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Pipelines expect minimal impact from FERC tax policy reversal

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Pipelines expect minimal impact from FERC tax policy reversal

Oil and gas pipeline master limited partnerships were quick to reassure investors that a tax accounting change that would reduce some pipeline rates would not substantially impact their balance sheets.

Even as the bellwether Alerian MLP Index fell 4.6% on March 15 after FERC said it would eliminate partnerships' income tax allowance recovery in their cost-of-service rates, gas pipeline heavyweights like Energy Transfer Partners LP, Williams Partners LP and Spectra Energy Partners LP were optimistic that they would remain largely insulated from the policy changes.

"Given the relatively small percentage of our revenues that are affected by this ruling, we don't expect this ruling to impact our previous guidance for Williams Cos. Inc. and [Williams Partners] cash dividends and distributions and related growth rates," CEO Alan Armstrong said in a March 16 statement. "Additionally, as we've often discussed, we are well-positioned to execute on corporate structure changes, which would restore the income tax allowance to the pipeline's cost of service rates."

Williams already owns approximately 74% of Williams Partners, the parent of Transcontinental Gas Pipe Line Co. LLC, which operates one of the biggest U.S. pipeline networks.

The change at FERC followed a 2016 court decision that was critical of commission policies and a 2017 federal tax law that brought a corporate tax rate reduction from 35% to 21% and a 20% pass-through deduction for businesses like MLPs.

Like Williams Partners, MLPs that do not have parent corporations, such as Enterprise Products Partners LP, said they do not expect the FERC revision to materially impact earnings and cash flow, even if they are party to cost-of-service rates. Besides accounting for costs, these pipeline service rates include an opportunity for a pipeline to earn a reasonable return on its investment, as outlined in the Natural Gas Act.

Magellan Midstream Partners LP said it has little exposure to such rates. "Most of the tariffs on Magellan's crude oil pipelines are established by negotiated rates that generally provide for annual adjustments in line with changes in the FERC index, subject to certain modifications," the MLP said in a statement.

In a similar statement, Tallgrass Energy Partners LP predicted the change would have little to no effect on core-asset revenue from the Rockies Express Pipeline LLC and Pony Express pipelines, which have negotiated rate contracts. Energy Transfer Partners also said many of its transportation contracts are based on negotiated rates. These rates, which vary from the usual cost-of-service rates, are the product of agreements between a pipeline and a shipper. Negotiated rates are subject to limits enforced by FERC and designed to prevent discrimination against other shippers.

That does not mean, however, that the FERC ruling will not translate into dollars lost. Andeavor Logistics LP said in a press release that the change will have an almost $10 million negative impact each year on the partnership's net earnings and EBITDA. Spectra said 40% of its gas pipeline revenue comes from cost-of-service-based tariffs.

Equity analysts were also mostly satisfied that the elimination of the income tax allowance would not deal a major blow to MLPs. However, SL Advisors LLC Managing Partner Simon Lack wrote in a March 15 blog post that it could help convince investors to shift their strategy from MLPs to pipeline C corporations. And B. Riley FBR analysts said in a March 15 note to clients that they expect partnerships like Williams and Spectra, which both experienced significant fourth-quarter 2017 earnings hits due to the diminished value of future tax breaks, to remain "exposed" to the revised FERC policy.

FERC on March 15 also proposed a rule requiring pipelines to report the new tax law's effects on pipeline revenue. The commission would use the information to determine whether interstate natural gas pipelines are collecting unreasonable rates.

Even though pipeline giant Kinder Morgan Inc. reported a $1.4 billion fourth-quarter loss due to deferred tax expenses as a result of the lower corporate tax rate, the company said in a press release that such a rule "will not significantly impact assets that are current cash taxpayers."

FERC moved to eliminate the income tax allowance and issue the proposed rule on pipeline rates after an unfavorable ruling in a case that involved Kinder Morgan company SFPP, L.P.. A federal appeals court concluded in July 2016 that FERC had failed to demonstrate there was no "double recovery" of both an income tax allowance and a return on equity as a result of the commission's policies.