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EnLink investors welcome distribution cut, but guidance concerns remain

Investors' warm reception of EnLink Midstream LLC's distribution cut and 2020 financial projections may be temporary given that the midstream company plans to prioritize growth projects over debt reduction, analysts said.

Under pressure from shareholders and industry observers to boost its stock price amid slumping volumes in Oklahoma's STACK play and concerns about majority stakeholder Global Infrastructure Partners, EnLink on Jan. 15 announced that it would slash investor payouts approximately 34% from 28.3 cents per unit in the third quarter of 2019 to 18.75 cents per unit for the fourth quarter of 2019. Excess free cash flow for 2020 is expected to be in the range of $10 million to $70 million, mostly generated in the second half, while growth capital expenditures remain unchanged from the previously announced range of $275 million to $375 million.

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EnLink shares traded up as much as 5.6% at $6.05 per unit in morning trading after Chairman and CEO Barry Davis reassured unit holders during a Jan. 16 conference call that the pipeline firm's "priorities center around generating excess free cash flow."

Some analysts, however, had expected a much deeper distribution cut to balance EnLink's books and reflect a sectorwide emphasis on deleveraging in 2020. Financial advisers at Raymond James & Associates Inc. wrote in a Jan. 15 note to clients that the cut was "moderately less severe" than anticipated, while analysts at energy investment bank Tudor Pickering Holt & Co. said in a Jan. 16 note to clients that it had forecast a 60% to 65% cut.

"We would have preferred to see incremental cash directed to the balance sheet rather than maintaining a 13% equity payout (post-cut)," the analysts wrote.

While Davis reiterated that EnLink is targeting leverage below 4x in 2021, Executive Vice President and CFO Eric Batchelder confirmed that growth projects come first.

"Mostly it is small projects: quick to cash, low multiple, consistent with what we've done through the back half of last year and brownfield [projects] right around our system," Batchelder said during the call.

CBRE Clarion Securities portfolio manager Hinds Howard noted that while the management team's priorities may not reflect the midstream industry's broader spending slowdown, expiring minimum volume commitments, or MVCs, from former parent company Devon Energy Corp. require EnLink to take a different approach.

"It doesn't feel like they are overly concerned with their leverage situation or with the production growth outlook in the face of extremely low gas prices. Their actions (smaller than necessary cut) and their words (capital allocation to growth first) are the evidence," Howard wrote in an email. "Growing their way out has never worked for them, but it's their only path when a few of their businesses are facing pretty large near-term declines from MVC roll-offs."

Executive Vice President and COO Benjamin Lamb acknowledged that once EnLink's $50 million MVC with Devon in Oklahoma expires at the end of the year, the company has no other commitments going into 2021. Still, he added that while profits from Oklahoma will probably decline in 2020, they "are not likely to be lowered by yet another $50 million because we start to see the benefit of the [Devon-Dow Inc. joint venture]," which will boost shale oil and gas development in the STACK.

A long-term stock price recovery, however, ultimately hinges on results.

"While [EnLink] has created a visible pathway for the equity to re-rate, this is certainly a 'show me' story Oklahoma guidance will be viewed by many as optimistic until proven otherwise (and faces contracted related headwinds in 2021) and success towards ... cost savings and commercial wins remains critical," the Raymond James financial advisers said.