Attractive valuation, but with late cycle multiple compression risks. Midstream stocks offer low double digit total return (dividend + growth), which is attractive at this point in the cycle especially for a relatively low risk business. Relative EV/EBITDA multiples are slightly below the SPX and UTY, and P/E is now in line with the market. We saw a 10-20% compression of EBITDA and cash flow multiples in 2018. The risk is market multiple compression in 2019, which has an amplified effect on equity values for a levered sector.
Search Coverage List, Models & Reports
Search Results1-10 out of 44
Q3 results were even better than we expected. None of our covered companies missed with a median EBITDA beat for the quarter of 5%. More importantly, the median DCF / share growth in Q3 was 18%!! This figure excludes companies involved in M&A and is more reflective of true growth in the business – see p. 2. While this pace of growth clearly won’t last forever, what other sector is paying a 7-8% yield and growing cash flow per share by almost 20%? The fundamental picture is very strong, balance sheets are improving, and equity needs have been dramatically reduced. EPD’s CEO Teague stated this is “the strongest business climate we have seen in recent memory.”
Q3 EBITDA beat consensus by 8%. The beat vs. our estimate was driven by higher NGL marketing ($50M) as EPD took advantage of tight pipeline and frac conditions, better processing volumes and margins ($40M), and stronger gas segment results. DCF / unit is tracking to grow by 30% in 2018 – that’s astounding for a $58B market cap company. Meanwhile, the growth backlog was increased materially to $6.6B through 2020 from $5.3B in recent slides, providing greater visibility on future growth which can all be funded without equity. CEO Teague said this is “the strongest business climate we have seen in recent memory". EPD stock has outperformed the AMZ by 10% YTD. But its premium valuation has actually faded materially with the stock only trading at 10.3x 2020 EBITDA on our new numbers. Improvement in the financial outlook can’t outpace the stock forever. EPD is our top idea.
We are forecasting Q3 EBITDA growth of nearly 15% vs. last year, with median DCF per share rising by 15% YoY as well. Fundamentally, the sector continues to benefit from positive dynamics as production volumes accelerate across most key basins, new projects come into service, and wide locational price differentials highlight the need for new infrastructure investment. The Q3 fundamentals are similar to Q2 which saw strong results and the AMZ outperform the market by 8% over the course of earnings season. However, unlike Q2 we see consensus as largely there; we have a roughly even split of beats and misses vs. consensus. So it’s less clear to us if Q3 will again be a positive catalyst or more neutral near term. Ultimately, we believe that as the companies continue to show above-average growth, simplify, and get to sustainable leverage, investor support for the sector will increase.
We hope everyone had an enjoyable summer. To help get back in the swing of things and with the fall conference season ahead of us, we are publishing a midstream-focused question bank for a number of our covered companies (see table on right). Key industry topics are discussed below with a detailed listing of questions for individual companies in the body of this report.
EPD’s 2Q18 EBITDA beat our estimate by 6% and consensus by 12%. Q2 EBITDA even grew 5% QoQ versus a seasonally stronger Q1. The company is showing strong operational leverage to accelerating production volumes, rising exports, and higher NGL prices. On the call, EPD highlighted efforts to boost capacity as the midstream supply/demand balance tightens with efforts to increase frac space and pipeline volumes on Seaway, while continuing to evaluate a Permian NGL to crude conversion project.
Last night (7/18/2018) FERC issued a final rulemaking on how to handle tax reform in regulated gas pipeline rates as well as a clarification of the policy statement that eliminated the tax allowance for MLPs. These stemmed from initial orders in mid-March. While FERC did not change the fundamental position that MLPs (in a vacuum) still can’t collect an income tax allowance it appears that under the final rule natural gas MLPs that are consolidated by a parent corporation can claim that they are taxpayers. Bottom line, this appears to be a significant change from the initial ruling in March for a number of pipeline MLPs that are consolidated by C-corps.
With U.S. production increasing fast, several big simplification announcements, and oil prices much improved, the fundamental tone was positive at MLPA. Turnout was reportedly higher than last year even with each of the large C-corps still sitting out of the event. That said, FERC and structure were clear overhangs. On FERC, we heard more questions than answers. Structure / simplification was discussed at nearly all our meetings and often overwhelmed the conversation. We think continued (and speedy) resolution around FERC / structural issues should help bring investor focus back to a strong fundamental set up, but there will be uncertainty in the meantime.
Last week we had the opportunity to meet with INGAA and the staff of FERC to review the latest on the changes on the pipeline regulatory policy front and the next steps to watch for. Overall we got a better understanding of the legal constraints FERC was under that led to the decision to change MLP tax policy to eliminate the tax allowance for cost based pipelines. We came away with the view that there is not much room to change the policy. In that context it is not a surprise that in front of the 501-G filings this fall that already many pipeline MLPs are moving toward corporate structures - SEP, EEP, WPZ, BWP, and TCP. Despite the MLP tax policy change being unwelcome, we still believe the acceleration of structural changes is a good thing for the sector.
EPD reported strong 1Q18 results before market open with EBITDA coming in 11% above consensus. The beat vs. our forecast was across the board with particular strength in petrochemicals on great propylene margins, and in crude oil pipelines. The company’s operational leverage to higher volumes / prices is being shown through strong results. We see EPD as a great way to invest in improving midstream fundamentals, while also protecting from downside risk given an integrated, diversified platform and relatively lower leverage. We reiterate our Outperform rating.
- 1 of 5
- next →