After internal reorganizations dominated 2018 midstream energy M&A, analysts expect pipeline companies to focus on partnering up for projects in the year ahead as public equity funding remains scant, with private buyers potentially taking out smaller independent operators.
With few major simplification transactions left on the table, there is room to focus on more traditional M&A, but a sectorwide pivot toward retaining more cash means that public companies will mainly seek out one another to help shoulder the cost of major projects, according to Henry Hoffman, partner at the energy-focused investment firm SL Advisors LLC.
"A lot of deals ... will be bringing in partners for [joint ventures]," he said in an interview, noting midstream companies' persistent reluctance to tap capital markets.
A confluence of federal tax policy changes, low stock prices and obligatory payments to general partners created a watershed moment in 2018 that spurred several companies to either merge with their general partners, roll up into sponsors or become C corporations.
As of mid-November, midstream M&A had topped $109 billion for the calendar year, nearly six times the value of such deals in 2017, according to S&P Global Inc.'s Regulatory Research Associates. The biggest transaction in 2018 has been Energy Transfer Partners LP's combination with Energy Transfer Equity LP to form Energy Transfer LP, a $27 billion deal that reflected mounting pressure to shed the cash-leaking master limited partnership model.
But the volume of first- and second-tier public pipeline companies merging with each other should be thin as long as share prices remain stagnant. "When things are trading cheaply like this, [buyouts] happen less often because those two companies think they're way too cheap, so it makes discussions about combining forces harder to have," Brian Watson, director of research and senior portfolio manager at Oppenheimer's MLP-focused SteelPath investment advisory firm, said in an interview.
SL Advisors' Hoffman added that Canadian pipeline heavyweights Enbridge Inc. and TransCanada Corp. might have the capacity to swallow other companies "now that they've digested other large acquisitions" like Spectra Energy Partners LP and Columbia Gas Transmission LLC. MUFG Securities Inc. midstream energy analyst Barrett Blaschke, meanwhile, is eyeing NuStar Energy LP as a takeout target.
"It's the one that comes up most frequently as being a good buyout candidate for one of the big guys," he said in an interview. "That's kind of a 'Why is this thing still out here by itself?' thing."
Energy Transfer in 2018 made two unsolicited takeover offers to NuStar's general partner, which opted instead to merge with the MLP to stem an equity valuation decline.
Private equity ups the ante
When it comes to selling noncore assets in 2019, midstream companies will likely turn to investment firms offering more than what other sector players are willing to offer. Oppenheimer's Watson noted that while the pipeline industry is trading at 9x EBITDA, private equity is investing in stand-alone assets at 11x or 12x EBITDA, a premium that Robert W. Baird & Co. Inc. analysts urged management teams to take advantage of.
"Private equity is awash in capital. In many cases they are willing to pay multiples in advance of where stocks are trading," they wrote in a Dec. 13 note to clients. "If you can buy it at 5x and sell it at 12x, do that."
Private capital is also more than ready to pony up funds for public companies. In 2018, TransMontaigne Partners LP, Midcoast Operating LP, and EnLink Midstream Partners LP and EnLink Midstream LLC all agreed to sell out to major investment firms. American Midstream Partners LP could become the next MLP to go private after ArcLight Capital Partners LLC in September made an unsolicited offer to purchase the common units it does not already own, and an investor group including Stonepeak Partners LP is reportedly considering a bid for Tallgrass Energy LP.
Summit Midstream Partners LP could also be up for grabs amid pressure to overhaul the incentive distribution rights, or IDRs, it pays to its general partner, while SemGroup Corp. and Targa Resources Corp. could also benefit from private ownership.
"Why should [SemGroup] and [Targa] continue to sell partial stakes in assets to private equity firms with options to reacquire them later? Why not just sell the whole company?" CBRE Clarion Securities MLP expert Hinds Howard recently said.
The year ahead should also see the remaining mature partnerships ditch their IDR payments, according to SL Advisors' Hoffman and MUFG's Blaschke, including Shell Midstream Partners LP, Phillips 66 Partners LP and Noble Midstream Partners LP. Shell's general partner will waive its 2019 IDRs, a move that is likely a bridge to eliminating them completely.
Newer MLPs like Hess Midstream Partners LP, meanwhile, do not anticipate IDRs ramping up to a point where they handicap the limited partners' ability to retain cash for reinvesting in the business in 2019.
A merger between MPLX LP and Andeavor Logistics LP is also imminent after the parent companies combined in 2018. Cheniere Energy Inc., which recently acquired the outstanding common shares of Cheniere Energy Partners LP Holdings LLC it did not already own, could opt to roll up Cheniere Energy Partners LP to streamline its corporate structure.
"Very clearly by the middle of 2019 we are going to be pretty much out of two-tiered structures other than [Plains All American Pipeline LP and Plains GP Holdings LP], and that's not even a typical relationship," Blaschke said.