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FERC Sticks a Fork in Master Limited Partnerships’ Income Tax Allowance on Regulated Pipes: Winners and Losers

By Elliott H. Gue on Mar. 16, 2018

Yesterday the Federal Energy Regulatory Committee (FERC) announced that it would no longer permit master limited partnerships (MLP) to recover an income tax allowance in the cost-of-service rates on interstate pipelines. This disclosure came as a surprise and sent the Alerian MLP Index, spiraling as much as 11 percent lower intraday. This basket of 40 prominent MLPs finished the trading session down 4.5 percent.

The brief Alert we issued yesterday identified the names that could face the biggest headwind from this change and highlighted the massive buying opportunity in our favorite names.

Under this proposed rule, each interstate gas pipeline could comply with the order by adjusting rates to eliminate the tax allowance or committing to file a rate case in the near future.

FERC-regulated crude-oil pipelines generally set their rates via an indexing method whereby tariffs adjust annually and must remain below a specified ceiling. The regulator will reassess the indexing methodology in 2020.

This surprise development naturally leads to questions whether Kinder Morgan (NYSE: KMI) and other MLPs that converted to c-corporations did so to reduce their risk. In our view, this line of speculation overlooks the near-term pressures that prompted most of those moves: Excessive leverage, significant near-term debt maturities, pressures on cash flow and the threat of a credit-rating downgrade.

A number of MLPs issued press releases yesterday and this morning discussing their exposure to this headwind. Here’s a quick rundown:

  • Andeavor Logistics LP (NYSE: ANDX) – Operates some FERC-regulated pipelines but sees possible negative impact to EBITDA of less than $10 million out of $941 million in 2017 EBITDA.
  • Blueknight Energy Partners LP (NSDQ: BKEP) – All of Blueknight Energy Partners’ pipelines are intrastate and not regulated by FERC, so no impact expected.
  • DCP Midstream Partners (NYSE: DCP) – Majority of its assets are not regulated by FERC. Assets that are regulated by FERC have negotiated and incentive rates below the cost-of-service rates established by FERC. Expects “de minimis” impacts.
  • Enbridge Energy Partners LP (NYSE: EEP) – Lowered its guidance for 2018 EBITDA by 11 to 17 percent to reflect an expected $125 million hit from FERC ruling.
  • Energy Transfer Partners LP (NYSE: ETP) – Many of ETP’s rates are negotiated so would be unaffected or would see limited adjustments. In addition, many of current transportation contracts are provided at discounted levels below maximum tariffs rates. Sees no material impact to earnings or cash flow.
  • Enterprise Products Partners LP (NYSE: EPD) – Sees no material impact to either earnings or cash flow.
  • Genesis Energy LP (NYSE: GEL) – Less than 5% of total margins derived from assets subject to regulation by FERC and less than 1% of total margins are derived from assets with rates based on FERC cost of service estimates. No significant impact expected.
  • Magellan Midstream Partners LP (NYSE: MMP) – Company does not expect a material impact. On refined-products system 40 percent of shipments are regulated using an index methodology and 60 percent are regulated at the state level or approved for market-based rates. Magellan Midstream Partners is also under-earning on a cost of service basis even if you exclude the income tax allowance from the cost of service calculation.
  • MPLX LP (NYSE: MPLX) – Expects a de minimis effect on earnings and cash flow.
  • Spectra Energy Partners LP (NYSE: SEP) – Roughly 60% of the MLP’s revenue comes from negotiated or market-based tariffs; the remainder comes from cost-of-service agreements that could be subject to the tax recovery disallowance. The partnership’s press release reiterated its guidance for 2018 and asserted that any future hit wouldn’t occur until its next rate case settlements and that other cost-of-service components would help to mitigate the impact.
  • Tallgrass Energy Partners LP (NYSE: TEP) – Sees no material impact on the company’s revenues. Majority of revenue come from Rockies Express and Pony Express pipelines, which have negotiated rate contracts.
  • Williams Partners LP (NYSE: WPZ) – About 34 percent of WPZ’s gross margin comes from regulated pipelines. About 50 percent of revenues from key Transco pipeline this year are negotiated rates that would not be impacted. The company continues to assess the full impact of the FERC announcement.

 

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