MASTER LIMITED PARTNERSHIPS

Thursday, January 08, 2009

MLPS have turned higher after being down nearly 3 points. The index is up half a point now. Most mlps are either flat or higher at this point. MLPS are responding i believe to the continued healing that is occuring in the corporate bond market. And that healing i think puts a floor under mlps and will soften any selloff in the broad tape. At least that's the way it feels right now.

Williams (WPZ) is up nearly 1 point and leads the winners list. Meanwhile 2 mlps announced INCREASED distributions. Enterprise Products Partners (EPD) raises to 53 cents from 50 cents. Stock is a fractional winner today. Genesis goes from .285 to .33! Stock is flat today and yields around 13%. Nice to see the boosts for sure. Hopefully its a sign. UBS raises Buckeye Holdings (BGH) to buy from neutral. The stock is up 24 cents.

1 comment:

chipblock said...: Buckeye Partners, L.P. BPL

Analyst Picture by Jason Stevens

Analyst Note 01-08-2009

Over the past year, we have thought a lot about demand destruction and wondered what impact high oil prices and a weak economic outlook would have on the refined product master limited partnerships we cover. Through the end of the third quarter, we saw refined product throughput volume decline 3%-8% across most of our coverage. Then in October the floor fell out of stock and commodity prices, and we suspect many financial players may have been forced to liquidate physical commodity positions to free up cash, adding to the pressure on pipeline and storage volume. But a curious thing began about the same time: Demand for refined products actually began to increase, albeit slightly. While refined product demand dropped 6% in 2008, cheaper prices at the pump have begun to offset the impact of a weakening economy. We think this dynamic will slow the pace of demand destruction going into 2009.

We think 2009 is unlikely to bring a speedy economic recovery, which we think would be required to see a meaningful increase in refined product demand. Nor do we expect demand to drop significantly, despite a weak and possibly worsening economy; instead we suspect that lower product prices will help to stimulate demand. We project that 2009 will see a balancing of economy-led demand destruction and price-led demand stimulus, with a slight bias toward lower demand. Overall, we'd expect to see U.S. demand for refined products decrease from 19.5 million barrels a day in 2008 to 19.2 million barrels a day in 2009, a average annual decline of 1.5%. This suggests to us that refined product pipelines have already seen the worst impact on throughput volume, and while we do not expect to see volume growth in 2009, we would not be surprised to see revenue growth, thanks to inflation-indexed contracts.

In the near term, we are more concerned about the cost of and access to capital. Master limited partnerships rely on capital markets to fund growth projects, and we think current market conditions significantly constrain access to new capital. While several investment-grade MLPs have demonstrated in recent weeks that both debt and equity markets are open to MLPs, the cost of new capital in terms of required yield is quite high by historical standards, and in our view, it is unlikely to return to historical levels of 200-300 basis points above 10-year Treasuries. In our assessment, higher costs of capital have a larger impact on valuations for refined products MLPs than any reasonable 2009 demand scenarios.
Thesis 01-08-2009

Despite volume declines in refined-products use in 2008, we continue to expect that Buckeye Partners LP will be able to deliver quarterly cash distribution growth for years to come.

Buckeye is a refined products pipeline and storage master limited partnership with an eye toward acquisitions. In recent years, much of Buckeye's growth has come through deals, rather than from growth projects. In 2004, the company bought pipeline and terminal assets from Royal Dutch Shell RDS.A. In 2005, Buckeye turned around and bought similar assets from ExxonMobil XOM. The company completed several smaller deals for pipelines and terminals in 2006 and added more terminals in early 2007. Most of the acquired assets connect with Buckeye's pipeline network, making the new assets a natural extension of the company's footprint. By consolidating assets into a single network, Buckeye is better able to optimize utilization and compete more effectively for volumes.

Generally speaking, we're big fans of the pipeline business, especially refined products pipelines, which benefit from a regulated pricing structure that locks in annual price increases at producer price index plus 1.3%. That means that, even when throughput is flat or moderately declining, pipeline revenues tend to hold their own or increase. However, we note that many of Buckeye's pipelines are common carrier pipes, which rely on market pricing because of existing competition and lack the long-term contracts we tend to prefer. In theory, this means Buckeye is exposed to potential swings in shipping rates, but in practice, high utilization and demand keep rates steady and more than high enough to produce healthy margins for the company.

Although pipelines provide roughly 80% of Buckeye's operating earnings, its storage business seems to be the company's growth engine. This makes sense to us: Refined products pipelines already connect existing refineries to major markets, and with no new refineries on deck, there are very few opportunities to build new products pipelines. Instead, Buckeye and its peers have shifted attention to storage tanks and terminals, which are relatively easy to site and build, are generally supported by customer capacity commitments, and tend to present favorable economics if connecting with existing assets. In this light, Buckeye's late 2007 acquisition of Farm & Home, a privately held Pennsylvania wholesale fuel distributor with five terminals and 40 million gallons of storage capacity, makes strategic sense, in our view. Buckeye will retain Farm & Home's management team and look to leverage its wholesale marketing experience across Buckeye's extensive system.

We're less certain about the strategic benefits of Buckeye's Lodi Gas Storage acquisition, which closed in January 2008. The $440 million purchase of natural gas storage facilities in California marks a departure in terms of both geographic and product focus, but we concede that this can just as easily be seen as diversification. Given the CEO's West Coast experience as vice chairman for Pacific Energy Partners, now a part of Plains All American Pipeline PAA, we would not be surprised to see more deals of this nature.
Valuation
We are reducing our fair value estimate for Buckeye Partners to $46 per common unit, from $52, primarily because of higher cost of capital assumptions. We have increased our assumed cost of equity for Buckeye to 10%, consistent with our other refined products MLPs, and raised our debt cost assumptions to a 400-basis-point credit spread, up from 250 basis points. These changes increase our discount rate to 9.9%. We have also marginally decreased our annual revenue growth rate assumptions given the near-term impact of demand destruction and the low level of inflation, which damps inflation-indexed contract pricing. However, we have reduced our assumptions of the cash-flow multiples Buckeye will be able to realize on new investment, which has the effect of making investments marginally more economic despite higher capital costs. We think Buckeye will be able to deliver close to 12% average annual growth in distributable cash flows during the next decade, but due to the impact of new equity issuance to maintain historical 50/50 debt/equity financing, we see distributions per unit growing closer to 5% annually. Based on the most recent $0.88-per-unit distribution, Buckeye would yield 7.7% at our fair value estimate.
Risk
Buckeye faces the most risk from potential changes in regulations. Pipelines are heavily regulated in terms of the rates that they charge their customers, environmental guidelines, and the tax-favored status of the MLP form of business. Reduced demand for petroleum products and pipeline spills could also hurt the firm.
See Previous Analyst Reports
Close Competitors TTM Sales $Mil Market Cap $Mil
Buckeye Partners, L.P. 1,513 1,732
* Magellan Midstream Partners, L.P. 1,287 2,230
* TEPPCO Partners, L.P. 14,244 2,443
* Kinder Morgan Energy Partners, L.P. 11,898 8,620
* Sunoco Logistics Partners L.P. 10,828 1,437
* Morningstar Analyst Report Available | Compare These Stocks
Data as of 09-30-08
Strategy
Buckeye has made a concerted effort to increase efficiency and throughput, or the amount of gasoline or other products that passes through its pipelines and terminals. The company has made acquisitions and other investments in its core line of business as opportunities have arisen. Management has expressed the desire to acquire more assets if it can find deals that make sense.
Management & Stewardship
Buckeye is organized as an MLP, with its limited partner units traded on the New York Stock Exchange. The partnership underwent a major management change in March 2004 when the general partner, formerly owned by a company controlled by Buckeye's senior management, was sold to the Carlyle/Riverstone Global Energy and Power Fund II. Control of the partnership shifted once again in June 2007 when Carlyle/Riverstone sold its interests to a consortium consisting of ArcLight Capital Partners, Kelso & Company, and Lehman Brothers. Concurrent with the sale, William Shea Jr. stepped down from his role as CEO and chairman. Shea was replaced by Forrest Wylie, an energy industry veteran who most recently served as vice chairman of Pacific Energy Partners. These frequent changes in control make us a bit nervous, so we will be on the lookout for any changes in strategy or overpaying for acquisitions. The move into natural gas storage signals a change in strategy, though operating these assets will be very similar to operating the rest of Buckeye's midstream holdings. Buckeye, like most other MLPs we cover, earns a C Stewardship Grade. The biggest mark against Buckeye is that the MLP form of business does not allow limited partners to have much say in the management of the partnership. Buckeye also gets dinged for having Wylie serve as both CEO and chairman and for the relatively small portion of executive and director compensation paid in partnership units.
Profile
Buckeye Partners owns and operates refined petroleum pipelines and storage terminals in the United States. Most of the company's assets are found in the Northeast and Midwest, though it also operates terminals and some smaller pipelines in the Southeast and West. Buckeye's pipelines transport a variety of refined petroleum products connecting refineries, storage facilities, other companies' pipelines, and airports.
Growth
Growth has surged due to Buckeye's large acquisitions during the last few years. Organic growth has come from increased utilization of existing pipelines, tariff increases, and the construction of a new pipeline in Texas. We expect to see additional growth from investment in terminal facilities during the next few years.
Profitability
The pipeline business might not be dynamic, but it is certainly profitable. Returns on invested capital have averaged around 10%, easily exceeding Buckeye's cost of capital. Returns on capital could be hurt if the company overpays for acquisitions.
Financial Health
Buckeye's debt levels fall in line with other pipeline companies. Operating in a cash-cow business with a reasonable debt level, liquidity is not an issue for Buckeye.

Morningstar Rating
Stock Price
As of 01-08-2009
Fair Value Estimate
$46.00
Consider Buying
$36.80
Consider Selling
$57.50
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Fair Value Uncertainty
Low
Economic Moat
Wide
Stewardship Grade
C
Analyst Note
Outlook for Refined Product Pipelines
Jason Stevens 01-08-2009
See All Notes

Bulls Say
Buckeye has traditionally targeted acquisitions that expand its existing footprint, offering opportunities to optimize throughput and utilization.
The MLP structure nearly eliminates corporate income-tax exposure at the corporate level, which allows Buckeye to bid more aggressively for strategic assets.
Pipelines tend to have wide economic moats. Buckeye's core business is stable and generates abundant amounts of cash flow.
Buckeye has steadily increased its cash distributions and would yield 6.6% at our fair value estimate.

Bears Say
Demand destruction is reducing refined products transportation volumes on Buckeye's system. Should conservation become commonplace, Buckeye could see volume declines significant enough to offset the positive impact of annual tariff increases.
The interests of Buckeye's majority owners could conflict with the interests of limited partners, who have very limited recourse due to the MLP structure.
Natural gas storage is outside of Buckeye's traditional business, and a shift in strategy to encompass midstream assets nationwide pits the company against some strong competitors.
Frequent changes in control could signal a management team that is more focused on short-term rather than long-term objectives.
Like owners of any partnership, investors in Buckeye units are responsible for their share of the partnership's tax bill. This can decrease the net returns investors enjoy from holding the partnership units and increase tax-filing complexity.
Recommended Readings
What is a Master Limited Partnership?
Morningstar
8/9/2007

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