While the mid-level energy sector is less exposed to coronavirus-induced oil and gas price volatility, the outlook for the Zacks Oil and Gas – Pipeline MLP sector is still subject to increased levels of uncertainty. Due to declining demand for fuel and prudent capital spending by upstream players, lower production volumes have hurt demand for intermediate assets of partnerships.
Despite the uncertainties, pipeline players are better off than upstream and downstream companies as partnerships generate stable revenues based on the fees of their long-term contracts with shippers. Some of the industry pioneers trying to survive a tough business scenario include Company Products Partners LP (DEP – Free report), LP energy transfer (HEY – Free report) and Magellan Midstream Partners LP (MMP – Free report).
About the industry
Zacks Oil and Gas Industry – MLP Pipeline consists of Principal Limited Partnerships (or MLPs) primarily engaged in transporting petroleum, natural gas, refined petroleum products, and natural gas liquids (NGLs) to consumers in North America. In addition to transporting raw materials, the partnerships have enormous storage capacities used to store oil, natural gas and petrochemicals. Partnerships thus provide intermediary services to producers and consumers of commodities. From all of these transport and storage assets, partnerships generate stable fee-based income. The services provided by the partnerships involve the collection and processing of goods. Integrated intermediate energy players also generate cash flows from interests in fractionators and condensate distillation plants.
What is shaping the future of the oil and gas pipeline MLP industry?
Flexible pipeline request: The coronavirus pandemic continues to affect global demand for fuel, although vaccines are being deployed on a large scale. With the rapid spread of the Omicron variant of COVID-19, the outlook for global fuel demand is still uncertain. Uncertainty in fuel demand is likely to adversely affect the production of the feedstock, which in turn will reduce the demand for pipeline assets from the partnerships.
Lower fee income: To survive the weak demand for pipeline networks induced by the pandemic, several energy players present halfway will probably have no other choice but to offer discounts to shippers. This will reduce the royalty-based revenues of the Intermediate Energy Partnership.
Switch to renewable energies: Energy majors will increasingly face challenges in delivering sustainable energy to the entire world while reducing greenhouse gas emissions. Thus, to answer the question of climate change, there will be a gradual shift from fossil fuels to renewable energies. This will reduce the demand for pipeline networks and oil and natural gas storage partnerships, as the commodities have been formed from the buried remains of plants and animals.
Warm weather: Demand for natural gas has been weak due to warmer weather forecasts. This is because the product is used for the purpose of heating the room. As partnerships generate fees while providing raw materials for day-to-day use, a drop in gas demand will hurt results.
Cautious Explorers’ Capital Expenses: Oil and gas exploration and production companies are under increased pressure from investors to focus on shareholder returns rather than production. This hinders the production of raw materials, thereby damaging pipeline and storage assets.
Zacks’ ranking in the industry indicates bleak outlook
Zacks Oil & Gas Industry – MLP Pipeline is a group of 13 stocks within the larger Zacks Oil & Energy sector. The industry currently holds a Zacks Industry Rank # 215, which places it in the lowest 15% of over 250 Zacks industries.
The group’s Zacks Industry Rank, which is essentially the average of the Zacks Rank of all member stocks, indicates a short-term bearish outlook. Our research shows that the top 50% of industries ranked by Zacks outperform the bottom 50% by a factor of more than 2 to 1.
The industry’s position in the bottom 50% of industries ranked by Zacks is the result of negative earnings prospects for constituent stocks as a whole. Before we feature a few oil and gas pipeline MLPs that you might want to consider for your portfolio, let’s take a look at the industry’s recent stock market performance and their current valuation.
Industry underperforms the sector and the S&P 500
Zacks’ Oil & Gas Industry – MLP Pipeline has underperformed the broader Zacks Oil & Energy business and Zacks S&P 500 Composite over the past year. The industry has gained 9.1% in the past year compared to the 25.3% and 25.6% rise of the broad sector and the S&P 500, respectively.
One-year price performance
Current industry assessment
Since midstream oil and gas partnerships use fixed rate debt for the majority of their borrowings, it makes sense to value them on the basis of the EV / EBITDA (enterprise value / earnings before interest, depreciation and amortization) ratio. Indeed, the valuation measure takes into account not only equity, but also the level of indebtedness. For capital-intensive stocks, EV / EBITDA is a better valuation measure because it is not influenced by changes in capital structures and ignores the effect of non-cash spending.
Based on the 12-month enterprise value / EBITDA (EV / EBITDA) ratio, the sector is currently trading at 7.91X, lower than the 15.44X of the S&P 500. It is, however, significantly higher than the EV / EBITDA over 12 months of the sector of 4.44X.
Over the past five years, the industry has traded down to 15.23X, as low as 6.73X, with a median of 11.96X.
Enterprise value / EBITDA ratio (EV / EBITDA) over the last 12 months
3 Oil and Gas Pipeline MLPs Attempt to Overcome Industry Challenges
Enterprise Products Partners LP: Enterprise Products is a leading provider of mid-level infrastructure in North America, generating stable, fee-based revenue from its network of NGL, crude oil, natural gas, petrochemical and product pipelines. refined, spanning approximately 50,000 miles. Since Enterprise Products has the highest credit scores in the middle space, it can build on its strong balance sheet to survive the pandemic.
Enterprise product units, carrying a Zacks Rank # 3 (Hold), have gained 7.4% so far this year, supported by its low risk business model. Significant capital growth projects valued at $ 2.9 billion, currently under construction, contributed to this price performance. Zacks’ consensus estimate for EPD sales for the current year shows a 47.4% year-over-year increase.
Price and consensus: EPD
LP energy transfer: Energy Transfer has an extensive network of intermediary properties that include interstate and interstate natural gas transportation and storage assets. Energy Transfer’s midstream business includes crude oil, natural gas liquids (NGLs) and refined products transportation assets. ET’s interstate pipelines, which span approximately 19,000 miles, have a throughput capacity of 21 billion cubic feet per day (Bcf / D).
Energy Transfer boasted that 95% of its revenue, derived from interstate pipelines, is based on fixed reservation fees. This means business stability and guarantees good future distributions. Currently, Energy Transfer’s distribution yield is 7.3% compared to 4.3% for the energy sector. In fact, over the past year, the # 3 ranked stock has consistently outperformed the Energy sector..
Price and consensus: AND
Magellan Midstream Partners LP: Magellan Midstream has extensive midstream oil infrastructure that will be needed in the United States for decades to come. Magellan Midstream’s business model resists fluctuations in commodity prices and generates stable fee-based revenues.
The cash distribution picture looks bright, with Magellan Midstream describing a 20-year history of annual distribution growth. With an investment grade credit rating, Magellan Midstream has a strong balance sheet. Zacks’ # 3 ranked stock has an excellent management team that is constantly focused on building long-term wealth for shareholders.
Price and consensus: MMP