%
9%
56%36%
8%
31%
50%
19%
56.0% 36.0%
8.0%
> 40 Years 10 Years to 40 Years < 10 Years
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CHART U: Aging Midstream Infrastructure
Shale Development Drives Transformation of Midstream Infrastructure
The development of new drilling techniques such as hydraulic fracturing and
horizontal drilling have enabled exploration and production firms to access trapped
hydrocarbons that were previously considered inaccessible. The result has been a
significant migration of production activity and investment directed at North
American unconventional liquids-rich shale plays. However, these liquids-rich
plays are underserved by existing midstream infrastructure. The significant
geographic disparity between new shale plays and legacy infrastructure confirms
that existing pipelines are not suited to access new production locations.
Pipeline Safety Improvement
Act (2002)
Mandates pipeline operators and owners prepare and implement an Integrity Management Program Requires owners to identify High Consequence Areas in the area of their assets, conduct risk analysis,
perform baseline integrity assessment and inspect the entire pipeline system on a prescribed schedule
Pipeline Safety, Regulatory Certainty and Job Creation
Act (2012)
Increases the maximum fines for safety violations to $250,000/day for a single violation, and to $2.5 million for a series of violations
Permits the DOT Secretary to evaluate whether integrity management should be expanded Permits the DOT Secretary to mandate use of remote-controlled shutoff valves
49 CFR Part 192 (2010) Requires operators of gas distribution pipelines to develop and implement integrity management
programs (DIMP), including threat identification, risk assessment, risk mitigation strategies, regular testing and reporting
Pipeline Inspection and Protection Act (PIPES) (2006)
Establishes minimum standards for Integrity Management Programs regarding distribution pipelines Sets standards for maintaining hydrocarbon pipelines to minimize erosion and corrosion Statutes enforceable by DOT
Key Legislation Direct Implications for Owners/Operators of Midstream Infrastructure
An Overview of Nondestructive Testing | BlackArch Partners | 18
Overview of the Downstream Energy Sector
The downstream energy sector is comprised primarily of refineries and
petrochemical plants. Refineries engage in the distillation of crude oil,
re-distillation of unfinished petroleum derivatives and other processes to produce
gasoline, kerosene and residual fuel oils. Approximately 143 refineries are
currently located in the United States. Over the last three decades, consolidation
among refinery owners and a trend towards expanding existing facilities rather
than building new refineries have driven an increase in average refining capacity
per facility from 70,000 barrels per day (bpd) in 1985 to 125,000 bpd in 2013. At the
same time, U.S. refineries continue to operate at extremely high utilization rates
that have averaged more than 85% since 1990. The perpetual uptime and extreme
operating requirements placed on the assets in the petrochemical refinery sector
have resulted in significant needs for NDT, maintenance and repair
services. As a result, industry operators have turned to service providers to
implement mechanical integrity programs that provide continual evaluation and
preventative maintenance to reduce downtime and maximize operating capacity.
The main trends have shaped the development of the downstream energy sector,
including: 1) the increasing worldwide use of petroleum-based products, 2) the
lack of capital expenditure on new equipment and 3) generating the capability for
international trade of LNG resources.
Increasing Use of Petroleum-Based Products
The increased worldwide use of petroleum-based products was a considerable
driver of expansion in the downstream energy end market. Hydrocarbon
processing is becoming increasingly ingrained in the global economy and
developing nations, such as China, India and Brazil, are new centers of
hydrocarbon demand. Notably, large-scale refinery maintenance projects create
significant demand for NDT service providers. Although individual refining units
do not typically need servicing on an annual basis, on average, the refining
industry spends a relatively stable amount on large-scale maintenance projects each
year.
Downstream
Energy Sector
Overview
An Overview of Nondestructive Testing | BlackArch Partners | 19
Necessary Capital Expenditure
In addition to refineries, there are currently several hundred major petrochemical
processing plants in the United States and internationally. Historically low costs of
feedstock materials, which are favorably impacted by upstream trends in U.S. shale
gas, have driven recent increases in utilization across the petrochemical sector.
Consequently, a significant amount of capital investment is being directed towards
new facilities and restarts of once-idle plant locations. Total capital and
maintenance spending in the hydrocarbon processing sector exceeded $225 billion
in 2013, a 9.5% increase from 2010 levels. Furthermore, maintenance and repair
expenditures and capital spending within the refining and petrochemical and gas
processing segments have grown at a 4.3% and 2.0% CAGR, respectively, since 2007
and exceeded $16.7 billion and $9.7 billion, respectively, in total for 2013 (reflected
in the charts below).
Prospects for the Exporting of LNG
The proliferation of domestic shale plays has dramatically altered the global
hydrocarbon marketplace and expanded international trade of LNG. The
migration of E&P activity and investment directed towards significant shale
resources has led to radical increases in domestic oil and gas production, resulting
in abundant natural gas reserves, estimated to exceed a 140-year domestic supply.
Shale gas has recently overtaken onshore conventional and offshore supply sources
as the leading natural gas production source.
CHART X: U.S. Downstream Maintenance and
Repair Expenditures, 2007 to 2013
CHART Y: U.S. Downstream Capital Spending,
2007 to 2013 ($ in Billions) ($ in Billions)
Source: HPI Market Data Source: HPI Market Data
4.3% CAGR from 2007 to 2013
$5.4$5.7
$6.0$6.3 $6.5 $6.6
$7.0
$7.6$8.0
$8.4$8.7 $8.8
$9.2$9.7
$0.0
$2.0
$4.0
$6.0
$8.0
$10.0
2007 2008 2009 2010 2011 2012 2013E
Refining Petrochemical & Gas Processing
2.0% CAGR from 2007 to 2013
$3.5
$4.2$4.7
$4.2 $4.4 $4.2 $4.3
$5.1$5.4
$6.0
$5.1 $5.3 $5.4 $5.4
$0.0
$2.0
$4.0
$6.0
$8.0
$10.0
2007 2008 2009 2010 2011 2012 2013E
Refining Petrochemical & Gas Processing
An Overview of Nondestructive Testing | BlackArch Partners | 20
In the last three years alone, the Department of Energy has approved four LNG
terminals to export to countries without free trade agreements with the United
States. The four facilities including the Lake Charles, Louisiana terminal (2013), the
Cove Point, Maryland facility (2013), the Sabine Pass, Louisiana terminal (2011) and
the Freeport, TX facility (2013), highlight the speed with which the U.S. is accepting
its role as a prominent LNG exporter.
NDT providers offer a critical service to asset owners and operators in the energy
sector. As activity in the oil and gas industry has rebounded dramatically from its
low point during the recent recession, firms have needed to invest in equipment
and infrastructure to meet the rising demand for energy. NDT services improve the
profitability of oil and gas operators by improving facility operation efficiency and
reducing the incidence of machine failure and malfunction, while ensuring that
equipment complies with the increasingly stringent environmental regulations in
place. BlackArch Partners believes the value-add services of NDT providers will
continue to serve an important role in the oil and gas sector. Our Energy team has
recent transaction experience with companies that are active in the NDT space and
we are happy to share our thoughts on the industry.
Conclusion
An Overview of Nondestructive Testing | BlackArch Partners | 21
Contact
Will Cooper, Managing Director
(704) 414-6305
Drew Quartapella, Managing Director
(704) 414-6301
Energy Sector
Team
BlackArch Partners is a leading middle-market investment bank offering a full spectrum of
advisory services to financial sponsors, private companies and diversified
corporations. BlackArch addresses the needs of entrepreneurs, founders and shareholders of
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and private capital solutions. Based in Charlotte, N.C., with offices in Houston, T.X.,
BlackArch features a total of 12 industry-focused practices that covers all sectors of interest
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PHONE
704.414.6300
CHARLOTTE NC
227 West Trade Street
Suite 2200
Charlotte, NC 28202
704.414.6300
HOUSTON TX
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Houston, TX 77027
713.380.4300
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Achieving Superior Outcomes
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Communication & Confidentiality:
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