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Under the Microscope: Conservative MLP Portfolio

By Roger S. Conrad on Jan. 27, 2015

This deal was a long time coming. Energy Transfer Equity operated Energy Transfer Partners and Regency Energy Partners as though they were a single company, with the two MLPs owning complementary assets and collaborating on projects such as the Lone Star system.

This joint venture, which provides takeaway and fractionation capacity to producers in the Eagle Ford Shale and Permian Basin, recently announced plans to convert its existing NGL pipeline to crude-oil service, build a replacement line that can handle up to 375,000 barrels per day of NGLs and construct a third fractionator at the hub in Mont Belvieu, Texas.

The combination of Energy Transfer Partners and Regency Energy Partners’ gathering and processing capacity in the Eagle Ford Shale and Permian Basin should help to reduce costs and improve operational efficiency while increasing the combined company’s incremental exposure to volume growth in this region.

Regency Energy Partners’ gathering pipelines in the Marcellus Shale and Utica Shale likewise complement Energy Transfer Partners’ under-construction Rover interstate gas pipeline will provide more than 3 billion cubic feet of takeaway capacity to these plays.

This project will transport natural gas from the Marcellus and Utica Shale to Sarnia, Ontario, and interconnect with lines that run to the Gulf Coast. As part of their contracts, anchor shippers Antero Resources (NYSE: AR) and Aubrey McClendon’s American Energy Midstream have the right to acquire an interest in the project.

The merger with Regency Energy Partners will increase Energy Transfer Partners’ leverage to volume growth in Appalachia by offering gathering services to customers on its interstate pipeline.

The timing of the deal also makes sense. Energy Transfer Partners acquired Regency Energy Partners when the stock had fallen out of favor.

Gathering and processing accounts for about 64 percent of Regency Energy Partners’ operating margin, and management estimates that fee-based agreements will generate about 75 percent of the MLP’s operating margin in 2015. The firm has hedged about two-thirds of its exposure to commodity prices next year.

However, Regency Energy Partners’ units had given up about 27 percent of their value since June 30, 2014, reflecting the collapse in NGL prices and the MLP’s relatively tight distribution coverage (1.01 times in the third quarter).

Management estimates that the partnerships’ distributable cash flow shrinks by $5 million for every $0.05 per gallon decline in NGL prices and $7 million for every $5 per barrel move in crude-oil prices or every $0.25 per million British thermal units drop in natural-gas prices.

The well-diversified Energy Transfer Partners can easily absorb this level of exposure to commodity prices.

Regency Energy Partners also brings a $2.6 billion project backlog to the table and a number of levers that Energy Transfer Partners can pull to unlock value.

Other avenues for growth involve the spin-off of the coal-royalties business that Regency Energy Partners added with its purchase of PVR Partners or acquisitions in the contract compression space, an industry that’s ripe for consolidation.

Although Energy Transfer Partners LP’s units no longer yield 8.2 percent like they did when we highlighted the stock as one of our top value plays in fall 2012, the diversified MLP still boasts one of the most appealing combinations of valuation and potential upside in our coverage universe.

The MLP has a lot of moving parts that can make the name difficult to analyze, while the firm’s much-anticipated return to distribution growth has come primarily from Energy Transfer Equity retiring common units in exchange for the MLP kicking up assets to the general partner.

Energy Transfer Equity’s acquisition of the general-partner interest in Sunoco Logistics Partners LP (NYSE: SXL) falls into this category. A similar transaction landed the general partner Trunkline LNG, the entity that owns a terminal in Lake Charles, Louisiana, that imports liquefied natural gas (LNG).

 

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