The stage is set for investors to flock to the U.S. midstream energy sector in 2018 amid a trend of structural simplification, low equity prices and improving fundamentals such as commodity prices, Jefferies analysts said in a Dec. 20 research report.
"We are optimistic 2018 will refocus investor attention on positive fundamentals and illustrate the operational leverage inherent across midstream systems," analysts led by Christopher Sighinolfi said in the note.
Sighinolfi expects the master limited partnership simplification deals to continue through 2018 and result in improved governance, while "a broader embrace of traditional structures, corporate finance and disciplined capital" could make these companies more attractive to investors.
Sighinolfi noted a continued interest in Permian assets, with MLPs' sponsors betting on volume-levered oil, natural gas and NGL production growth in the play. Permian assets are fetching premium valuations as acquirers expect "robust volume ramps" from them, despite a history of midstream companies overpaying for growth prospects, he said.
The Jefferies note also pointed to a wave of new pipeline projects planned for the Permian, such as Plains All American Pipeline LP's Permian-to-Gulf crude pipeline project, Buckeye Partners LP's South Texas Gateway project and the private operator EPIC Pipeline Co. LLC's 440,000 barrel-per-day pipeline project. These projects are "underscoring the economic opportunities present in offering Permian evacuation outlets to the Texas Gulf Coast," he said.
The second half of 2017 saw an increase in sponsor-related midstream deals, indicating growing interest from private equity, which is anticipated to carry on in 2018. The most recent among these include the Pinnacle Midstream LLC sale and Noble Midstream Partners LP and Greenfield Midstream LLC's planned acquisition of Saddle Butte Rockies Midstream LLC.
Jefferies selected Plains and its general partner and the Williams Cos. Inc./Williams Partners LP complex as its top picks for the sector. Investors could return to Plains All American due to an "enviable" set of Permian assets, expected to result in volume growth, as well as a strengthening balance sheet and ability to achieve financial targets. Sighinolfi also predicted investor interest in in 2018, as a result of actions such as its divestiture of Canadian assets, a board reconstitution, leverage reduction, structure simplification and execution of organic expansions.
Overall, Jefferies analysts believe that a better indicator of long-dated midstream value would be a "seasoned, IDR-laden MLP" with assets and leverage characteristics that have remained stable, instead of "potentially cyclically-driven sentiment." AmeriGas Partners LP has maintained the same corporate structure since it became public in 1995; has accessed the public equity markets only once in the past decade; and has assets, sponsor relationship and leverage dynamic that has remained static, Sighinolfi noted.
"While it is our expectation a considerable amount of value was being ascribed to commodity tailwinds, open public capital markets, and growth projects seemingly into perpetuity, we see the sector in a rationalization mode, attempting to 'do more with less' and exhibiting more reliance on leveraging organic opportunities," Sighinolfi said.
