In the previous Energy Strategist, I reviewed the basics of investing in master limited partnerships (MLPs), and highlighted the stable income investors have historically received from midstream MLPs. This week I want to review the specific midstream MLPs that we have currently ranked as “Buy” in the various Energy Strategist portfolios and reiterate our current Buy targets. I also highlight a couple of general partners (GPs) of MLPs.

The GP is responsible for managing the daily operations of the limited partnership (LP), and will normally have a stake in the LP. The GP also often holds incentive distribution rights (IDRs) that entitle it to an incrementally higher percentage of the LP’s distributable cash flow as certain predefined distribution thresholds are met. This is said to give the GP an incentive to maximize the cash flow and distributions to unitholders. It certainly gives it extra income over time at the expense of the limited partners.  

Note that we also recommend several MLPs that are not midstream players. Global Partners (NYSE: GLP) and CVR Refining (NYSE: CVRR) are both downstream MLPs. Hi-Crush Partners (NYSE: HCLP) is a producer of sand used for hydraulic fracturing, and is therefore joined at the hip to the upstream business. AmeriGas Partners (NYSE: APU) is a retail propane distributor. I won’t be discussing any of these in this column as they are higher risk plays than the midstreams I discuss below.

Conservative Portfolio

Enterprise Products Partners (NYSE: EPD) is one of the largest and most conservatively managed MLPs. Its unit price has been hurt by worries that lower crude prices will erode the profits it earns from processing natural gas liquids and exporting the resulting liquefied petroleum gas. But EPD’s long-term service contracts provide plenty of protection, its Gulf export terminal is booked solid with guaranteed traffic for the next two years and a large pool of retained and reinvested earnings secures the distribution. The Oiltanking buyout ensures that the partnership will remain a key player in Gulf energy exports. EPD was recently ranked the #1 Best Buy in our sister publication, MLP Profits. Here, EPD remains a Buy below $42.50.

Energy Transfer Partners (NYSE: ETP) traded the bulk of its incentive distribution rights in Sunoco Logistics (NYSE: SXL) for ETP units held by its GP, giving this diversified MLP plenty of excess coverage to support its current 6.1% yield and improved growth prospects.  LNG exports from Lake Charles and via pipeline to Mexico should meaningfully boost gas transportation profits over time, and ETP will also benefit from the success of the filling stations it owns directly and via its interest in Sunoco. ETP is the #4 ranked Best Buy in MLP Profits and the #7 Best Buy in The Energy Strategist below $70.

Delek Logistics (NYSE: DKL) is a refinery logistics partnership that derives the bulk of its revenue from long-term, fixed-price contracts with its sponsor, which operates two refineries and a chain of filling stations in the South. A crude pipeline linking northeast Texas to the Gulf is an additional and increasingly important source of profits. The  distribution offers a current 5.6% annualized yield, and the partnership aims to increase it by 10% or more annually. This is closely linked to the refinery segment of Delek US Holdings (NYSE: DK), a “downstream” business poised to benefit from the higher fuel demand as a result of low prices. As a result, this one has a slightly higher risk profile than some of the other midstreams. DKL is a Buy below $42.

Growth Portfolio

Energy Transfer Equity (NYSE: ETE) is the general partner of the largest and most diversified MLP family. ETE has minimal exposure to low oil prices, which in fact work to the advantage of the large and growing fuel distribution and retail operations owned by affiliates Energy Transfer Partners and Sunoco (NYSE: SUN). The diversified stream of incentive distribution rights supports a modest but growing yield in excess of 3%, which should get another boost if the big Lake Charles LNG export terminal gets the final go-ahead from ETE and venture partner BG Group (London: BG) this summer. CEO Kelcy Warren has proven himself as the shrewdest dealmaker in the industry. ETE is the #3 ranked Best Buy in MLP Profits as well as The Energy Strategist below $66.

While not an MLP itself, Williams (NYSE: WMB) bought full control of Access Midstream Partners MLP and engineered its merger with its Williams Partners (NYSE: WPZ) MLP affiliate. Williams is transitioning to a pure general partner reaping incentive distribution rights from investments financed on the cheap by MLP limited partners. Its pipeline footprint gives it lots of upside as the leading shipper of Marcellus and Utica gas to fast-growing Southeast, and the recent restart of the Geismar olefins plant damaged by a 2013 explosion offers a near-term profit boost. WMB is a Buy below $59.

Targa Resources (NYSE: TRGP) surged last year on the (ultimately unsuccessful) takeover attempt by ETE. But we like Targa’s positioning as a key provider of midstream services to drillers in many of the lowest-cost shale plays, and its strategically valuable LPG shipping terminal near Houston. The buyout of the midstream interests of Atlas Energy (NYSE: ATLS) and the merger of their respective MLP affiliates will provide cost savings and a tax shield for a Targa dividend expected to increase at least 30% this year. The unit price has pulled back substantially since the unsuccessful takeover attempt, when it briefly traded above $150. TRGP is a Buy below $135.

Summarizing the Key Metrics

Important metrics for evaluating MLPs include the Enterprise Value (EV) to EBITDA ratio (similar to the PE ratio for a corporation), the distribution coverage ratio (an indicator over time of whether the distribution can be sustained), the distribution growth rate, and the yield.

Market Cap = Market capitalization in billion dollars
Price/DCF = Market capitalization divided by distributable cash flow for the trailing 12 months
Debt/EBITDA = Ratio of total debt to EBITDA for the trailing 12 months
EV/EBITDA = Enterprise value divided by EBITDA for the trailing 12 months
TTM Coverage = the amount of cash distributions divided by the amount that was available to be paid out over the past 12 months
Dist. Growth = Year-over-year increase in the distribution
Yield = Annualized yield per unit

The average annualized yield of the six MLPs or MLP sponsors profiled here is presently 4.6%, and each partnership generated sufficient cash to cover distributions for the past year. These midstream MLPs are far less volatile than their upstream relatives, as they are less exposed to commodity fluctuations. This makes the midstream MLP an ideal vehicle for generating a reliable income stream that isn’t exposed to undue downside risk, and we believe the six profiled here are among the cream of the crop.

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