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The Skinny On Drop-Down MLPs

By Roger S. Conrad on Jan. 25, 2017

The so-called drop-down transaction—where a sponsor sells an asset to its associated master limited partnership (MLP)—has a long history (dating back to 1983) as a strategy for energy companies to monetize their midstream (pipelines and processing) assets.

Not only does this approach unlock the value of midstream assets that a refiner or upstream operator may not have run for a profit, but the parent also retains control of this critical infrastructure and garners a growing stream of cash flow via their incentive distribution rights.

The number and total value of drop-down transactions announced surged in 2010 and continued to climb in subsequent years, peaking in 2015. Deal flow slowed considerably in 2016 but remained elevated relative to historical norms.

Although this overweight position worked for a time and these stocks held their value reasonably well during the down-cycle, MLPs that rely heavily on drop-down strategies have underperformed since the start of 2016.

We explore the factors driving this underperformance, explain why all drop-down stories aren’t created equal and make the case for some of our favorite names in the current environment.

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