Earlier this week, I attended day two of the Energy Transfer family of partnerships analyst day, covering Energy Transfer Partners (ETP), Energy Transfer Equity (ETE), and Lake Charles LNG. As was the case last year, it seems like day one had the better food. I can’t believe I missed out on the taco truck!
As veterans in the space, Energy Transfer knew exactly what slides to include to address top investor concerns: counterparty risk, volumetric risk, and financing risk. I walked away with a better understanding of the credit profile of Energy Transfer’s customers, volumetric growth on their systems, and their approach to project financing in 2016.
Investor concern #1: “I understand MLPs have long-term contracts—some of them are fee-based and others are take-or-pay. But what happens if a customer can’t pay?”
Alerian: MLPs strive to have a diversified base of creditworthy customers to reduce counterparty risk. Unlike other costs such as daily rig rates, generally you won’t see midstream fees fluctuate widely when there’s a (downward or upward) shift in commodity prices. Not to mention, midstream fees represent a smaller component of the total cost structure for a producer. Especially in areas where an MLP has a regional monopoly, it’s not in the best interest of the producer to stop paying completely, especially if they plan to utilize the MLP’s services again in the future. However, in certain situations, we’re starting to see renegotiation of contracts in return for an extended duration, new acreage dedications, or other terms to increase certainty around fees and/or volumes.
Energy Transfer: Only 22% of Energy Transfer’s 60-day unsecured credit exposure is non-investment grade. When necessary, Energy Transfer has renegotiated contracts, either by converting them from acreage dedications to volume-based contracts, extending contract lengths, or solidifying new contracts in other locations or types of businesses along their value chain.
Investor concern #2: “Rig counts are falling, capex is coming down, I assume production is coming down too. Doesn’t that mean there’s less ‘tolls’ for the toll-road business model?”
Alerian: Producers continue to high-grade, so we’re seeing higher efficiencies despite lower rig counts. Some areas continue to see volume growth, whereas some aren’t. However, when comparing on a full year basis, we’ll likely see higher year-over-year production.
Energy Transfer: Across all of their systems, Energy Transfer is expecting 30%+ year-over-year (normalized for acquisitions) growth in natural gas gathering volumes. While natural gas production is challenged in certain areas such as the Mid-Continent, in other areas, gathering volumes continue to increase such as the Eagle Ford and the Delaware Basin in the Permian.
Investor concern #3: “What does capital access look like for MLPs? How will MLPs fund their growth programs if equity markets stay where they are?”
Alerian: Unlike the previous commodity downturn in 2007-2008, which coincided with the financial crisis, MLPs still have access to capital, especially investment-grade MLPs. We’ve seen some relief in the equity markets the past few weeks with two successful follow-on offerings. At current valuations, we expect MLPs will seek alternative sources of financing.
Energy Transfer: After the transaction with Sunoco LP (SUN) announced earlier in the week, fears on capital funding for 2016 have somewhat subsided. With $2.2 billion from the transaction, an additional $1.75 billion in debt, roughly $100-150 million from the company DRIP program, expectations for roughly $150 million per quarter from its at-the-market (ATM) program, and the potential sale of non-core assets, the company has most of the financing for its $4.95 billion capital program lined up.
Over the past 18 months, if we were to only look at the equity prices of midstream MLPs, it would seem a story of doom and gloom. It’s important to keep in mind that unit prices include “guilt by association” fears and investor psychology. Looking at the cash flows, growth projects, and distribution profile of MLPs mitigates that and lets you focus on what’s actually happening. Hearing these things straight from the horse’s mouth at the Energy Transfer family analyst day was a refreshing break away from my equity monitor screen, even if I didn’t get to try “tacos that were on par with Chipotle.”