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WACHOVIA CAPITAL MARKETS, LLC
MLP Primer -- Third Edition
Everything You Wanted To Know About MLPs, But Were Afraid To Ask • Primer Third Edition – A Framework For Investment. This report is an update to our second master limited partnership (MLP) primer. In this third edition, we have added new information based on questions and feedback received from investors over the past three years. Included in this edition are updated data about MLPs’ relative performance, the growth of MLPs as an asset class, and developments within the MLP sector (e.g., legislation, fund flow).
July 14, 2008
Master Limited Partnerships Michael Blum, Senior Analyst
( 2 1 2 ) 2 1 4 - 5 0 3 7 / mi c h a e l . b l u m@ w a c h o v i a . c o m
Sharon Lui, CPA, Senior Analyst
(212) 214-5035 / email@example.com
Eric Shiu, Associate Analyst
(212) 214-5038 / firstname.lastname@example.org
Praneeth Satish, Associate Analyst
(212) 214-8056 / email@example.com
Ronald Londe, Senior Analyst
(314) 955-3829 / firstname.lastname@example.org
Jeffrey Morgan, CFA, Associate Analyst
(314) 955-6558 / email@example.com
Please see page 93 for rating definitions, important disclosures and required analyst certifications.
WCM does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of the report and investors should consider this report as only a single factor in making their investment decision.
MLP Primer -- Third Edition
WACHOVIA CAPITAL MARKETS, LLC EQUITY RESEARCH DEPARTMENT
Table Of Contents
I. II. Introduction -- A Framework For Investment........................................................................................................................ 5 Why Own MLPs? .................................................................................................................................................................. 5 A. Above-Average Performance And Good Portfolio Diversification......................................................................... 5 B. MLP Value Proposition -- Tax-Efficient Income Plus Growth ............................................................................... 8 C. MLPs Have Been Defensive During Economic Slowdowns................................................................................. 10 D. MLPs Are An Effective Hedge Against Inflation.................................................................................................. 11 E. Demographics........................................................................................................................................................ 11 F. MLPs Are An Emerging Asset Class .................................................................................................................... 12 Who Can Own MLPs? ......................................................................................................................................................... 16 A. Mutual Funds Can Own MLPs … But Most Do Not ............................................................................................. 17 B. Challenges Remain For Mutual Fund Ownership Of MLPs.................................................................................. 17 C. Tax Exempt Vehicles Should Not Own MLPs ...................................................................................................... 17 How To Build An Effective MLP Portfolio......................................................................................................................... 18 Types Of Assets In Energy MLPs And Associated Commodity Exposure ......................................................................... 18 A. A Brief Review Of The Evolution Of The MLP Sector ........................................................................................ 18 B. Asset Overview ..................................................................................................................................................... 19 Midstream (e.g., Pipelines, Storage, And Gathering And Processing)............................................................. 20 Propane............................................................................................................................................................. 26 Shipping ........................................................................................................................................................... 27 Coal .................................................................................................................................................................. 29 Upstream .......................................................................................................................................................... 29 Refining............................................................................................................................................................ 30 Compression..................................................................................................................................................... 31 Liquefied Natural Gas (LNG) .......................................................................................................................... 31 General Partner Interest.................................................................................................................................... 31 The Basics............................................................................................................................................................................ 32 A. What Is An MLP?.................................................................................................................................................. 32 B. Why Create An MLP? ........................................................................................................................................... 33 C. What Qualifies As An MLP?................................................................................................................................. 33 D. What Are The Advantages Of The MLP Structure?.............................................................................................. 33 E. How Many MLPs Are There? ............................................................................................................................... 33 F. What Is The K-1 Statement?.................................................................................................................................. 34 G. What Is The Difference Between A LLC And MLP? ........................................................................................... 34 H. Are MLPs The Same As U.S. Royalty Trusts And Canadian Royalty Trusts? ..................................................... 34 I. What Are I-Shares? ............................................................................................................................................... 35 Drivers Of Performance....................................................................................................................................................... 37 A. Distribution Growth............................................................................................................................................... 37 B. Access To Capital.................................................................................................................................................. 37 C. Interest Rates ......................................................................................................................................................... 38 D. Commodity Prices ................................................................................................................................................. 39 Key Terms ........................................................................................................................................................................... 39 A. What Are Distributions.......................................................................................................................................... 39 B. What Are Incentive Distribution Rights (IDR)...................................................................................................... 39 C. Calculating Incentive Distribution Payments ........................................................................................................ 40 D. Available Cash Flow Versus Distributable Cash Flow.......................................................................................... 41 E. Are MLPs Required To Pay Out “All” Their Cash Flow? .................................................................................... 41 F. What Is The Distribution Coverage Ratio And Why Is It So Important? .............................................................. 41 G. What Is The Difference Between Maintenance Capex And Growth Capex? ........................................................ 42
.......... Emergence Of “Dropdown” MLPs....... 71 X.................................................................................................................................................................... 57 Paid-In-Kind (PIK) Equity .................... LLC EQUITY RESEARCH DEPARTMENT IX............................... 64 L......................................................... XIII............................................. 60 General Partners Are Held In Different Entities ........................................................................................................................................................................................................................................................................................................................................... MLPs Continue To Enjoy Good Access To The Capital ................................................................................................ 50 D.................................................................................... 46 What Is The NAPTP?...................................................................... Can MLPs Be Held In An IRA? .... 65 Valuation Of MLPs.... MLPs Have Been Successful In Making Acquisitions And Investing Organically. 46 NAPTP Is Working To Ensure GPs Are Not Impacted By Carried Interest .........................Master Limited Partnerships WACHOVIA CAPITAL MARKETS....................................................................................................................................................................................................... 46 H....... 69 Appendix.................................................... 45 E.................. 58 Not All GPs Are Created Equal ..... 42 C........................ Cost Of Capital Is Becoming A More Prominent Issue......................................... Financial Products Facilitate Participation In MLPs ................................................................................................................................................ 56 PIPE Mania .................................................................................. 46 G.............................................................................................. MLP Investor Base Is Changing.................................................................................................................................................................................................................................... 42 A...................................................................................... 66 B............................................... 58 The Multiplier ........................................................................................................................................................ XII................................................................... 66 A....................................................................................................... Shift In Supply Resources Is Driving Energy Infrastructure Investment......... 66 E...... Dramatic Growth Of MLPs .................................................. 44 D............................... 61 Upstream MLPs Failed In The 1980s.................... 61 What Should Be The Criteria To Invest Today? ... 56 Hybrid Securities.............. 57 H................................................................................................................................................ 56 A Paradigm Shift In PIPE Dynamics ..... What Is Maximum Potential Distribution (MPD)?............................................ MLPs Are Employing Creative Financing Solutions To Fund Growth........................................................................................................................................................................ 47 MLPs Income Tax Allowance In Pipeline Ratemaking ...Recognizing The Value Of The GP .......................... Spread Versus The Ten-Year Treasury ..................................................... Why? ................................................................................................................................................... MLPs As An Estate Planning Tool....... 53 F... What Are The Tax Advantages For The LP Unitholder (The Investor)? ............................. 54 G........................ 57 GP Subsidies ............................... Current Tax and Legislative Issues.................................................................................................................................................................................................................................................................................................. Foreign Investor Ownership ..................... 67 F....................................................................................................... Emergence Of MLP Indices ................................................................................................................................................................................................................................................................. State and Local Taxes and State Filing Requirements................................ Publicly Traded General Partners -............................. 61 J.......................................... 60 I....................... Return Of Upstream MLPs................................. Who Pays Taxes?....................... Enterprise Value-To-Adjusted EBITDA ................................................................................................................................................................................................................. 58 Power Of The IDRs.......................................................................................................................................................... 42 B......................................................... 48 A. XI.................................................................................................. 4 .................................................................................................................................................................. 51 E................................... Tax And Legislative Issues..................................................................... 66 C......................................... 46 Canadian Royalty Trusts Tax Status Expected To Change In 2011........................ Two-Stage Distribution (Dividend) Discount Model .................................. Distribution Yield ................... 61 Upstream MLPs Are Faced With Unique Challenges And Risks ........................................................ Price-To-Distributable Cash Flow ............................................................... 67 Risks .... 47 Sector Trends ........................ 48 C......................... 66 D...................................................................................................................................................... The Mechanics Of A Purchase And Sale Of MLP Units And The Tax Consequences ............................................ 62 K............................................................................................ 48 B........................................ 45 F........................... 46 What Is The Risk Of MLPs’ Losing Their Tax Advantaged Status.............. 46 FERC Includes MLPs In Determining Pipeline ROEs......................
In this third edition.5% for the S&P 500. pure-play publicly traded general partners. II. before delving into the details. During this time frame. dropdown stories. LLC EQUITY RESEARCH DEPARTMENT I. We provide a reference guide to familiarize investors with the MLP investment. respectively. we suspect that relative to other asset classes.Third Edition WACHOVIA CAPITAL MARKETS. we have added new sections detailing upstream MLPs. and developments within the MLP sector related to legislation. (2) Attractive value proposition of tax-efficient current income plus growth = a sustainable low-double-digit total return. 5 . Above-Average Performance And Good Portfolio Diversification From 1998 to 2007. (4) An effective way to hedge inflation.9% for the S&P 500) with lower risk (beta of 0. A. we have added new information to our “basics” section based on questions and feedback we have received from investors over the past few years. the Wachovia MLP Index has generated an average total return of 6. As always. versus 5. etc. In addition.2%. Why Own MLPs? While interest and ownership of MLPs has certainly increased since the publication of our last primer. and (6) An emerging asset class. versus 3% and 3%.3% (3%) (14%) (10%) (5%) (9%) (12%) (22%) 8% 10% 1% 2% (0%) (7%) (15%) 39% 30% 27% 38% 33% 32% 23% 19% 29% 21% 17% 11% 5% 5% 16% 12% 5% 43% 42% 45% 24% 29% 27% 22% WCM MLP Index (TR) S&P 500 Index (TR) 1992 1994 1996 1998 2000 2002 2004 2006 2008YTD Wachovia MLP TR Index +15. versus 12% for the S&P 500 REIT Index and 6% for the S&P 500 Index. MLPs have also outpaced the broader market and most income-oriented investments with an average total return of 13%. Wachovia MLP Index generated an average total return of 6%. Therefore.31). MLPs have delivered above-average total returns (an average of 17. MLP Total Returns Versus S&P 500 50% 40% Percent total return 30% 20% 10% 0% (10%) (20%) (30%) 1990 2000 Index performance 1600 1200 800 400 0 Dec-89 Dec-90 Dec-91 Dec-92 Dec-93 Dec-94 Dec-95 Dec-96 Dec-97 Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 S&P 500 TR Index +9. MLPs are still relatively under-owned. versus 2. financing.8% WCM MLP Index (TR) S&P 500 Index (TR) Source: FactSet Over the past five years. During the past three years (2005-08). MLPs outperformed the S&P 500 in seven out of ten years. we think it is important to answer the fundamental question of why should investors care about MLPs? The case for MLP ownership can be grouped into the following broad categories: (1) Performance and diversification. fund flow. During the past three years.MLP Primer -. Figure 1. feel free to call us with any questions or feedback. Introduction -. (3) A defensive investment. (5) Demographics trends.A Framework For Investment This report provides an update to our previous MLP primer published in August 2005.3%.
The Index comprises energy master limited partnerships that are listed on the New York Stock Exchange (NYSE). The Wachovia MLP Composite Index currently consists of 73 energy MLPs. LLC EQUITY RESEARCH DEPARTMENT Figure 2. all securities already included in the Index that continue to meet the eligibility criteria remain in the Index. For each review date. and the Index is independently calculated by Standard and Poor’s using a float-adjusted market capitalization methodology. August. and November). Real-time price quotes for the index are available on Bloomberg and Reuters under the symbol WMLP (and WMLPT for total return) and on FactSet Marquee under the symbol WML-CME. 6 . Total Return Performance Versus Other Indices 30% Wachovia MLP TR Index S&P 500 (TR) / Real Estate Investment Trusts 15% % total return S&P 500 (TR) / Utilities S&P 500 (TR) Index 0% (7%) (15%) (6%) (3%) (15%) 5% 6% 3% 12% 3% 13% 12% 6% 18% (16%) (16%) (17%) (30%) YTD 1-year 3-year 5-year Source: Bloomberg Performance As Measured By The Wachovia MLP Index We gauge energy master limited partnerships’ (MLP) performance using our Wachovia MLP Composite Index. The Index composition is determined by Wachovia Capital Markets. To be eligible for the index. May.com. Following a review. with changes effective after the close of trading on the third Friday of March. the company must be structured as a limited partnership or limited-liability company and have a market capitalization of greater than $200 million. For further information and historical performance data from 1990 (downloadable). September. securities are evaluated based on the close of trading on the last trading day (the evaluation date) of the month preceding the review (February. and is also subdivided into 13 subsectors. which was introduced in December 2006. LLC. The Index is reviewed quarterly.wachoviaresearch.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. including 11 general partnerships (GP). The index is designed to give investors and industry participants the ability to track both price and total return performance for energy MLPs relative to the broader market. please visit www. the American Stock Exchange (AMEX) or NASDAQ. All other securities that meet all eligibility criteria are added to the Index and all securities included in the Index that do not continue to meet the eligibility requirements are removed from the Index. and December. June. and that meet market capitalization and other requirements.
07. LLC Portfolio Diversification MLPs exhibit low correlation to most asset classes and thus. Petroleum MLP Index i. The correlation between MLPs and the S&P 500 over the one. respectively.and five year periods. Low correlation with the ten-year treasury. Gathering & Processing MLP Index Marine Transportation ii. Crude Oil MLP Index Propane ii. Oilfield Service Index Midstream S&P 500 Index Price 4% 16% 7% (3%) (10%) (1%) 5% 6% 4% 12% 4% 2% 4% (22%) 1% Note: The WCM Oilfield Service Index is as of June 18. Relationship with the S&P 500 has been fairly consistent. Marine Transportation MLP Index 5. provide good portfolio diversification. Natural Gas MLP Index i.36 and only 0.Third Edition WACHOVIA CAPITAL MARKETS. the correlation between the MLPs and the ten-year treasury yield was 0. Midstream MLP Index Oil & Gas A. While this is high relative to other asset classes. the correlation to the overall market is still less than one-half (see Figure 4).and five-year periods was 0. interest rates. GP Composite Index General Partnerships 2. The low degree of association reflects the transformation of MLPs from primarily ‘income’ investments to ‘growth and income’ investments. in our view. Refined Products MLP Index 7. it is still relatively low. Natural Gas Pipelines MLP Index B.40. Historically. We believe a moderate rise in interest rates should be manageable for MLPs as any increase in rates should be partially offset by the increase in distributions throughout the year. and five-year periods. threeyear.50 over the last one-year. commodity prices or other yield-oriented investments. Coal MLP Index 3. Processing. on an absolute basis. Oil & Gas MLP Index Coal 4. the movements in MLP prices have not been highly correlated with changes in the broader stock market. Historical Wachovia MLP Index Performance By Subsector Wachovia MLP Index WCM MLP Indices Performance Since 2005 WCM MLP Index 1. Propane MLP Index 6. and NGLs Petroleum Refined Products Oil Field Services Crude Oil Source: Standard & Poor's and Wachovia Capital Markets. The correlation between MLPs and these variables has been fairly consistent and below 0. Over the past one.43 and 0. but not that strong. LLC EQUITY RESEARCH DEPARTMENT Total Return 10% 20% 13% 5% (4%) 6% 11% 12% 11% 18% 10% 9% 10% (18%) 3% Figure 3. respectively. changes in investor 7 . Although the historical correlation to actual interest rate trends has been relatively low. in our view. 2007 Natural Gas Natural Gas Pipelines Gathering. Although the correlation between MLPs and the ten-year treasury has increased over time.MLP Primer -.
36 0.01) and (0. Investors also benefit from lower risk. in our view.29 0. respectively. the perception of commodity price risk can influence stock prices (over the short-term). and MLPs and the S&P Utilities Index were 0.43 0. MLP Correlation With Other Asset Classes Correlation Of MLPs With Other Asset Classes S&P 500 2005 2006 2007 2008 YTD Last year Last 3 years Last 5 years Source: FactSet 0. As the number of publicly traded MLPs has grown in recent years and MLPs have established a track record of distribution increases. we highlight the median yield of MLPs relative to other indices and the upward trend of MLP distribution growth over the past eight years. For the past year. on average. Figure 4. the movement of MLP unit prices have become tied more closely to the equities market than the bond markets. are the most comparable energy securities relative to the MLPs.40 REITs 0.21 0. Link to bonds is diminishing. all else being equal. Given median yields of 6-8% and a long-term sustainable distribution growth rate of 4-6%.41 0.26 0.02 0. 8 . The MLP value proposition is underpinned by the sector’s growing role in providing the backbone of U.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. with a median yield of 7. MLPs provide investors with current income. The influence of commodity price movements on MLPs is also relatively low. in our view.21 0. the correlation with crude oil and natural gas prices was 0. Over the past one and five years. energy infrastructure to deliver natural gas.12 0. Bonds (0. Current income plus growth.12) 0.32 over the past one and five years. and visible distribution growth.21 and 0. crude oil. Unlike bonds with fixed interest payments.31 and 0.19 0.01) (0. respectively. For the next three years.36 0. in our view.38 0.07) B.36 0. Over the past five years. Utilities provide a median yield of about 3.36 0.43 0.42 0. Clearly though.34 0. we believe it is generally low relative to other companies in the energy industry. Although MLPs’ exposure to commodity price risk varies. MLPs should be able to deliver low-double-digit total returns.01) (0.31 0. Utility stocks.8%.42 0. Relationship with other yield-oriented investments also trending lower.33 0.14) 0.40.S. as measured by beta. overall. and a partially tax-deferred distribution. we forecast distribution growth of 9% (10% including GPs) supported by a large slate of organic investments tied to the ongoing buildout of U. Relatively weak correlation with commodity prices. the correlation between MLPs and Moody’s Corporate Bond Index was only about (0.14 Crude Oil 0.00) (0. respectively.16 0.07). MLPs can increase distributions paid to unitholders and increase their asset base via acquisitions and/or internal growth projects. respectively. and refined products to a growing domestic market. respectively. LLC EQUITY RESEARCH DEPARTMENT psychology toward potential movements in interest rates (both the magnitude and timing) can affect the shortterm performance of MLPs.47 0.35 0. the correlation with crude oil and natural gas prices was 0.14.31 10 Yr Treas (0.03 (0. in our view. In Figures 5 and 6. with their regulated earnings stream and significant dividend yields.42 0.32 Corp.34 and 0.6% (2003-07).24 0.43 0. annually.42 0. MLP distributions have increased at a median five-year compound annual growth rate (CAGR) of 8.05) (0.29 and 0.41 0.31 0.2%.59 0. with high current and tax-deferred income.2% and have increased dividends at an annual growth rate of approximately 9.10 0.S. energy infrastructure.40 Natural Gas 0. The correlation between MLPs and REITs was 0.13 0.30 0. over the past five years. in our view.07 Utilities 0.10.34 0. MLP Value Proposition -.02 0.Tax-Efficient Income Plus Growth MLPs provide an attractive value proposition.
01. GPs) (% 14.75. oilfield services.95. and 0.36.0% 8.0% 6% 6.58 to 1.0% 2000A MLP Distribution Growth 2001A 2002A 2003A 2004A 2005A 2006A 2007A 3% 5% 5% 5% 9% 10% 9% Source: Partnership reports Tax efficient.0% 0.6% 6.30 over the past five years. and utilities have exhibited comparably more volatility with an average beta of 0. Low risk.0% Wachovia MLP Index Source: Bloomberg and FactSet 7.31 for the Wachovia MLP Index.0% Yield 4. Wachovia MLP Index Yield Versus Other Indices 8. MLP Annual Distribution Growth (2000-07) Annual Distribution Growth (Excl. MLPs offer investors a tax-efficient means to invest in the energy sector. Traditional energy companies such as those involved in exploration and production.0% 4.6% 3.31 over the past year and an average beta of 0. over the past five years (2004-2008).0% 6.60. The tax-deferred portion of the distribution is not taxable until the unitholder sells the security.2% 2. MLPs have averaged a beta of just 0. An investor will typically receive a tax shield equivalent to (in most cases) 80-90% of cash distributions received in a given year.56 and 1. During this time frame.0% 0.0% 2. MLPs offer investors an alternative way to invest in energy with lower fundamental risk. the beta for the S&P 500 Oil & Gas Exploration & Production Index ranged from 0. This compares with a range of 0. while the beta for the S&P 500 Oil & Gas Equipment & Services Index ranged from 0.0% 2.09.9% Dow Jones Industrial 30 2.0% 10. 1. The beta for the S&P 500 Utilities Index was between 0.Third Edition WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT Figure 5.3% S&P 500 Index FTSE NAREIT All REIT Index S&P 500 Utilities Index Figure 6.MLP Primer -.14 and 0. 9 .0% 12. respectively.32 to 1.
36 1 .00 0.77 0.1 10 .57 0. there were just seven MLPs.66 0.71 0. MLPs have outperformed the market (S&P 500) in three of four periods of economic slowdown. MLP Beta Relative To Other Energy Sectors 1. periods during which the GDP was 2% or less were analyzed. Wachovia Capital Markets LLC.60 1. with a combined higher total return of 13. The median distribution growth was 9.39 0.68 0.58 0. there are currently 78 MLPs with a combined market cap of approximately $134 billion. Energy Sub-Sector Performance During Economic Slowdowns Note: Index Reference: E&P Index (S15OILP). Utilities (UTIL). a decline in GDP for two or more consecutive quarters). Service (S15OILE). with total sector market cap of $2.30 0. Drillers (SPOILD). We caution that these data do need to be viewed with a skeptic’s eye.56 0.81 0.08 0.31 14 .60 0.. That year. Integrated (XOI). and Wachovia Economics Group 10 .42 0.2% in 2007. Q2 2001 to Q2 2002. rather than just periods of true economic recession (i.25 0.00 0.98 0.33 0.01 0.66 0.39 0.98 0.e.25 0.1 4 0.22 0.76 0.83 0.3% during all four periods (the S&P 500’s total return during these four periods was 12. In contrast.32 0.20 0.34 0. Over the past 15 years.20 Beta 1. there were four periods during which GDP growth was 2% or less: Q1-Q4 1995.1 4 0.88 S&P 500 Oil & Gas Equipment & Services S&P 500 Utilities 1 .09 0.20 0.60 S&P 500 Oil & Gas Exploration & Production 1 .1 9 0. Figure 8. and Q2 2006 to Q1 2007.47 0. In 1994.28 1 .80 0.34 0. For purposes of this study.80 MLP Composite 1. MLPs Have Been Defensive During Economic Slowdowns Our colleagues (Wachovia’s E&P energy research team) examined the performance of energy stocks and the energy subsector's performance during periods of slowing GDP growth.Energy) Source: Bloomberg.61 0.39 0.40 1.64 0. as the MLP sector has changed dramatically during the past 15 years. MLPs grew distributions by 7. on average).26 0.1 billion.40 0.1 1 . Over the past 15 years. LLC EQUITY RESEARCH DEPARTMENT Figure 7.78 0.64 0.32 1 .28 0.59 0. the data do suggest that MLPs are defensive in nature given their relatively high yields and prospects for distribution growth.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.1 1 0. FactSet.20 0. Thus. in our view. MLP (WCM Index Wachovia) Total Energy (S&P 500 .1 4 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008YTD Source: FactSet C. Q4 2002 to Q3 2003.2%.7%.
000 80. Figure 9. Historical MLP Distribution Growth (Excluding GPs) Versus The CPI 12% Distribution Growth (Excl. Figure 10.1% in 2007 (as measured by the CPI).061 40.S.4% 13.S. relatively low risk (beta).243 54. Population Over The Age Of 65 Population (in thousands) 100. inflation was 4. In Our View MLPs current (and growing) income stream can provide an effective hedge against inflation.4% 20. GPs) (%) 10% 8% 6% 6% 4% 4% 2% 0% 1998A 1999A 2000A CPI 2001A 2002A 2003A 2004A 2005A 2006A 2007A 4% 3% 5% 5% 5% 10% 9% 9% MLP Distribution Grow th Source: Bureau of Economic Analysis and Bureau of Labor Statistics and Partnership reports E.S. population 35. population. while MLPs increased distributions at a median of 9% (11% including GPs).MLP Primer -. In addition.7% 25% 20% 15% 10% 5% 0% Source: U.453 80.0% 71.049 86.7% 16. in our opinion. By 2030. Many income-oriented investments such as REITs. as retiring Baby Boomers seek current income in a tax-efficient structure. and taxadvantaged structure.S. the number of seniors (ages 65 and older) will increase sharply beginning after 2010 as the Baby Boom generation (those born between 1946 and 1964) begins to turn 65 years of age.Third Edition WACHOVIA CAPITAL MARKETS. and high-yield bonds have outperformed the market over the past few years.000 60. Projected U. in our view. utilities. MLPs are an effective estate planning tool. We estimate 10% distribution growth (12% including GPs) in 2008 and 9% growth (10% including GPs) in 2009. According to the U.000 20.000 0 2000A 2010E 2020E 65+ 2030E 2040E 2050E % of total U.705 19. LLC EQUITY RESEARCH DEPARTMENT D.000 40. Census Bureau 11 .3% 20.632 12.S. We believe MLPs represent an attractive investment class for retirees due to their significant (and growing) income stream. For example. Census Bureau. MLPs Are An Effective Hedge Against Inflation. seniors are expected to account for about 20% of the U. when the entire Baby Boom generation has reached the age of 65. as MLP units can be passed to heirs with significant tax savings. Demographics Demographics should continue to drive demand for income-oriented investments. Current yields range from 5% to 13% (excluding GPs).
Master Limited Partnerships
WACHOVIA CAPITAL MARKETS, LLC EQUITY RESEARCH DEPARTMENT
F. MLPs Are An Emerging Asset Class MLPs are emerging as a distinct asset class, akin to the development in the 1990s of real estate investment trusts (REIT). This is evident by the growth exhibited by MLPs over the past ten years in terms of number, size, and liquidity. In 1994, there were just seven energy MLPs with an aggregate market capitalization of approximately $1 billion. Currently, there are 78 energy MLPs, with a total market capitalization of approximately $134 billion. In 1994, average trading volume of our MLP universe was just 34,819 units per day. Year to date, our MLP Composite is trading an average of 153,442 units per day. Figure 11. Number And Market Capitalization Of Energy MLPs
$160 Total market capitalization of energy MLPs $140 Market capitalization ($ in billions) $120 $100 $80 $60 $40 $20 $0 9 $2 1995 12 $3 1996 12 $5 1997 15 $8 17 $8 18 $11 29 23 $18 $19 7 $1 1994 30 $30 Number of energy MLPs $112 73 $147 $134 78 100 90 80 70 60 50 40 30 20 10 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008YTD Number of MLPs
1 83 1 52
60 $70 42 34 $38
Source: FactSet and National Association of Publicly Traded Partnerships
Could The MLP Sector Develop Like The REITs? The modern-day REIT was created through the real estate investment trust tax provision, which established REITs as pass-through entities, thus eliminating double taxation of dividends. In the 1980s, certain real estate tax shelters were eliminated, increasing the investment in REITs. The Tax Reform Act of 1986 enabled REITs to manage properties directly, creating further incentives for the creation of additional REITs. Finally, in 1993, REITs’ investment barriers to pension funds were eliminated. This trend of reforms continued to increase the interest in and value of REIT investments. At the end of 2007, there were 152 publicly traded REITs operating in the United States with a total market capitalization of approximately $312 billion. (Source: National Association of Real Estate Investment Trusts) Figure 12. Historical Number Of REITs And Market Capitalization
$500 $450 $400 $350 $300 $250 $200 $150 $100 $50 $0
53 53 62 46 69 71 71 75 76 82 66 59 59 $ 224 $1 $2 $1 $2 $2 $2 $3 $4 $5 $8 $1 $1 $1 $1 $9 0 0 1 2 $ 1 $ 1 $ 32 $ 44 $ 58 3 6 $ 89 $1 $1 $1 $1 $1 $1 41 38 24 39 55 62 $ 308 $ 331 226 1 89
Total market capitalization of REITs Number of REITs
42 1 38 1 96 10 1 17 1 1 20 19 1
21 9 1 99
21 21 1 0
203 1 89 1 82 1 76 1 71
97 1 93 1
$ 438 $ 31 2
150 125 100 75 50 25 0
Source: National Association of Real Estate Investment Trusts®, Inc.
Number of REITs
$ in billions
MLP Primer -- Third Edition
WACHOVIA CAPITAL MARKETS, LLC EQUITY RESEARCH DEPARTMENT
Figure 13. Historical And Projected MLP Market Capitalization
$400 Total market capitalization of energy MLPs $350 $300 $ in billions $250
73 78 ? ? ?
140 120 100 80 Number of MLPs
Number of energy MLPs
$200 $150 $100 $50 $0
7 $1 9 $2 12 $3 12 $5 15 $8 17 $8 18 $11 23 $18 29 30 34 42
60 ? $147 ? $134
60 40 20 0
1994 1995 1996 1997
1998 1999 2000 2001 2002
2003 2004 2005 2006
2007 2008 2009E 2010E 2011E YTD
Source: National Association of Publicly Traded Partnerships and Wachovia Capital Markets, LLC estimates
Could MLPs Be On A Similar Trajectory? We think it is possible. The MLP sector has achieved several milestones that closely parallel milestones achieved by the REIT sector. These milestones led to the growth and prominence of the REIT industry, in our view. Figure 14 outlines the REIT/MLP parallels: Figure 14. REIT Versus MLP Milestones
REITs - Omnibus Reconciliation Act of 1993 allowed pension funds to own REITs - REIT Modernization Act of 1999 - Equity Office Properties Trust (EOP) was the first REIT added to the S&P 500 Index on October 1, 2001 - NAREIT All REIT Index yield has compressed to 6.6% from 8.0% in 2000 MLPs - With the passage of the American Jobs Creation Act in October 2004, mutual funds are now allowed to own MLPs - EPD has made the case to qualify for inclusion into the S&P 500 Index - The midstream MLP yield has compressed to 7.8% from an average of 9.1% in 2000
Source: FactSet and National Association of Real Estate Investment Trusts
As more assets are placed into the structure, we expect MLPs to proliferate. Two notable areas of potential growth are pipelines, and oil and gas reserves. Currently, about 37% of all energy pipelines in the United States are held by MLPs, implying room for consolidation within the sector. Increasingly, pipeline companies are recognizing that the MLP structure is most efficient for holding midstream assets. This is evident by the sale of two interstate pipelines to MLPs in 2006-07 and three initial public offerings of interstate pipeline MLPs over the past two years. Figure 15. U.S. Pipelines Owned By MLPs
MLP owned pipeline miles 37%
Note: Based on crude oil, natural gas, natural gas liquids, refined products pipeline miles Source: Department of Transportation, American Petroleum Institute (API), Association of Oil Pipe Lines (AOPL), and Partnership reports
On December 22, 2006, El Paso sold ANR Pipeline to TransCanada Corp. and TC Pipelines, L.P. (TCLP) for $3.3 billion. On September 15, 2006, GE Energy Financial Services and Southern Union Company sold Transwestern Pipeline to Energy Transfer Partners for $1.0 billion. According to the National Association of Publicly Traded Partnership estimates, energy related MLPs, currently own approximately 200,000 miles of
Master Limited Partnerships
WACHOVIA CAPITAL MARKETS, LLC EQUITY RESEARCH DEPARTMENT
pipelines: gathering and transmission, onshore and offshore pipelines, carrying natural gas, natural gas liquids, crude oil, and refined products (See Figure 16). El Paso Pipeline Partners, L.P. (EPB), Spectra Energy Partners, L.P. (SEP), and Williams Pipeline Partners, L.P. (WMZ) are three interstate pipeline MLPs, that held successful initial public offerings on November 16, 2007, June 27, 2007, and January 18, 2008, respectively. EPB sold approximately 33.2% of the partnership or 28.75 million common units at $20 per unit. SEP sold about 17% of the partnership or 11.5 million common units at $22 per unit, and WMZ sold approximately 47.5% of the partnership, or 16.25 million common units at $20 per unit. Figure 16. Miles Of Pipeline Owned By Energy MLPs
Total MLP pipeline miles owned Natural gas pipelines Refined products pipelines NGL/LPG pipelines Crude oil pipelines Total pipelines 70,000 40,000 20,000 70,000 200,000
Source: U.S. Department of Transportation, American Petroleum Institute (API), the Association of Oil Pipe Lines (AOPL), and Partnership reports
MLPs are the logical structure to house interstate pipelines and other midstream assets, in our view, due to their low-maintenance capital requirements and tax-advantaged status, which enables cash flow to be distributed to investors in a tax-efficient manner. Because MLPs do not pay corporate income tax, they can generate more free cash flow than a corporation given the same amount of operating income. Assets that generate stable cash flow and that require minimal capital reinvestment to sustain are ideally suited for the MLP structure, which pays the majority of its cash flow to unitholders on a quarterly basis. MLPs Are Also Suitable Investment Vehicles For Certain Oil And Gas Assets Upstream MLPs can play an important role in the recycling of cash flow associated with the exploration (at the C-Corp level) and production of oil and gas assets in the United States. By selling mature production/reserves to MLPs, E&P companies are able to reinvest cash proceeds into properties that have better geologic upside potential to which they can significantly add value by drilling wells. This process allows E&P companies to efficiently explore for new reserves without having to invest significant resources in the upkeep of mature reserves. The mature, low-decline production is placed into the MLP structure, where reserves can be harvested to support steady cash flow and divestitures. Upstream MLPs also benefit from this process as most E&P companies have historically underexploited mature fields, given the opportunity for higher returns (and higher risk) elsewhere. As a result, upstream MLPs receive not only a base of stable producing assets, but also an inventory of low-risk development drilling opportunities through which to maintain or modestly increase production.
these partnerships should be able to outbid E&P companies for acquisitions. LLC Upstream MLPs Well Positioned To Compete For Mature Reserves Upstream MLPs are better positioned to compete in the oil and gas market for mature reserves than E&P companies. LLC Typically.MLP Primer -.Third Edition WACHOVIA CAPITAL MARKETS. At this point. Upstream MLPs do not pay corporate taxes and the majority of partnerships do not have incentive distribution rights (IDR) or management incentive interests (MII) (those that do have a max tier of 25%). Accordingly. Appropriate Production Profile For The MLP Structure C-Corp Structure Oil And Natural Gas Production Curve MLP Structure Time Source: Wachovia Capital Markets. in our view. Figure 18. initial production rates from new wells are high. LLC EQUITY RESEARCH DEPARTMENT Figure 17. it makes sense for E&P companies to sell their mature properties and redeploy the proceeds into new plays with higher potential returns. Upstream MLPs Fill A Niche Oil & Gas Company (CCorp) discovers new reserves via exploratory drilling Oil & Gas Company develops reserves and captures higher initial production and cash flow (and higher decline rates) Oil & Gas Company redeploys capital received from MLP Upstream MLP distributes predictable cash flow to unitholders from proved developed producing reserves Oil & Gas Company sells the mature reserves to an Upstream MLP after production rates have declined to a more manageable and stable level (5-6%) Common unitholders receive distributions Source: Wachovia Capital Markets. but decline rapidly for several years before leveling off. while 15 .
1 trillion cubic feet (Tcf) of proved natural gas reserves and 21. Figure 20. there are approximately 211. After stripping these reserves out. Of Which MLPs Own 7% According to the Energy Information Administration (EIA). mutual funds are required to receive at least 90% of their income from qualifying sources listed in the tax laws. oil reserves in MLP structure 6% Est. reserves (excluding offshore and Alaska) are proved developed producing (PDP) and about 50% of this amount is suitable for the MLP structure.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. only 6% of crude oil and 7% of natural gas have been placed in the structure.S. This is still true today. Who Can Own MLPs? MLPs have traditionally been owned by retail investors. natural gas reserves in MLP structure 7% Note: Assumes 50% of total proved U. institutional investors such as mutual funds and other registered investment companies (RIC) were restricted from investing in MLPs because distributions and allocated income from publicly traded partnerships were considered non-qualifying income. LLC EQUITY RESEARCH DEPARTMENT still generating a similar level of cash flow accretion to unitholders. This includes approximately 29 Tcf and 0. Market For MLP Suitable Oil & Gas Reserves Exceeds 75 Tcfe. both of which are likely not suitable for the MLP structure.3 Tcf of natural gas and 299 million barrels of crude oil. All else being equal. 16 . with the remaining 31% of units held by institutions. LLC estimates III. Potential Oil And Natural Gas Reserves Suitable For The MLP Structure Est. we estimate that approximately half of these reserves are proved developed producing. proved natural gas reserves totaled 182 Tcf and proved crude oil reserves totaled 20 billion barrels in 2006 for the onshore/lower 48 states. Source: EIA. and Wachovia Capital Markets. we expect mature reserves held in the MLP structure to trade at a slight premium to the same set of reserves under a C-Corp structure given the elimination of corporate level taxation. Even assuming only 50% of these PDP reserves are suitable for the MLP structure implies a total potential reserve base of 46 Tcf of natural gas and 5 billion barrels of crude oil. 2006). Institutional And Retail Ownership Of MLPs Institutional 31% Retail 69% Note: Retail percentage include 7% ownership by foreign investors Source: Vinson and Elkins and Wachovia Capital Markets. This implies that of the “MLP-able” reserves.0 billion barrels of proved crude oil reserves in the United States (as of December 31.8 billion barrels of proved reserves located offshore and in Alaska. Total crude oil and gas reserves in the MLP structure currently total only 3. Partnership reports. Figure 19. To retain their special tax status as regulated investment companies (RIC). LLC estimates Until 2004. or approximately 152 Tcfe (91 Tcf of natural gas and 10 BBbls of crude oil/NGLs). Based on the average PDP ratio of large independent E&P companies in the United States. Approximately 69% of total MLP units outstanding are currently held by retail investors.
income from an MLP) in excess of $1. but may not receive their MLP K-1s until late February or early March. These closed-end funds offer investors a number of advantages. high net worth brokers.) have increased participation in the sector. without the K-1s. • Federal/state law discrepancies. the investor would be required to file IRS form 990-T and may be liable for tax on the UBTI. This means MLP income is considered income earned from business activities unrelated to the entity’s tax-exempt purpose. professional investors with pools of private funds (e. a mutual fund owner of a partnership may be required to file income tax returns in every state in which the MLP conducts business (even if no taxes are owed). As a result. Please see the Appendix for a list of states in which each MLP operates. mutual funds have not participated in the MLP sector in large numbers to date. • State filing requirements. a mutual fund would have to make estimates that could prove incorrect. including the ability to participate in MLPs without the burden of K-1s (processed by the funds--investors receive a 1099). in our view. We recommend consulting a tax advisor before investing in MLPs within any of these structures.. hedge funds. IRAs. mutual funds domiciled in certain states may still be restricted from owning MLPs.000 per year. Clearly. some states have not adopted the legislation as law. B. While the mutual fund provision was adopted as federal law. Tax-Exempt Vehicles Should Not Own MLPs Tax-exempt investment vehicles such as pension accounts.. there are some restrictions to investment: (1) no more than 25% of a fund’s asset value may be invested in MLPs and (2) a fund may not own more than 10% of any one MLP.MLP Primer -. Challenges Remain For Mutual Fund Ownership Of MLPs Despite the passage of the American Jobs Creation Act. and endowment funds should not own MLP units because MLPs generate unrelated business taxable income (UBTI). Mutual funds are required to designate investors’ income as ordinary income. the administrative burden required for such an undertaking could be prohibitive. In certain instances. For example.. LLC EQUITY RESEARCH DEPARTMENT Institutional Interest Is Growing MLPs are undergoing a transition in ownership from a predominantly retail base to more institutional ownership.Third Edition WACHOVIA CAPITAL MARKETS. However. Mutual funds begin processing their investors’ 1099s in November. and the passage of legislation that allows mutual funds to own MLPs. If a taxexempt entity receives UBTI (e. mutual funds can now own MLPs.7 billion of equity raised). 401-Ks. a list of which follows: • Timing issues. Massachusetts (a state that is home to many mutual funds) has not adopted the federal Mutual Fund Act as law. Institutional interest in MLPs has increased with the formation of 11 MLP-focused closed-end funds ($4. professional management. C. Mutual Funds Can Own MLPs …But Most Do Not With the passage of the American Jobs Creation Act in October 2004. etc.g. Since some MLPs have operations (e.g. and return of capital. In addition. creating potential legal issues for mutual funds domiciled in that state. However. pipelines and storage tanks) in many states. This is due to a number of administrative challenges. A. 17 .g. and access to private market transactions typically at discounts to the market price. long-term capital gains. this could lead to excise tax liability for the mutual fund or a mutual fund investor paying taxes not owed. There are potential administrative burdens related to state filing requirements.
more factory-like. processing. these MLPs are typically large-cap companies that have grown and diversified their asset base to limit cash flow volatility during changes in economic cycles.Organic versus acquisition dependent . sports teams. or in the case of E&P companies. we believe there are three primary factors that investors should take into consideration. In the late 1980s. (2) project management capabilities (i. process. These businesses were more cyclical in nature. dividend. MLPs were reincarnated as entities that generally own midstream assets that are used to transport. mining. and refined petroleum products and have limited exposure to commodity price risk. the predecessor upstream MLPs were essentially selfliquidating partnerships and were unable to sustain their distributions. LLC and . income from the sale of stock. How To Build An Effective MLP Portfolio In building an effective MLP portfolio. and gains from commodities. refining. and (3) ownership interests (i. MLPs were involved in various businesses including exploration and production (E&P) of oil and natural gas. In addition. but potentially lower-return MLPs and higher-risk MLPs with potentially higher returns.Strength of sponsor V.Visibility . Like all investments.Track record . income from the sale of property.e.Leverage . futures. ability to keep projects on time and on budget). MLPs present risk/reward propositions. which relied on exploratory drilling to sustain cash flow (current upstream MLPs own longer life reserves and employ a lower-risk. The early MLPs consisted primarily of refined-product pipelines that were characterized as mature assets that required modest maintenance capital and generated stable cash flow that was distributed to unitholders with very modest growth expectations. These assets were typically spun out of larger entities that could realize a higher value from these assets as publicly traded MLPs.Size . prospective investors should consider factors outlined in Figure 21 when building an MLP portfolio: Figure 21. Investors should consider their risk-tolerance level and make investments accordingly. aligned with those of the unitholder). Prior to making any investment. development. Investors should consider a management team’s (1) track record in successfully managing its business. a balanced portfolio.e.Weather Source: Wachovia Capital Markets. Without reinvestment. The new laws stated that to qualify as a master limited partnership. These factors include the following: • “Anchor tenants.” Investing in “anchor” or core MLPs is an effective way to build a solid foundation for an MLP portfolio.Market position Growth . and options (with certain limitations). A. Types Of Assets In Energy MLPs And Associated Commodity Exposure A Brief Review Of The Evolution Of The MLP Sector In the 1980s. In general. which includes lower-risk. real property rents. when Congress passed the Tax Reform Act of 1986 and the Revenue Act of 1987. 18 . individuals should evaluate the strength of the company’s management team. crude oil.Stock liquidity . an entity had to earn at least 90% of its income from “qualified sources.Capital requirements . In assessing risk/reward. Other qualifying income includes interest. were victims of low commodity prices. should be considered.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. The modern day MLP got its start in 1986-87.Commodity exposure . or marketing. gain from the sale of assets.” These sources were generally limited to natural resources or mineral activities including exploration. a volatile natural gas market.Execution . • Invest with top management. LLC EQUITY RESEARCH DEPARTMENT IV.. • Balance risk and growth. (commodity related) forwards. transportation. restaurants. Risk And Growth Risk . and depleting reserve base. and store natural gas.. The anchor tenants are companies that have established a successful track record of delivering solid and sustainable results year after year. and other consumer activities. exploitation and production operation).
oil and natural gas assets. with varying degrees of commodity price sensitivity. Other MLPs. pursuing internal growth projects. and lower cost of capital. etc. beginning with refined products pipeline assets in 1986 (Buckeye Partners.MLP Primer -. The MLP structure has evolved from stable cash flow generating assets (i. LNG. and oil and gas reserves (introduced in the 1980s) were re-introduced to the MLP structure in 2006.g. Currently. the cash flow of some MLPs has been becoming more sensitive to commodity prices. MLPs began reorienting their focus toward growth. majors and large diversified energy players decided to monetize their mature assets with the intent of redeploying proceeds from the sale into higher-return investments. the impact of commodity prices on MLP cash flow varies according to asset class. This change in focus was partially due to the sudden availability of midstream assets on the market. in part. asphalt. and ammonia. reserve. Currently. MLP Risk Profiles Less risk Pipelines and Storage/Terminals BWP BPL DEP EEP EPB EPD ETP GEL HEP KMP OKS MMP NS PAA SEP SGLP SXL TCLP TLP TPP WMZ Gathering & Processing APL CPNO DPM EROC HLND KGS MWE NGLS RGNC WES WPZ XTEX MMLP Propane and Heating Oil APU FGP GLP NRGY SGU SPH Shipping CPLP KSP NMM OSP TGP TOO USS Coal ARLP NRP PVR More risk Upstream ATN BBEP CEP DMLP ENP EVEP LGCY LINE PSE QELP VNR Note: Classification does not take into account hedging activities or parent/sponsor relationships Source: Wachovia Capital Markets.). to achieve returns superior to those of corporations. oil and coal production.Third Edition WACHOVIA CAPITAL MARKETS. B. Asset Overview In aggregate. LLC EQUITY RESEARCH DEPARTMENT The MLP has seen a progression of different types of assets placed into the structure. LLC 19 . storage assets. the MLP structure has evolved to include assets that operate progressively closer to the wellhead. across all commodities. in our view.) with higher risk. the risk profile of MLPs has been increasing. the master limited partnership universe is made up of approximately 102 companies that are classified as publicly traded partnerships. with limited exposure to commodity price risk.e.P. we outline the effect of commodity prices on each major asset class owned by MLPs. and re-investment risk.. or restructured. MLPs formed in the late 1980s and early 1990s generally owned pipeline and storage assets that were largely fee-based. L. Figure 22. propane distribution. drilling. Some asset types such as refining. making significant acquisitions. Beginning in the late 1990s. marketing businesses. Nevertheless. in our view. MLPs are engaged in every aspect of the energy value chain. fractionation facilities. Although investors are becoming more comfortable with the MLP investment structure. the majority of energy assets introduced into the MLP structure since 1986 have evolved from more stable pipelines to increasingly more volatile cash flow businesses with greater risk. MLPs were able to take advantage of their unique tax-exempt structure. to the cyclical nature of their businesses. MLPs own assets involved in almost all aspects of energy. natural gas. In the following sections. refining. These include onshore and offshore pipelines that transport natural gas.. gathering and processing operations. the prototypical energy asset with the greatest degree of commodity. with 78 being energy related. and aggressively raising distributions. For example. and waterborne transportation. These partnerships were dissolved. involved in the plastics and fertilizer industry did not survive as partnerships due. refined products. merged. Thus. pipelines and storage) to more commodity-sensitive businesses (e. In a sense. Specifically. crude oil.
(2) Cost of service. The rate is based on the actual costs experienced by the pipeline.g. distillates). and hence. natural gas pipelines receive demand charges. fee-based cash flow with minimal volatility in earnings. (3) Settlement rate. Acquisitions and major organic growth projects are generally required to meaningfully increase overall growth. In theory. This means shippers or the pipeline operator itself will purchase crude at one point on the pipeline and then simultaneously enter into a sales contract for that crude at another point on the pipeline. and/or storage of crude oil. energy demand typically tracks GDP growth. natural gas liquids (NGL). a government body that regulates tariffs and allowed rates of returns for pipeline companies. Midstream MLPs are involved in the gathering and processing. However. and refined products) typically have fee-based revenue structures whereby the customer reserves storage capacity and pays an additional fee to blend. jet fuel. storage assets (for natural gas. Growth can be higher depending on regional demographic growth patterns and expansions. Intrastate natural gas pipelines are monitored by state agencies (e.S. gasoline. In general. which helps to provide a growing stream of income in excess of inflation trends. inject. energy infrastructure. Drivers. crude oil. Risks. high commodity prices have minimal (if any) direct effect.g. transportation. The growth in pipeline volumes typically average 2-3% per year. and (4) a decline in commodity prices (resulting in a decline in drilling activity). Interstate natural gas pipelines are regulated by the Federal Energy Regulatory Commission (FERC). Rates for these pipelines are established in four ways: (1) Indexing. Finally. Midstream MLPs with pipeline and storage/terminal assets are typically characterized as generating stable. and storage/terminals) (2) Propane and heating oil (3) Shipping (marine transportation) (4) Coal and aggregates (operators and royalty model) (5) Upstream (exploration and production) (6) Refining (7) Compression (8) Liquefied natural gas (LNG) (9) General partner interests Midstream. The maximum rate a pipeline can charge is adjusted annually based on changes in the Producer Price Index (PPI). or withdraw the product from storage. (2) an over build of U.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. Some crude oil pipelines operate under buy/sell arrangements. which could negatively affect energy demand. 2006..3% (PPI plus 1. Historically these rates have averaged 11-13%. Typically. and/or refined petroleum products. and taxes. (1) rising raw material and labor costs. natural gas. and (4) Market-based rates. gathering and processing. Interstate natural gas 20 .3%) should be the oil pricing index for the five-year period beginning July 1. the pipeline is allowed to earn a reasonable return on its investment to cover operating costs. Railroad Commission of Texas). diesel. whereby shippers reserve capacity on the pipeline and must pay the tariff regardless of their actual use of the capacity. risks related to investing in midstream MLPs include an economic slowdown. The FERC also regulates crude oil and refined products pipelines (e. The rate is established by supply and demand dynamics in a competitive market. but overall operate in competitive markets with less regulatory oversight. Commodity price sensitivity.. depreciation. MLPs with pipeline and storage assets do not take title to the commodity. LLC EQUITY RESEARCH DEPARTMENT The types of assets in energy MLPs include the following: (1) Midstream (pipeline. (3) regulatory risk related to allowed rates of return. The rate is agreed upon by the pipeline’s customers. which is in line with historical growth in demand for energy. The FERC determined that the PPI for Finished Goods plus 1. In general.
High natural gas prices may spur drilling activity and benefit pipeline companies that can expand their systems that connect to basins of increasing supply. L. Figure 23. L. L. LLC EQUITY RESEARCH DEPARTMENT pipelines’ earnings are typically based on demand charges (similar to rent) and a small portion of earnings may vary with volume. commercial. and terminals/truck racks. Refined products pipelines are common carrier transporters of refined petroleum products. Spectra Energy Partners. L. LLC Magellan Midstream Partners. Ticker Primary Business Line BPL HEP Refined Products Refined Products KMP Refined Products KMR Refined Products MMP Refined Products MMLP Refined Products NS SXL TPP TLP Refined Products Refined Products Refined Products Refined Products Source: Partnership reports 21 . L. diesel fuel. rail yards. and jet fuel) and refinery demand for crude oil are the main drivers of pipeline volume. NuStar Energy. and jet fuel. El Paso Pipeline Partners.Third Edition WACHOVIA CAPITAL MARKETS. L. L.P. for further distribution to retail outlets. Natural gas transportation pipelines are generally large diameter interstate pipelines used for long-distance transportation. Refined product pipeline cash flow is stable based on the relatively inelastic baseload demand from end users of gasoline. Throughput can exhibit minor fluctuations. L.P.P. Pipeline and storage assets have historically been less exposed to economic cycles (i. or storage facilities. Williams Pipeline Partners. consumer demand for refined products (i. L. Kinder Morgan Energy Partners. Holly Energy Partners.MLP Primer -.P. such as gasoline. etc. The following is a summary of the sub-sectors of the midstream segment: • Natural gas pipelines. Natural gas transportation pipelines receive natural gas from gathering systems and other pipelines and deliver it to industrial end users.e. due to their low cost structure (versus other transporters. L. Kinder Morgan Management. Martin Midstream Partners. Energy Transfer Partners. Sunoco Logistics Partners. depending upon economic cycles. electric power sector. diesel. such as truck. rail. and barge) and government-regulated nature.P. Primary pipeline customers are refiners and marketers of the product being shipped.3%). However. TransMontaigne Partners.. End-user destinations include airports.P.P.P.e. TC Pipelines. L. Ticker Primary Business Line BWP Natural Gas Pipelines EPB ETP SEP Natural Gas Pipelines Natural Gas Pipelines Natural Gas Pipelines TCLP Natural Gas Pipelines WMZ Natural Gas Pipelines Source: Partnership reports • Refined products pipelines. however. Throughput in mainline natural gas transportation pipelines tends to be relatively stable due to continued growth in demand for natural gas from industrial. L. L.P. Figure 24. then distribute the natural gas to residential and/or commercial customers. L. L.P. high prices could also have the effect of causing conservation and curtailing demand.P. Interstate petroleum products pipelines may benefit from higher commodity prices via regulations that allow pipelines to annually increase tariffs at a rate of producers’ price index (PPI + 1. Utilities or local distribution companies. and residential end users. Earnings for crude and petroleum products pipelines are tied primarily to throughput (volume). Thus. diesel fuel.P. gasoline. TEPPCO Partners. Refined Products Pipeline MLPs MLP Buckeye Partners.P.P. commodity prices do have an indirect impact on pipeline volume.. Natural Gas Pipeline MLPs MLP Boardwalk Pipeline Partners. downturns). utility companies.P.
which are stored in above-ground facilities. natural gasoline. vegetable oil products. distribution. which. Inland terminals generally receive product from pipelines and distribute them to third parties at the terminal. ore. usually located near refineries. or (3) salt cavern formations. such as ethane. Crude oil gathering pipelines transport crude from the wellhead to larger mainlines. NGL pipeline fees are either contractual or regulated by a government agency (e. Natural gas liquids (NGL) pipelines transport mixed NGL products. in turn is dependent upon petroleum product pipeline throughput. FERC). fertilizers. blending and other ancillary services to pipeline systems. However. These other products include asphalt. natural gas can also be stored in liquid form (LNG) using above-ground storage facilities. Crude oil pipelines provide stable. as well as the amount of blending activity that takes place at the facility. L. L. Marine terminals. deliver them to end users. Crude oil is also gathered via tank trucks from older. industrial chemicals. L. terminal cash flow is more subject to the operational expertise of the terminal operator/marketer. Given the difficulty in building new refineries in the United States. which. and refined products. Crude Oil Pipeline MLPs MLP Enbridge Energy Management. fee-based cash flow. and import terminals to fractionation plants and storage facilities. Canadian imports. natural gas. providing a steady source of demand for crude oil pipeline throughput. Storage/terminals. NGL pipelines typically move NGLs from natural gas processing plants. SemGroup Energy Partners. refineries.g.S. L. Genesis Energy. U. are large storage and distribution facilities that handle crude oil or refined petroleum products. coal. L. existing refining capacity tends to be consistently used. petrochemicals. such as retail gasoline stations. Unlike refined products and crude oil storage.. steel.e. In the latter case. and pipeline connections). Figure 25.P. and other dry-bulk materials. and some are located near consuming markets. iso-butane. Ticker Primary Business Line EEQ Crude Oil EEP GEL PAA Crude Oil Crude Oil Crude Oil SGLP Crude Oil Source: Partnership reports Figure 26. butane. petroleum coke.P. LLC Enbridge Energy Partners. Terminalling operations provide storage. less productive wells where gathering pipelines are not economical. refiners are more dependent upon waterborne and Canadian imports because inland domestic crude oil production peaked during the 1970s. in turn. and other hydrocarbons. LLC EQUITY RESEARCH DEPARTMENT Crude oil pipelines. • 22 . The most common form of natural gas storage in the United States is the use of depleted natural gas or crude oil fields because of their availability. Main crude oil trunkline systems feed refiners from waterborne imports. (2) aquifers. Crude Oil Value Chain Source: Plains All American Pipeline. Terminals consist of either inland or marine terminals. There are also terminalling facilities that handle products other than crude oil. gathering systems. • NGL pipelines.P. Most NGL pipelines generate cash flow based on a fixed fee per gallon of liquids transported and volumes delivered.P. Terminal cash flow is affected by the amount of petroleum products stored.P. The advantages of a depleted natural gas or oil field are that it uses existing infrastructure (i. Crude oil terminal operators may use terminals as a natural extension of their pipeline system or may actively seek terminal throughput from third parties. Plains All American Pipeline. wells. propane. and domestic production. natural gas is primarily stored underground using (1) depleted reservoirs.Master Limited Partnerships • WACHOVIA CAPITAL MARKETS.
giving producers and marketers incentive to store the commodity. natural gas from the wellhead must often be processed. commonly referred to as NGL raw mix or ‘y’ grade. and NGLs HLND Gathering. Processing. L. Hiland Partners. and NGLs NGLS Gathering. L. treated to remove chemical impurities. To offset this decline and maintain overall gathering system volume. Processing. L. L. ONEOK Partners. Duncan Energy Partners L.P. L. LLC EQUITY RESEARCH DEPARTMENT Terminals are affected by backwardated and contango markets.P. and NGLs XTEX Gathering. and NGLs EPD Gathering.Third Edition WACHOVIA CAPITAL MARKETS. Processing.P. Processing. MarkWest Energy Partners. L.MLP Primer -. and NGLs DPM Gathering. Western Gas Partners. and NGLs EROC Gathering. L. Processing. natural gas or crude oil) is below the current spot price. Processing. • Natural gas processing and fractionation. production naturally declines. and/or processed to remove natural gas liquids. Figure 27.P. in part. Processing. L. Gathering. Processing. L. the future delivery price of the commodity is above the current spot price. Natural gas is gathered at the wellhead and then collected at central delivery points and transported to treating and processing plants. and NGLs RGNC Gathering. In a contango market. 23 . and NGLs CPNO Gathering. and NGLs Source: Partnership reports Figure 28. Ticker Primary Business Line APL Gathering. DCP Midstream Partners.. • Natural gas gathering. Prior to long-haul transportation.P Copano Energy. and NGLs KGS Gathering. L.P. or refined.P. L. Targa Resources Partners L.P. and NGLs DEP Gathering. resulting in less incentive to store the commodity. and NGLs MWE Gathering. Processing.P. the natural gas gathering system must hook up additional wells. As natural gas wells age. L. Natural gas prices influence producer drilling activity and the type of contract pricing. LLC Crosstex Energy.P. Processing. Processing. Gathering And Processing Value Chain Residue gas Raw NGL mix Natural gas processing and treating Residue gas and raw NGL mix transportation Natural gas production Gathering and compression Source: Targa Resources Partners. and NGLs WPZ Gathering. sulfur. and NGLs OKS Gathering.e. Processing. L. Raw natural gas may be dehydrated to remove water. by natural gas prices. and NGL MLPs MLP Atlas Pipeline Partners. Processing. and NGLs WES Gathering. Regency Energy Partners. Williams Partners.P. In a backwardated market. Natural gas gathering pipelines consist of small diameter (4”-6”) pipelines that connect completed natural gas wells to larger diameter (10”-30+”) natural gas pipelines. Processing. Eagle Rock Energy Partners. The cash flow stability of natural gas gathering and processing systems is dictated. Processing. Processing.P.P. carbon dioxide.P. to remove impurities in order to meet requirements for pipeline transportation. Enterprise Products Partners. Quicksilver Gas Service. the future delivery price of the commodity (i.P. and hydrogen sulfide.
butane. of the commodity flowing through the system and the contracted fixed rate. The partnerships gather and process natural gas on behalf of producers. Increases in the price of NGLs relative to natural gas increases gross margin.. It is also used as vehicle fuel and petrochemical feedstock. the processor must replace the natural gas (on the basis) that was extracted while processing. Ethylene is used in the production of detergents. • Propane is used for heating homes. normal butane. and natural gasoline) at fractionation facilities. A typical contract would entitle the producer to 80% of the proceeds from the sale of natural gas and NGLs through the plant. Gas processors with primarily keep-whole contracts benefit most in an environment of high commodity prices because they are direct sellers of natural gas liquids. Under the percentage discount. ethane. iso-butane.e. gross margin increases when the price of natural gas increases and decreases when the price of natural gas decreases. The processor either purchases natural gas at the market price to return to the producer or makes a cash payment to the producer equal to the reduced energy content. The MLP sells the resulting residue gas (dry. cooking and refrigerating food. heating water. propane. partnerships with gathering and processing assets have more commodity price exposure and tend to benefit during periods of high commodity prices. • Percent-of-proceeds contracts. insulation. commonly referred to as the “frac spread. Commodity price sensitivity.. The partnership gathers natural gas from the producer. • Ethane is not used as a fuel. Put another way. and as a feedstock for the petrochemical industry (i. propane. drying clothes. MLPs receive a fee for the volume of natural gas or NGLs that flows through its systems. but as a feedstock for the production of ethylene.e. • Iso-butane is used as a gas in refrigeration systems (i. and other chemical products. and fueling gas fireplaces and barbecue grills. NGLs are hydrocarbons that are separated from natural gas through various processes at natural gas processing plants.e. The natural gas processor purchases natural gas at a percentage discount to a specified index price or a specified index price less a fixed amount. Because the extraction of the NGLs from the natural gas stream reduces the energy (Btu) content of the natural gas. • Percent-of-index contracts.” while decreases in the price of NGLs relative to natural gas reduces gross margin. pipeline quality gas) and NGLs at market prices and remits to the producer an agreed upon percentage of the proceeds based on an index price. Natural gas is typically processed under three primary contracts that expose the processor to varying degrees of commodity price risk. the liquids serve a variety of purposes. for the production of isooctane--a clean source of octane enhancement for gasoline). A list of some of the most common types of contracts follows: • Fee-based contracts. refrigerators and freezers). Gross margin increases as natural gas prices and NGL prices increase and decrease as natural gas prices and NGL prices decrease. and sells the resulting NGLs to third parties at market prices. iso-butane. These liquids include ethane. plastic packaging materials. a propellant in aerosol sprays. Fractionation. and natural gasoline. • Keep-whole contracts. The processor gathers and delivers the natural gas to pipelines where the company resells the natural gas at the index price. in turn. the processor must keep the producer “whole” on his natural gas that goes in and comes out of the processing plant. synthetic lubricants. not the price. The remaining 20% would be captured by the processing plant operator. NGLs are then further refined or fractionated into separate liquids (i. In general. Once separated. processes the natural gas. which should. High prices are likely to stimulate drilling activity and should increase production. • Normal butane is typically used for motor gasoline blending and as a feedstock for the production of plastics. increase volume on gathering systems. 24 . Gross margin is directly related to the volume. LLC EQUITY RESEARCH DEPARTMENT Natural gas liquids.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. • Natural gasoline is used primarily in motor gasoline blending and as a petrochemical feedstock..
on a 3-5 year basis.0% Current NGL price ($/g): 1.” Derivatives classified as trading are recognized as assets or liabilities with the corresponding loss or gain recognized in the income statement. Price relationship between crude oil and natural gas liquids.. A company that uses mark-to-market accounting could report significant earnings’ volatility. Historical NGL-To-Crude Oil Ratio 100% NGL (Mt. The changes in the fair value of the derivatives are recognized in the company’s earnings over time unless certain hedging criteria are met.Third Edition WACHOVIA CAPITAL MARKETS. a majority of the volatility is usually non-cash. MLPs. This price relationship between natural gas liquids and crude oil is meaningful for gathering and processing MLPs that use “dirty” crude oil hedges as a proxy to hedge NGL exposure (as opposed to hedging the individual NGL components).e. Gathering and processing MLPs with commodity price exposure typically have hedging programs to mitigate a substantial portion of that price risk. 133 allows companies to recognize all derivatives as assets or liabilities and at fair value. with the changes in value included as a component of stockholders’ equity until realized. as we believe the focus for MLPs should be on cash flow rather than earnings. the NGL market has limited liquidity) and a historically strong correlation between crude oil and NGL prices.. Partnerships use a variety of derivative contracts and option strategies to mitigate their exposure. Realized gains and losses would be included in earnings. if the contract is marked-to-market. Hedge accounting. including swaps. the value of a futures contract with an expiration date of one year from today is not known until it expires. Belvieu) To Crude Oil (WTI) Ratio (%) 2004 Average: 73% 2005 Average: 67% 2006 Average: 63% 90% 2007 Average: 70% (*) 2008 YTD Avg: 59% Current: 59. Some gathering and processing MLPs prefer to use dirty hedges to manage their NGL exposure due to a more liquid crude oil derivatives market (i. approximately 68% correlated with crude prices. if the company is able to qualify).96 Current oil price ($/Bbl): $140. to a lesser degree. the use of dirty hedges could prove ineffective if the correlation between NGL and crude oil prices deteriorates. the futures contract is assigned a value based on current market prices. Derivatives classified as other than trading are also measured at fair value and recognized as assets or liabilities. In order to offset the mark-to-market movement of derivatives. puts. in general. LLC EQUITY RESEARCH DEPARTMENT Hedging commodity price exposure.00 80% 70% Data Missing 60% 50% Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Source: Bloomberg Mark-to-market hedge accounting. some companies may employ hedge accounting (i. However. NGL prices have been. etc. tend to hedge 70-80% of their near-term exposure and. However. Mark-to-market hedge accounting assigns a value to a company’s derivatives positions based on the current market prices for those derivative instruments. Financial Accounting Standards Board (FASB) Statement No. 25 . The impact of mark-to-marketing accounting affects different parts of a company’s financial statements depending on whether the derivative is classified as “trading” or “other than trading. We do not pay as close attention to earnings per unit (EPU).MLP Primer -. on average. Figure 29. collars. calls.e. Over the past three years. For example. however.
If these criteria are not met.P. quick changes in propane costs can affect short-term results. Figure 30. industrial. Propane is a by-product of natural gas processing and crude oil refining.P. household energy needs. (source FASB) • Cash flow hedges. A net investment hedge attempts to mitigate foreign currency exposure of a net investment in a foreign operation. L. and chicken brooding. or firm commitment. primarily for home and water heating. Propane Energy Value Chain Source: Inergy. and agricultural customers. Inergy. commercial. tobacco curing. The gain or loss is recognized in earnings in the period of change together with the offsetting loss or gain on the hedged item attributable to the risk being hedged. Propane serves approximately 3% of total U. There are three different types of hedge accounting: • Fair value hedges. the hedged item) and its hedging instrument must have a correlation ratio between 80% and 125%. a commodity (i. and as a fuel for barbecues. L. L. hedge accounting cannot be applied. Industrial customers use propane primarily as a fuel for forklifts and stationary engines. liability.P. Propane MLPs distribute propane via truck to residential. Propane MLPs MLP AmeriGas Partners L. declining wholesale propane prices aid earnings because retail prices tend to lag costs. while agricultural customers use propane for crop drying.P. The gain or loss of a derivative designated as hedging the foreign currency exposure of a net investment in a foreign operation is reported in other comprehensive income (outside earnings) as part of the cumulative translation adjustment. LLC EQUITY RESEARCH DEPARTMENT To qualify for FAS 133 hedge accounting. L. Propane MLPs. which could lead to significant volatility in a company’s earnings. The ineffective portion of the gain or loss is reported in earnings for the period in which the ineffectiveness occurs.S. and the company must have hedge documentation in place at the inception of the hedge. In general. A cash flow hedge attempts to mitigate the exposure to changes in cash flow of a forecasted transaction. L. Since propane distribution is a cost plus margin-type business.P. It is also an important feedstock used in the production of various chemicals and plastics. Star Gas Partners. A fair value hedge attempts to mitigate the exposure to changes in the fair value of a recognized asset. Global Partners.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. The effective portion of the derivative’s gain or loss is initially reported in other comprehensive income (outside earnings) and subsequently reclassified into earnings (as either gains or losses in operating revenue) as the forecasted transactions occur. Although..P Ferrellgas Partners. Suburban Propane Ticker Primary Business Line APU FGP GLP Propane Propane Gasoline and heating oil NRGY Propane SGU Propane SPH Propane Source: Partnership reports Figure 31. (source FASB) • Net investment hedges.e. Residential heating sales command the highest margin and are the greatest source of profit for propane distributors. rising wholesale propane prices can squeeze margins when retail prices lag cost 26 .
and chemical demand. OSG America. Shipping MLPs transport energy products primarily via tankers or barges. consumer conservation. Consumption Of Propane 500. propane does have defensive characteristics similar to other utility services because residential and commercial customers require propane for basic needs such as space and water heating.P. K-Sea Transportation Partners. The propane industry remains extremely fragmented. The more significant driver of propane consumption is weather.000 Thousand barrels 400.P. The primary customers for shipping MLPs include large oil refiners. sulfur. L. Figure 32. liquefied natural gas. integrated oil & gas companies and energy marketing companies. Although average annual temperatures have been fairly constant over the past 30 years. Since the overall long-term growth rate for the propane distribution industry is less than 2% annually.000 200.P. in recent years the changing nature of competition has allowed margins to expand in the face of record propane prices. petrochemical and commodity specialty products. Teekay LNG Partners. extremely high propane prices may cause conservation and may expose distributors to higher bad debt expense. Shipping MLPs MLP Capital Product Partners. For example. 2006 and 2007 experienced some of the warmest average annual temperatures ever recorded during the winter heating season.P.P. and the inability to pass higher costs on to consumers. as propane companies generate a majority of their revenue during the winter heating season.000 retailers holding the remaining market share. diesel fuel. Ticker Primary Business Line CPLP International product tankers KSP Domestic tank vessels NMM International dry bulk OSP Domestic tank vessels TGP LNG vessels TOO Crude oil shuttle tankers and floating storage and offtake units USS Domestic tank vessels Source: Partnership reports 27 . Propane distributors tend also to have higher working capital requirements when prices are very high. MLPs with propane assets are generally indifferent to price fluctuations as long as they can pass on price increases to customers. jet fuel. However. L. Teekay Offshore Partners L. Historical U. oil price trends. Navios Maritime Partners.S. 61%. L. Propane remains a very seasonal business.000 300. Under normal circumstances. Shipping MLPs. chemical producers. Propane prices fluctuate based on winter heating demand. with the top ten retailers controlling approximately 39% of the propane market and more than 5. Shipping Partners. lubricants. Risks to propane MLPs include warmer-than-normal weather. accretive acquisitions of smaller propane companies are a key to enhancing long-term performance. in our view. LLC EQUITY RESEARCH DEPARTMENT increases. significant variations can occur in any given year.P. fuel oil.000 100. heating oil.P. L. and crude oil. Shipping partnerships are subject to various governmental and industry regulations.Third Edition WACHOVIA CAPITAL MARKETS. as propane is used primarily for heating. asphalt.000 0 1981 1983 1985 1987 1989 Source: Energy Information Administration 1991 1993 1995 1997 1999 2001 2003 2005 2007 Risks. Commodity price sensitivity. depending on the type of vessel and location. In addition. Figure 33. L.MLP Primer -. U. Although influenced by weather. rising retail propane prices can lead to consumer conservation.S. approximately 70% of annual cash flow is earned during the winter heating season (October through March). L. Drivers. Products shipped typically include refined petroleum products and by-products such as gasoline.
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The shipping category encompasses several different MLPs with distinctly different business models and operating environments. These business models include the following: • International product tankers. Product tankers typically transport refined petroleum products, typically gasoline, jet fuel, kerosene, fuel oil, naphtha and other soft chemicals and edible oils. The marine transport of petroleum products between receipt and delivery points addresses the demand and supply imbalances for the refined product, which is usually caused by a lack of resources or refining capacity in the consuming country. • Domestic tank vessels. Tank vessels, which include tank barges and tankers, transport gasoline, diesel, jet fuel, kerosene, heating oil, asphalt, and other products from refineries and storage facilities to other refineries, distribution terminals, power plants, and ships. The demand for domestic tank vessels is driven by the U.S. demand for refined petroleum products, which can be categorized by either clean oil (e.g., motor gasoline, diesel, heating oil, jet fuel, and kerosene) or black oil products (e.g., asphalt, petrochemical feedstocks, and bunker fuel). Clean oil demand is primarily driven by vehicle usage, air travel, and weather, while black oil demand is typically driven by oil refinery requirements and turnarounds, asphalt use, use of residual fuel by electric utilities, and bunker fuel consumption. • International dry bulk. Dry bulk vessels transport cargoes that consist primarily of major and minor bulk commodities. Major bulk commodities include coal, iron ore, and grain, while minor bulk commodities include steel products, forest products, agricultural products, bauxite and alumina, phosphates, petcoke, cement, sugar, salt, minerals, scrap metal, and pig iron. The demand for dry bulk trade is driven primarily by the demand for the underlying dry bulk product, which is, in turn, influenced by growth in global economic activity. • Liquefied natural gas vessels. Liquefied natural gas is transported by specially designed double-hulled ships from producing to growing nations. The vast majority of LNG shipments occur in Europe and Asia. LNG vessels receive liquefied natural gas from liquefaction facilities for transport to regasification facilities at the receiving terminal. LNG demand is driven by countries that consume significant quantities of natural gas but lack the local production and/or pipeline infrastructure to deliver natural gas to its markets. • Crude oil shuttle tankers and floating storage and offtake units. Shuttle tankers, which are commonly described as “floating pipelines,” are specially designed ships that transport crude oil and condensates from offshore oil field installations to onshore terminals and refineries. The primary differences between shuttle tankers and conventional crude oil tankers are that shuttle tankers are used in regions with harsh weather conditions (e.g., the North Sea) and have voyages that are shorter in duration. Floating storage and offtake (FSO) units provide on-site storage for offshore oil field installations. FSOs are secured to the seabed and receive crude oil from the production facility via a dedicated loading system. FSOs transfer crude oil to shuttle and conventional tankers through its export system. Shipping and marine transportation services are typically performed under spot and term contracts set under a competitive bidding process. The rates charged under these contracts can be based either on a daily basis or on a volume transported basis. The terms and awarding of contracts is based on (1) vessel availability and capabilities, (2) timing of customer’s schedule, (3) price, (4) safety record, (5) experience and reputation, (6) vessel quality, and (7) the supply and demand of products being shipped. Shipping contracts can vary in length depending upon the type of ship and operating market. Most contracts under the MLP (versus corporate) structure are longer term in nature (e.g., LNG contracts are typically under ten-year terms or more), which provides a shipping MLP with some cash flow stability. These longer-term contracts tend to have escalation clauses whereby certain cost increases such as labor and fuel are passed on to the customer. Shipping is subject to prevailing market trends, which tends to make spot market activity (i.e., for short-term contracts), and is volatile and therefore, less suitable for the MLP structure, in our view. Shipping MLPs, like pipeline MLPs, do not assume ownership of the products shipped. U.S. point-to-point shipping competition is somewhat limited from foreign competitors due to the Jones Act, which restricts such shipping to vessels operating under the U.S. flag, built in the United States, at least 75% owned and operated by U.S. citizens, and manned by U.S. crews. Drivers. The shipping industry is highly fragmented, which lends itself to consolidation. The current tight vessel supply and demand market condition should keep charter rates firm to increasing over the foreseeable future. As the industry rebuilds to meet government double-hull regulations, and as the 2015 deadline approaches, new larger, more efficient barges with long-term contracts should enhance the earnings stability
MLP Primer -- Third Edition
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and cash return on investment. Stringent safety requirements by customers should continue to work to the benefit of larger vessel operators spawning mergers within the industry. The potential to acquire dock, terminal, storage facilities, and other harbor-based facilities could help to vertically integrate or diversify the business model of vessel operators. Risks. Investments in shipping MLPs can be considered a higher-risk investment relative to pipeline MLPs, due to the following factors: (1) regulatory requirements (e.g., OPA 90 requires single-hulled vessels to be phased out by 2015); (2) short-term nature of contracts (versus pipeline MLPs); (3) spot market volatility; (4) competitiveness of the contract bidding process; (5) new build risk (i.e., up-front significant capital); (6) decline in demand for shipped products; and (7) potential repeal of the Jones Act. Commodity price sensitivity. Like pipeline MLPs, shipping MLPs typically do not take title to the product shipped; therefore, changes in commodity prices have a minimal direct impact on these companies. Shipping MLPs could potentially be indirectly affected by a (sustained) high commodity price environment (on the products transported), which ultimately results in a decrease in the demand for the products shipped (i.e., consumer conservation). Shipping MLPs’ earnings are more directly tied to the demand for the product shipped. Coal MLPs. The universe of coal MLPs consist of one coal producer and two coal royalty businesses that own, lease, and manage coal reserves. The royalty-oriented partnerships enter into long-term leases that provide the coal operators the right to mine coal reserves on the partnerships’ properties in exchange for royalty payments. A coal MLP’s royalty payments are based on the volume of coal produced and the price at which it is sold. In addition, since coal royalty MLPs do not operate any of the mines, their operating costs are typically limited to corporate and administrative expenses. Figure 34. Coal MLPs
MLP Alliance Resource Partners, L.P. Natural Resource Partners, L.P. Penn Virginia Resource Partners, L.P. Ticker Primary Business Line ARLP Coal operator NRP Coal royalty model PVR Coal royalty model
Source: Partnership reports
Drivers. The demand for and the price of coal is driven by a number of factors, both domestic and international. Domestically, demand is driven by (1) electricity demand because electric utility companies are the primary consumers of coal (more than 90%); (2) the relative price of natural gas and crude oil, as some power producers can alternate their fuel consumption based on the relative price of different fuels; (3) weather, which can influence electricity demand and hydro-electric production; and (4) environmental regulations. The demand for electricity is generally influenced by economic growth, weather patterns, and coal customer inventory trends. Internationally, demand for coal is also influenced by worldwide electricity demand, the value of the dollar, economic growth in developing countries, and demand for steel, which is derived from metallurgical coal (commonly referred to as met coal). Risks. Risks to both coal producer and royalty-based MLPs include declining coal prices, operational and geological issues, and regulatory issues (specifically environmental). Risks specific to coal royalty MLPs include (1) reliance on lessees to operate and produce on its reserves (i.e., the rate of production is dictated by the producer); and (2) no direct control over pricing (i.e., lessees negotiate new contracts with utilities and other end users directly). Commodity price sensitivity. MLPs with coal assets directly benefit during periods of high commodity prices. Coal MLPs own coal reserves and either lease their reserves and collect a royalty stream or mine the coal reserves directly. Since most coal is sold under long-term (1-3 year) contracts, higher coal spot prices do not immediately affect coal sales prices. When contracts roll over, they are typically renegotiated closer to prevailing spot prices. Upstream MLPs. Upstream MLPs are focused on the exploitation, development, and acquisition of oil and natural gas producing properties. These partnerships produce oil and natural gas at the wellhead for sale to various third parties. Typically, upstream MLPs do not partake in exploratory drilling, but rather own and operate assets in mature basins that exhibit low decline rates and long reserve lives. Accordingly, these assets require a relatively small amount of capital to fund low-risk development opportunities and have predictable production profiles.
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Figure 35. Upstream MLPs
MLP Atlas Energy Resources LLC BreitBurn Energy Partners, L.P. Constellation Energy Partners LLC Dorchester Minerals, L.P. Encore Energy Partners, L.P. EV Energy Partners, L.P. Legacy Reserves L.P. Linn Energy, LLC Pioneer Southwest Energy Partners, L.P. Quest Energy Partners, L.P. Vanguard Natural Resources, LLC Ticker Primary Business Line ATN 95% natural gas / 5% crude oil
BBEP 63% natural gas / 37% crude oil CEP 99% natural gas / 1% crude oil
DMLP Natural gas and crude oil royalty model ENP 32% natural gas / 68% crude oil
EVEP 76% natural gas / 24% crude oil LGCY 26% natural gas / 74% crude oil LINE 65% natural gas / 35% crude oil PSE 16% natural gas / 84% crude oil
QELP 99% natural gas / 1% crude oil VNR 74% natural gas / 26% crude oil
Source: Partnership reports
Upstream MLPs represent a lower-risk way to invest in oil and natural gas. Commodity risk is substantially mitigated via an actively managed hedging program. Most upstream MLPs have hedges that lock in prices for 70-90% of their anticipated production for 1-3 years. Upstream MLPs seek to address long-term commodity price and liquidity risk by maintaining conservative debt levels. Drivers. Because drilling and development activity of most upstream MLPs is focused primarily on maintaining, rather than increasing, production, most upstream MLPs rely on acquisitions funded with debt or equity to drive distribution growth. In addition, higher commodity prices should benefit the unhedged portion of upstream MLP production. This excess cash flow can be reinvested into acquiring mature reserves and/or help fund organic growth capex, both of which should support additional distribution growth. Risks. Some of the risks associated with investing in upstream MLPs include (1) declining commodity prices, (2) inability to hedge at attractive prices, and (3) a lack of acquisition opportunities. Commodity price sensitivity. MLPs that own oil and gas assets have the most direct exposure to commodity prices. Typically, these partnerships mitigate this exposure by hedging 70-90% of current production. Hedging serves to protect against decreases in commodity prices and hence, supports the consistency of distribution payments. However, a prolonged period of depressed commodity prices could force a partnership to reduce its distribution. Many upstream MLPs maintain a high coverage ratio in order to partially mitigate this risk. Refining. Refining MLPs produce specialty and fuel products from the refining of crude oil. Specialty products include lubricating oils, solvents, and waxes that are used as raw material components for basic industrial, consumer, and automotive products. Fuel products include unleaded gasoline, diesel fuel, and jet fuel. Figure 36. Refining MLPs
MLP Calumet Specialty Products Partners, L.P Ticker Primary Business Line CLMT Refining
Source: Partnership reports
There are also some MLPs that own asphalt storage assets. Asphalt is a darkish brown to black, sticky, and highly viscous substance produced from crude oil (i.e., the bottom of the barrel). Due to the consistency of asphalt, it is stored in heated terminals and transported via truck, rail, and/or barge, but not pipelines. Asphalt is used primarily for paving and roofing purposes. It is estimated that approximately 85% of asphalt consumed in the United States is used for road paving and about 10% is used for roofing products (i.e., shingles). The asphalt business is seasonal and must be applied to roads during warm weather conditions. Thus, asphalt companies typically experience higher demand from May to October and build inventory during the colder months (i.e., January through April). Drivers. Factors driving refining MLPs include (1) crack spreads (i.e., the spread between crude oil input prices and product output prices); (2) the demand for specialty and fuel products; (3) demand levels for road paving by government and municipalities; (4) demand for housing; and (5) economic activity.
e. Some GPs also own LP units of the underlying MLP. Natural gas compressors are used to compress a volume of natural gas at an existing pressure to a higher pressure to facilitate delivery of the gas from one point to another. (2) throughout gathering and distribution systems. General partner interest. LLC EQUITY RESEARCH DEPARTMENT Risks.MLP Primer -. An investment in a GP security is a leveraged play on the underlying MLP as the GP’s financial performance and distributions are dependent upon the underlying partnership’s operations and distribution growth prospects. The primary risks associated with compression MLPs include a decline in drilling activity (i. Commodity price sensitivity. MLPs with compression assets have limited sensitivity (i. Factors driving compression MLP growth include (1) production from unconventional resources. (2) acquisitions. Risks associated with investing in MLPs with domestic LNG assets include the LNG market not developing as quickly as anticipated and higher natural gas prices in international markets resulting in more LNG cargos delivered to Europe and Asia. Some of the risks associated with investing in refining MLPs include (1) rising feedstock prices (i. Commodity price sensitivity. the LNG is returned to its gaseous state (i.. Liquefied Natural Gas. relatively stable utilization rates) to commodity price fluctuations. which spur drilling activity. Significant declines in natural gas prices could make it uneconomical for liquefaction plants. which house the GP interest and IDRs of the underlying MLP. restricting construction of coal fired power plants). Once re-gasified. environmental legislation (i.e.. decline in commodity prices) and the inability to pass through rising operating costs. Figure 37.. Compression MLPs (also known as Oilfield Services MLPs) provide natural gas contract compression services. LNG describes the process whereby natural gas is transformed from a gaseous to liquid state and shipped via marine tankers to consuming markets. Natural gas is cooled into liquid form at a liquefaction facility and transported via specially designed ships to markets that have insufficient natural gas supplies or limited natural gas pipeline infrastructure. There are 11 publicly traded general partnerships.e. and (4) along intrastate and interstate pipelines. 31 .. Compression..e. and (3) a slowdown in commercial and residential construction. LNG MLPs MLP Cheniere Energy Partners L.Third Edition WACHOVIA CAPITAL MARKETS. the natural gas is stored in specially designed facilities or delivered to natural gas consumers through pipelines. re-gasification). The public GPs are typically corporate shells. (3) into and out of processing and storage facilities. the primary risks include (1) volatility of asphalt prices (this includes seasonality). crude oil). With respect to asphalt. (2) inability to hedge asphalt prices. (2) demand for refined products. Compression MLPs MLP Exterran Partners LP Ticker Primary Business Line EXLP Oilfield Services Source: Partnership reports Drivers. and (4) unscheduled refinery turnarounds. Ticker Primary Business Line CQP LNG Source: Partnership reports Drivers. and (3) high natural gas prices. Risks. (3) alternative/competing products. Figure 38. Compression is often applied (1) at the wellhead. The GP merely receives cash payments from the MLP and re-distributes these payments to its unitholders in the form of distributions after deducting public company expenses. of which 10 are structured as master limited partnerships. and construction of additional liquefaction plants. Upon delivery of the LNG to the receiving terminal. They do not take title to the natural gas they compress and typically charge fees for services regardless of throughput.P. lower domestic natural gas production. a prolonged period of depressed natural gas prices could affect drilling activity and utilization rates. Risks. However.e. The IDRs entitle the GP to receive a disproportionate amount of incremental cash flow from the underlying MLP as it raises distributions to limited partners. Factors driving LNG growth includes global demand for natural gas.
e. NuStar GP Holdings. and (3) receive cash distributions. Enterprise GP Holdings. NASDAQ. LLC Inergy Holdings. Figure 40. The MLP Versus A Standard C Corp Structure Typical Structure comparison Corporate level tax Unitholder / shareholder level tax Tax shield on distributions / dividends Tax reporting General partner Incentive distribution rights Voting rights K-1 1099 MLP C corp.P. VI.P. Instead.. Source: Wachovia Capital Markets. 32 . Hiland Holdings GP. Risks. GP MLPs MLP Alliance Holdings GP. L. Magellan Midstream Holdings. MLPs do not pay corporate level taxes.P. L. and AMEX) just like corporate stock (shares). LLC EQUITY RESEARCH DEPARTMENT Figure 39. (2) typically holds a 2% ownership stake in the partnership. Ticker Primary Business Line AHGP General partnership PVG General partnership AHD General partnership XTXI General partnership EPE General partnership HPGP General partnership ETE General partnership BGH General partnership MGG General partnership NSH General partnership NRGP General partnership Source: Partnership reports Drivers.P.P.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. The limited partners (or common unitholders) (1) provide capital. The primary risk associated with investing in GP MLPs is operational challenges at the underlying MLP and the potential impact of indiscriminate carried interest legislation. Penn Virginia GP Holdings LP Atlas Pipeline Holdings. What Is An MLP? Master Limited Partnerships (MLPs) are companies that are structured as a limited partnership rather than a C corporation (C corp. LLC Who Are The Owners Of The MLP? MLPs consist of a general partner (GP) and limited partners (LP).. Limited partnership interests (limited partner units) are traded on public exchanges (i. The key differentiating factor for an MLP is that. Inc. The Basics A. Crosstex Energy.). taxes are paid (on a partially deferred basis) by limited partner unitholders. unlike a C corp. L. L. Energy Transfer Equity.P. Buckeye GP Holdings.P. (2) have no role in the partnership’s operations and management. L. L. Factors driving GP MLP performance include (1) distribution increases at the underlying MLP and (2) equity issuances. and (3) is eligible to receive an incentive distribution. The general partner (1) manages the daily operations of the partnership. NYSE. L.P. L.
MLPs typically enjoy a competitive advantage relative to corporations.1x 6. processing. In general. versus 6. MLPs have traditionally enjoyed good access to capital.7x WPZ 10. and income and gain from commodities or commodity futures. dividends. unlike corporate investors.1x 11. For example. Currently. including the following: • A tax-advantaged structure with which to pursue growth opportunities.Third Edition WACHOVIA CAPITAL MARKETS. Of those.1x SE 6.7x APC 5. interest. What Qualifies As An MLP? To qualify as an MLP. In addition. The opportunity to capture potential upside from incentive distribution rights (IDR). MLPs with C corp sponsors currently trade at an estimated median 2008 enterprise value-to-adjusted EBITDA multiple of 11.9x TK 10.5x for the associated C corp.3x PXD 6. MLPs generally do not pay entity-level income taxes. mining or production. Assets within the MLP structure typically trade at higher valuations in the market than those same assets within a C corp structure. development. Why Create An MLP? An MLP provides a number of benefits to the sponsor.8x • Note: MLP ratios are EV/adjusted EBITDA Note: Data based on Q1 2008. Figure 41. MLPs should be able to either (1) pay more for an acquisition than a corporation and realize the same cash flow accretion or (2) realize more accretion from an acquisition given the same acquisition price. Thus. MLP investors are not subject to double taxation on dividends.3x SEP 15. transportation. a partnership must receive at least 90% of its income from qualifying sources such as natural resource activities. income from sale of real property.7x TOO 7.5x WES 9.6x WMB 6.7x PSE 6. How Many MLPs Are There? Currently.5x EXLP 11. which makes financing acquisitions and organic projects feasible. storage. gain on sale of assets. E. 33 . Figure 42.1x. 78 are energy related. A premium valuation. most MLPs are involved in the energy markets.9x WMZ 11. refining. Valuation Arbitrage Between MLP And C-Corp EPB EV/EBITDA MLP median C-corp median 15. LLC estimates • • The ability to maintain control of the assets (via the GP interest). in our opinion. LLC EQUITY RESEARCH DEPARTMENT B. there are 102 MLPs traded on public exchanges.MLP Primer -. This enhances the partnership's competitive position vis-à-vis corporations in the pursuit of expansion projects and acquisitions. Natural resource activities include exploration. due to their tax-advantaged status. What Are The Advantages Of The MLP Structure? Due to its partnership structure. and marketing of any mineral or natural resource. C. Types Of Publicly Traded Partnerships 90 78 60 Count 30 14 2 0 Energy Minerals and Timber Real Estate Investment / Financial Other 5 3 Source: National Association of Publicly Traded Partnerships D.7x EP 7. real estate rents. which are based on respective IPOs in Q2 2008 Source: Partnership reports and Wachovia Capital Markets.1x EXH 7. except for WES and PSE.1x TGP 13.
but will be subject to U.P. cash flow is paid to investors as it is generated and only until the underlying asset is depleted. Are MLPs The Same As U.. What Is The K-1 Statement? The K-1 form is the statement that an MLP investor receives each year from the partnership that shows his or her share of the partnership’s income. Figure 43. Copano Energy. Atlas Energy Resources. federal income tax on the partnerships’ income. Unlike MLPs. the loss can be carried forward and used to offset future income from the same MLP. L. 90%) of profit is distributed to shareholders as dividends. Navios Maritime Partners. A U.. which elected to be taxed as corporations for U. and Vanguard Natural Resources are registered as a limited liability corporation (LLC).S. there were 73 energy MLPs registered as a limited partnership (LP).. The dividends are then taxed as personal income.S. investors would receive a Form 1099 rather than a K-1. Royalty Trusts? Canadian Royalty Trusts? No U.P. Six entities. The remaining portion of this distribution is to be treated first as a nontaxable return of capital to the extent of the purchaser’s tax basis in its common units on a dollar-for-dollar basis and thereafter as capital gain. Thus. U. L.g.S. holders will not directly be subject to U. In contrast. deductions.S. LLCs have all the tax advantages of MLPs. If the partnership reports a net loss (after deductions). common unitholder at the capital gains tax rate versus the ordinary income tax rate. they are not MLPs. LLC EQUITY RESEARCH DEPARTMENT F. The investor pays tax on the portion of net income allocated to him or her (which is shielded by losses. 34 . K-1 K-1 1099 There are three shipping MLPs: Capital Product Partners L. The primary differences between LLCs and MLPs are that LLCs do not have a GP or incentive distribution rights. trusts are not actively managed entities. federal income tax on distributions received from the MLPs and sales of the MLPs’ units. G. The qualified dividend income would be taxable to the U. and some can be retrieved online (via the company’s website). gain. It is similar to a Form 1099 received from a corporation. including no corporate level of taxation and tax deferral for unitholders.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. H. and Teekay Offshore Partners.S. What Is The Difference Between A LLC And MLP? As of July 2008. Linn Energy. NuStar GP Holdings. however. In addition. LLCs unitholders have voting rights. Instead. deductions. since these MLPs are structured as corporations. LLC LP LLC C corp. Constellation Energy Partners. whereas MLP limited partner unitholders generally do not have voting rights. K-1 forms are usually distributed in late February or early March.S. Structure Comparison Structure comparison Non-taxable entity Tax shield on distributions Tax reporting General partner Incentive distribution rights Management incentive interests Voting rights Source: Wachovia Capital Markets.S.S. royalty trust is a type of corporate structure whereby a cash flow stream from a designated set of assets (typically oil and gas reserves) is paid to shareholders in the form of cash dividends. A trust’s profit is not taxed at the corporate level provided a certain percentage (e. In addition. royalty trusts are yield-oriented investments and have unique investment characteristics. These MLPs also provide percentage estimates of total cash distributions made during a certain period that would be treated as “qualified dividend income” (this is similar to the percent estimate of federal taxable income-to-distributions provided by standard MLPs). and credits) at his or her individual tax rate. Based on this election. loss.P. but may have management incentive interests (MII). it is considered a “passive loss” under the tax code and may not be used to offset income from other sources. However. dividends from trusts fluctuate with cash flow and should eventually dissipate. Thus. U. federal income tax purposes.. they do not make acquisitions or increase their asset base.S. and credits.
The i-shares are equivalent to MLP units in most aspects. all gains (including the most recent share distribution) are treated as long-term capital gains.. except distributions are paid in stock instead of cash. EEQ has traded at a premium to EEP. Investors prefer cash distribution to stock dividends. but instead. Currently. both EEQ and KMR have traded at a discount to their MLP unit equivalent. in May 2001. What Are I-Shares? In order to expand the universe of potential investors in MLPs to institutional investors and tax-deferred accounts such as IRAs. including the following: • Cash is king. On the other hand. The discrepancy between valuations can be attributed to a number of factors. Thus. LLC (KMR). • No conversion provision. The ability to convert an i-share to a common unit was removed by the partnerships soon after the public offerings. an investment vehicle similar to LP units was created known as i-shares (the "i" stands for institutional). EEQ trades at a 3.MLP Primer -. make acquisitions or investments to grow production).3% discount to KMP.8% premium to EEP and KMR trades at a 5.e. the i-share security could be an appropriate investment. Thus. I-shares have average trading volume of only 133. However. though recently. Canadian royalty trusts are more similar to upstream MLPs in that Canadian trusts are actively managed entities (i. Since inception. MLP units are difficult to sell short. 35 . • No natural arbitrage. LLC (EEQ). The cost basis of the initial investment does not change. the only other i-share security is Enbridge Energy Management. for investors who prefer to reinvest dividends. I. a limited liability company. The i-share structure is analogous to an automatic dividend reinvestment plan. Distributions to i-shareholders are treated similar to stock splits.679 for the two MLP units. the primary differences between upstream MLPs and Canadian royalty trusts are that the trusts (1) are involved in the exploration and production of crude oil and natural gas (whereas upstream MLPs are involved in exploitation and production) and (2) tend to hedge a smaller percentage of their current production volume (while upstream MLPs typically hedge approximately 70-90% of a current year’s production). Unlike MLP securities. which would cause the units to trade more closely.869. no natural arbitrage opportunity exists. i-shares can be owned in an IRA account without penalty.Third Edition WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT MLPs are actively managed entities that can make acquisitions and investments to increase their asset base and sustain (and grow) cash flow. Thus. in our view. the i-shares are not entirely pari passu with the MLP common units. Over the long term. MLP distributions are managed to be steady and sustainable (and often growing). i-shares do not require the filing of K-1 statements and do not generate UBTI. Currently. in our view. Kinder Morgan was the first to offer i-shares with the creation and issuance of Kinder Morgan Management. The i-share discount. is spread among more shares. One year after purchase. • Liquidity. versus 383. Hence.
Premium / (Discount) Premium / (Discount) 20% 16% 12% 8% 4% 0% 1/29/07 2/28/07 3/29/07 4/29/07 5/29/07 6/29/07 7/29/07 8/29/07 9/29/07 1/29/08 2/29/08 3/29/08 4/29/08 12/29/06 10/29/07 11/29/07 12/29/07 6/29/08 Source: FactSet What Are The Tax Consequences Of Owning I-Shares? When a shareholder receives a quarterly distribution in the form of additional i-shares. An i-shareholder pays capital gains tax on the sale (long-term capital gains if the holding period is greater than one year). the basis of each lot of shares can be used separately in the allocation. Otherwise. (This is similar to the way a stock split is calculated.Premium / (Discount) Premium / (Discount) 16% 12% 8% 4% 0% (4%) (8%) 12/29/06 10/29/07 11/29/07 12/29/07 1/29/07 2/28/07 3/29/07 4/29/07 5/29/07 6/29/07 7/29/07 8/29/07 9/29/07 1/29/08 2/29/08 3/29/08 4/29/08 5/29/08 5/29/08 KMP-to-KMR . A taxable event occurs only when a shareholder sells his or her share. 36 6/29/08 . EEP And KMP Relative To The Underlying I-Shares EEP-to-EEQ . first-out (FIFO) method is used. LLC EQUITY RESEARCH DEPARTMENT Figure 44. An investor’s tax basis is calculated as the initial amount paid for the shares divided by the total number of shares received both from the initial purchase and the subsequent quarterly distributions. the first-in.) If shares were acquired for different prices or at different times.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. this does not trigger a taxable event. The holding period for shares received as distributions is marked to the date at which the original investment in the shares was made.
1%. Correlation Between Distribution Growth And Yield 12% y = -0. For example. Alternatively. based on an estimated 0.MLP Primer -.5% and trade at an above average yield of 9. organic growth projects. Figure 45. Fastergrowing MLPs have commanded lower yields. In addition.e. This is due to the fact that MLPs distribute the majority of their cash flow in the form of distributions each quarter.1781x + 0. propane MLPs have a forecasted three-year distribution CAGR of 5. 55% of the variation is explained). This level of correlation does not preclude an MLP with a forecasted distribution growth rate of 8% from trading at a similar yield to an MLP with a forecasted distribution growth rate of 10%. the potential flaw with this analysis is that our distribution growth forecasts could be incorrect.. Access To Capital Access to capital remains the key to MLP distribution growth as acquisitions and organic investments are mostly funded with external capital (i. Distribution Growth Distribution growth has been one of the primary drivers of MLP price performance. new debt and equity).74 correlation between the two variables (i. LLC estimates B. MLPs with investment grade credit ratings generally enjoy better access to capital at a lower cost. LLC EQUITY RESEARCH DEPARTMENT VII.7%. the market may be forecasting different growth assumptions for certain MLPs or factoring in different levels of risk. The following chart plots our three-year distribution growth CAGR estimates against current yields. publicly traded GPs have an average estimated three-year distribution growth CAGR of 21.one standard deviation Source: FactSet and Wachovia Capital Markets. An MLP generates value for unitholders by investing in projects that generate returns in excess of the partnership’s cost of capital. or cost-saving synergies should benefit from an approximate 0.2% and consequently trade at lower than average yield of 5.5479 9% Current Yield 6% 3% 0% 5% 10% 15% 20% 25% 30% 35% Estim ated 3-Year Distribution Grow th CAGR Note: Dotted lines represent +/.2% reduction in yield. Drivers Of Performance A.e. most MLPs have historically enjoyed good access to the capital markets. all else being equal.. while slower-growing MLPs have traded at higher yields. 37 .0946 R2 = 0. However. In comparison. Empirical evidence suggests there is an inverse relationship between anticipated distribution growth and MLP yield.Third Edition WACHOVIA CAPITAL MARKETS. An MLP that is able to increase its forecasted annual distribution growth rate by 1% via accretive acquisitions.
701 $4. LLC EQUITY RESEARCH DEPARTMENT Figure 46.000 $4.415 $5. This is due to the fact that MLPs are yield investments that were traditionally viewed as bond-like substitutes.6% from an average of 7.00%.000 $5. For example. As MLPs have become more growth oriented.75% from 5.000 $4. the impact of modest interest rate movements on MLP price performance has decreased. treasury (from 2000 to 2008 year to date).Master Limited Partnerships WACHOVIA CAPITAL MARKETS.598 $0 2004A 2005A $5. the correlation between the 10-year Treasury yield and MLPs has been only 0.S. Interest Rates The movement of interest rates has historically been an important driver of MLP performance.7%. while the Composite yield increased to 10.505 $9. the average spread between MLP yields and treasury yields declined to a low of 16 bps from a high of 512 bps.965 $5.5%.975 $ in millions $12. the Fed increased the target rate three times to 5.07.000 $16. 38 . MLPs have historically traded at an average spread of 251 basis points (bps) to the 10-year U. As MLPs have accelerated distribution growth over the past ten years (19982007) to approximately 9% from 4%. Over that same period. in 1999. investors are able to receive a higher risk-adjusted rate of return from government-backed debt or treasury securities.687 2006A 2007A 2008YTD Equity Proceeds Source: Partnership reports Debt Proceeds C. our MLP Composite declined 20.206 $8. Historical Equity And Debt Issuances $20.000 $3.610 $9. Over the past five years. MLPs have underperformed during certain some periods of rapidly rising interest rates because as interest rates increase.150 $14.
MLP Primer -. LLC EQUITY RESEARCH DEPARTMENT Figure 47. a sustained reduction in natural gas or crude oil prices could curtail drilling by producers. Historical Midstream MLP Yield Spread To The 10-Year Treasury 600 As of 7/11/08 the spread was 388 bps MLP Yield Spread To 10-Yr Treasury (Bps) 500 400 300 200 100 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 Source: FactSet D. Commodity Prices The influence of commodity prices on MLPs varies significantly by sub-sector. Key Terms A. please see the “Asset Overview” section beginning on page 18. or “high splits” tier. B. the GP receives an increasingly higher percentage of the incremental cash distributions. in our view.) 39 . and raise the quarterly cash distribution to reach higher tiers. As the GP increases cash distributions to LPs. this agreement can reach a tier in which the GP is receiving 50% of every incremental dollar paid to the LP unitholders. even long-haul pipeline MLPs could be affected from reduced transportation volume and/or fewer infrastructure opportunities. Near-term fluctuations in natural gas and crude oil prices are unlikely to have a material impact on pipeline MLPs. which benefits the LP unitholders. as well. In most partnerships. (Please see the Appendix for a list of energy MLPs and their incentive distribution rights levels. The theory behind this arrangement is that the GP is motivated to build the partnership. What Are Incentive Distribution Rights (IDR)? At inception. historically it has been low relative to other companies in the energy industry.Third Edition WACHOVIA CAPITAL MARKETS. Longer term. MLPs typically pay cash distributions to unitholders on a quarterly basis. LLC VIII. What Are Distributions? Distributions are similar to dividends. Impact Of Commodity Prices On MLPs Short-Term Increase In Prices Natural Gas Pipeline MLPs Gathering & Processing MLPs 1 Upstream MLPs None Negative Positive Crude Oil None Positive Positive Sustained Increase In Prices Natural Gas Positive Negative Positive Crude Oil Positive Positive Positive Note 1: For primarily keep-whole contracts Source: Wachovia Capital Markets. Although MLPs’ exposure to commodity price risk varies overall. Figure 48. increase the partnership’s cash flow. but are likely to affect earnings (on the unhedged portion of production or volume processed) of upstream and gathering and processing MLPs. As a result. For a more detailed discussion of the impact of commodity prices. MLPs establish agreements between the general partner and the limited partners that outline the percentage of total cash distributions that are allocated between the GP and LP unitholders. This is known as the 50/50.
the LP receives $0. Calculating Incentive Distribution Payments In the following table we illustrate the mechanics of how cash flow is allocated between the limited partners and the general partner based on a hypothetical incentive distribution rights schedule (see Figure 49).00 $0. the LP would receive $1.00 and the GP would receive an additional $1.09 $0. LLC 40 . Based on this schedule. Figure 49.00 in hand.50.04 $2.00 $0. it actually needs $2.59 $0.00 Cumulative Cumulative distribution allocation of cash flow (%) Distribution per unit per unit LP GP Total LP GP Total LP GP $2.00 Source: Wachovia Capital Markets.e.00). the GP receives approximately 5% of the total distribution paid. the formulas for Tiers 1-4 would apply. The GP receives 15% of the incremental cash flow.00 ($4.00).30 10.00.00 per limited unit.00 $4. The GP receives 25% of the incremental cash flow.30 $5. which represents 98% of the distribution at that tier. LLC In this example. MLP XYZ’s yield of 8. which represents 85% of the distribution at that tier.00 per unit. $4. or approximately 9% of total distributions paid. is achieved when distributions are greater than $3. At the declared distribution of $4.50 $3.13 per unit. Thus.00/98%] × 2%).00 $4. and for the incremental $1.00 $2.00 and less than or equal to $2. which represents 50% of the distribution at that tier.50 per unit and the GP receives $0. The GP receives 2%. the $2.6% Tier 1 Tier 2 Tier 3 Thereafter LP% 98% 85% 75% 50% GP% 2% 15% 25% 50% Above $3.50 $0.00 per unit). Thus.50 per unit.04 $0.50 $3.00 $2. As the cash distribution is increased beyond $4. or $0. The GP also receives 50% of the incremental cash flow. Figure 50.6% reflects distribution payments to both the LP and GP (i. and Tier 3 includes distributions greater than $2.00 $2. Tier 4 (i.00. This $0.00 in our example.30 per unit.04 $0.30 ÷ $50. while the GP would receive 24%. between $0..00.00 and $2. the GP would receive 50% of the incremental cash. which equates to $1.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.e.00 per LP unit.63 $3.30 $5. As outlined in Figure 50.00.00 $2. MLP XYZ Distribution Tiers LP% Tier 1 Tier 2 Tier 3 Tier 4 98% 85% 75% 50% GP% 2% 15% 25% 50% LP distr.00 8.00 per unit but less than or equal to $2.00.00 distribution to LP unitholders by 98% and then multiplying by 2% ([$2. which is the incremental cash flow above $2.09 per unit. At Tier 2.00 Above $3.00 received by LP unitholders represents 98% of the total cash distribution paid to the GP and LP unitholders. LLC EQUITY RESEARCH DEPARTMENT C.30 $2.13 $0. or the high-splits tier.50.04 is derived by grossing up the $2.. up to: $2. the LP unitholders would receive 76% of total cash distributions. In other words. This same formula is applied at the subsequent tiers.67 $2.00 $1. of that distribution at Tier 1.17 $1. At Tier 3.. which equates to $0.00 per unit. $4.e. which equates to $0. the adjusted yield of 10. as well.00.00 $2.00 per unit. one to pay the LPs and one to pay the GP. 50/50 splits). In other words.50 and less than or equal to $3. the LP receives $2. the LP receives $1. MLP XYZ Incentive Distribution Tiers Distribution up to: $2. if the MLP wants to raise its distribution to limited partners by $1. we assume MLP XYZ declares a distribution of $4. However.00 ÷ $50. Tier 1 includes all distributions less than or equal to $2. which is the incremental cash flow above $2.0% $5. At this level.30 98% 95% 91% 76% 2% 5% 9% 24% MLP XYZ Stock price Distribution to LPs Yield Total distributions Adjusted yield $50. if the distribution is increased to $5. which is the incremental cash flow above $3.00 Source: Wachovia Capital Markets. the LP receives $0. Tier 2 includes distributions greater than $2.50 $3.50 per unit but less than or equal to $3.04 per unit.00.0% reflects distributions made only to the LP unitholders (i.00 per unit. At Tier 4.50 $0. which represents 75% of the distribution at that tier. at Tier 1.00.00 to $5.30 $1.04 $0.50.30 = $5.00 + $1. the LP receives $2.
Paying out the vast majority of cash flow is a strong discipline that incentivizes management to operate the partnership efficiently and to take extra precautions when contemplating acquisitions and/or organic capital projects. however. this “windfall” of cash is being used to pay down debt or to fund internal growth projects.e.1x range.” including future capital expenditure and financing requirements.g. thereby increasing the partnership’s base of sustainable earnings. LLC EQUITY RESEARCH DEPARTMENT Management Incentive Interests (MII) Are Similar To IDRs Management incentive interests (MII) function in the same way as incentive distribution rights. high coal prices (ARLP. However.3x. the MLP is required to pay out all “available cash” to unitholders in the form of distributions. management) to receive an increasingly greater proportion of the MLP’s cash flow as distributions exceed certain thresholds. PVR.0. Available and distributable cash flow is commonly calculated in the following ways: Figure 51.. CEP and ATN’s MIIs are capped at 15% and 25%. reflecting the stable. For example. D. most pipeline MLPs have coverage ratios in the 1. LLC Distributable cash flow can also include cash distributions received from equity interests and reflect adjustments for non-cash items such as mark-to-market adjustments for derivative activity. What Is The Difference Between Available Cash Flow And Distributable Cash Flow? We define available cash flow as the cash flow that is available to the partnership to pay distributions to both LP unitholders and the GP. NRP) or wide commodity spreads (PAA). On the other hand. Thus.g. Some MLPs have generated significant excess cash (or maintain higher distribution coverage ratios) for reinvestment in organic growth projects. E. What Is The Distribution Coverage Ratio And Why Is It So Important? A partnership’s distribution coverage ratio is the ratio of cash flow available to common unitholders and the general partner to the cash paid to an MLP’s common unitholders and the general partner (i. The MIIs entitle the holder (e.. target distribution levels and distribution coverage ratios). available cash flow for the GP and LP divided by distributions paid to the GP and LP). This usually includes all cash flow that would be required for “the proper conduct of the business. Management’s rationale for withholding cash flow is that the current earnings may not be sustainable due to unusual circumstances. of incremental cash flow. Constellation Energy Partners (CEP) and Atlas Energy Resources (ATN) are currently the only MLPs that have MIIs. 41 .g. F. Are MLPs Required To Pay Out “All” Their Cash Flow? Under a typical partnership agreement. we calculate distributable cash flow as the cash flow available to the partnership to pay distributions less cash paid to the GP. respectively. fee-based cash flow that underpins their businesses. propane MLPs that have a cash flow stream that is sensitive to weather typically carry coverage ratios of at least 1. In contrast.2-1. cash flow accrues to the MIIs until they are eligible to receive the cash flow.Third Edition WACHOVIA CAPITAL MARKETS. For both CEP and ATN. management teams have significant discretion in determining what is considered available cash flow. Distribution Coverage Ratio Calculation Distributions paid (to GP and LP) Source: Wachovia Capital Markets.MLP Primer -. the MIIs are not paid out to the holder until certain criteria are met (e.. Available And Distributable Cash Flow Calculation Net income (+) depreciation and amortization (-) maintenance capex Available cash flow (-) Cash flow to general partner Distributable cash flow to LP unitholders OR EBITDA (-) interest expense (-) maintenance capex Available cash flow (-) Cash flow to general partner Distributable cash flow to LP unitholders Source: Wachovia Capital Markets. LLC Distribution coverage ratio = Available cash flow (to GP and LP) Coverage ratios vary depending on the type of MLP and the inherent cash flow volatility in the underlying assets of the partnership.1.. e. Figure 52.
losses. gains. investors have considered the coverage ratio to be representative of the cushion that a partnership has in paying its cash distribution. including accelerated depreciation and amortization deductions. losses. What Is The Difference Between Maintenance Capex And Growth Capex? Maintenance capital expenditure includes investments a partnership must make in order to sustain its current asset base and cash flow stream. and stock price at that time B. 42 . For example. Taxes are not paid on the portion of allocated income that is shielded by deductions until the investor sells the security. as it fully reflects the cost of maintaining the asset base. (2) Net income from the partnership is allocated each year to unitholders. Distributions reduce the unitholder’s original basis in his/her units (i. Growth capex is the investment a partnership can make to enhance or expand capacity and increase cash flow. Tax And Legislative Issues A. G. distributions are well in excess of any tax liability. What Are The Tax Advantages For The LP Unitholder (The Investor)? Limited partners typically receive a tax shield equivalent to (in most cases) 80-90% of their cash distributions in a given year. Thus. The amount of taxes a LP unitholder pays is determined by several factors including the unitholder’s percentage ownership in the partnership. variance in the definition of maintenance capex can have significant ramifications for distribution policy and valuations. Partners in an MLP (the limited partner unitholders and the GP) are required to pay tax on their allocable share of the partnership's income. a higher coverage ratio would give management increased flexibility to raise its distribution. This is how it works: (1) LP unitholders receive quarterly cash distributions from the partnership each year. However. Given its effect on distributable cash flow. The unitholder pays capital gains taxes as well as ordinary income tax on deferred income when he/she sells the security. as reserves would also need to be replaced at some point. We prefer the first definition. In this context.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. • A more lenient approach is to define the metric as the capital required to replace annual production • Finally. the higher the ratio. The third definition is the least meaningful. an investor typically pays income taxes roughly equal to 10-20% of distributions received each year. Who Pays Taxes? Because an MLP is a partnership and not a corporation. The unitholder is also allocated a share of the MLP’s deductions (such as depreciation and amortization). Focusing just on maintaining production may not be sustainable over the long term. LLC EQUITY RESEARCH DEPARTMENT The distribution coverage ratio is significant for two reasons: • Traditionally. as it places a disproportionately large emphasis on commodity prices.. These deductions often offset a majority of the allocated income.7% of its federal gross income apportioned to Texas. maintenance capex can be viewed as the capital needed to sustain cash flow. in our view.e. when the investment was made. Upstream MLPs are currently divided on how to define maintenance capex. an MLP with assets in Texas is required to pay margin taxes. there is some tax leakage at the MLP level if the partnership owns foreign assets and/or operates in a state with margin taxes. The tax-deferred portion of the distribution is not taxable until the unitholder sells the security. the greater the safety of the distribution. maintenance capex can be defined as the capital required to maintain production and to replace reserves. return of capital). thereby reducing the amount of current taxable income. • All else being equal. IX. and tax credits. which has a maximum effective tax rate of 0. who are then required to pay tax on his or her share of allocated net income regardless of whether they receive distributions. In general. an MLP does not pay corporate-level federal income taxes. and deductions. There are currently three prevailing maintenance capex definitions used by upstream MLPs: • Under the strictest sense.
the difference between cash distributions and allocated taxable income) creates a tax deferral for the investor. and upward by the allocation of income.. a portion of the gain is paid at the capital gains rate and a portion of the gain (resulting from the tax shield created by allocated deductions) is taxed at the ordinary income tax rate. While this all may seem a bit confusing.e. the depreciation period for all of the assets within the MLP restarts.Third Edition WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT This is the tax-deferral benefit of owning a MLP. The remaining 80-90% is deferred until the investor sells the security. the bottom line is this: in any given year. the amount of income in a given year that would be deferred would decrease over time below the typical 80-90% level. When this occurs. A termination of the partnership occurs if more than 50% of the total outstanding units of the partnership changes hands in one year. Since most MLPs in recent years have been growing via acquisitions and expansion projects. the amount of depreciation allocated to the limited partners would be significantly less than the typical level and the tax shield on distributions would decrease. Tax Deferral Can Go Below 80-90% If an MLP does not continue making investments. the 80-90% tax deferral would typically be restored in the following year. However. An investor’s tax basis is adjusted downward by distributions and allocation of deductions (such as depreciation) and losses. an investor will typically pay ordinary income tax equal to only 10-20% of cash distributions received. the tax shield created by depreciation and other deductions decreases. Investors should consult with a tax advisor concerning their individual tax status. When the units are sold. The net effect (i. this has not yet become an issue.). Another circumstance in which an investor’s tax shield could go below 80-90% is a termination of the partnership. etc.MLP Primer -. Thus. MLP Tax Deferral Rates Ticker Tax Deferral Rate AHD 75% AHGP 50% APL 80% APU 70-80% ARLP 70% ATN 60% BBEP 50% BGH 90% BPL 75% BWP 80% CEP 70% CLMT 80% CPLP 60% CPNO 80% CQP 80% DEP 80% DPM 70% EEP 90% EEQ NA ENP 80% EPB 80% EPD 90% EPE 90% EROC 80% ETE 60% ETP 80% Source: Partnership reports Ticker EVEP EXLP FGP GEL GLP HEP HLND HPGP KGS KMP KMR KSP LGCY LINE MGG MMLP MMP MWE NGLS NMM NRGP NRGY NRP NS NSH OKS Tax Deferral Rate 40% 80% 90% 90% 70% 80% 80% 90% 80% 95% NA 80% 90% 100% 90% 80% 51% 90% 80% 44% 50% 80% 70% 80% 80% 90% Ticker Tax Deferral Rate OSP 80% PAA 80% PSE 15% PVG 70% PVR 80% QELP 80% RGNC 80% RVEP NA SEP 80% SGLP 80% SGU 80% SPH 80% SXL 80% TCLP 80% TGP 80% TLP 80% TOO 30% TPP 90% USS 90% VNR 70% WES 70% WMZ 80% WPZ 80% XTEX 80% XTXI 0% Median 80% 43 . there is a recapture of the deductions (depreciation. When the investor sells the security. In that case. meaning the income that was deferred by the deductions becomes taxable income and is taxed as ordinary income. Figure 53.
the unitholder is required to pay taxes of only $0.75 + recapture of deferred taxes on prior year distributions of $1.07 $0.0% 80% 35% 15% $0.20 × 35% $0. a $1.20 $0.00 per unit. and (3) sold at the end of year five for $25.07).8% Year 2 $22 $1. LLC estimates $1. the unitholder not only pays the $0.20 $0.07 $2.00 is maintained.22 Unit Purchase Price $20 $1.20 $0. as we assume the MLP unit price has appreciated 5%.07 $0.0% At the start of year 1. Figure 54.07 $0.75 $1.07 tax on the distribution of $1.40 + tax due on year 5 distribution of $0. LLC EQUITY RESEARCH DEPARTMENT C.6% Year 3 $23 $1.00).4% Year 4 $24 $1.07.00 5.80 $0. the MLP’s yield at the end of the year is 4..00 4.07 Annual distribution minus tax deferred portion of distribution equals taxable portion of the distribution At the end of years 2-4.00 4.e.80 $0.00 distribution (i.00 × 80% $0..00 4. We also assume no distribution increases over the five-year period and an ordinary income tax and long-term capital gains tax rate of 35% and 15%. we assume the following about the MLP unit: • Is purchased for $20. Since we assume the unitholder sells the MLP unit at the end of year 5. 44 . but also a capital gains tax of $0.22 (i. In our example.00 per unit (and yields 5.20 $0.00 per unit increase in the unit price each year).00 4..0%) • Is 80% tax deferred At the end of year 1.e. capital gains tax of $0. the unitholder pays the same tax of only $0.75 ([$25 .07 on the $1.40 $0. Buy And Sell Mechanics Of An MLP Security Simplified MLP Buy And Sell Mechanics Unit price Annual distribution Yield % of distribution tax deferred (tax shield) Ordinary (personal) income tax rate Capital gains tax rate Tax deferred portion of distribution Taxable portion of distribution Tax paid at the end of each year on distributions received (at 35%) Tax paid when units are sold at the end of year 5: Capital gains tax paid (on unit price increase to $25 from $20) Ordinary income tax paid (on deferred portion of distributions) Tax paid on year 5 distribution Total tax paid at the end of year 5 Source: Wachovia Capital Markets.40 ($0.80 $0.80 $0.80 × 5 × 35%).80 $0.07 $0.00. LLC estimates $0.8% (i.2% Sell Unit At The End Of Year 5 $25 $1.00 per unit • Has an annual distribution of $1.00 per unit (i. In addition. $1. 7% rather than the ordinary income tax rate of 35%).e.e. Tax-Deferral Calculation Annual distribution Tax deferral rate Tax deferred portion of distribution Taxable portion of distribution Ordinary income tax rate Tax due on year 1 distribution received Source: Wachovia Capital Markets.20 $0. due to the MLP’s tax-deferral rate of 80% (See Figure 55 for calculation).00 4.00 ÷ $21.$20] × 15%) and recapture of the deferred tax related to distributions in years 1-5 of $1. respectively. (2) held for five years. The total related taxes paid at the end of year 5 is $2.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. The Mechanics Of A Purchase And Sale Of MLP Units And The Tax Consequences We provide a simplified example illustrating the mechanics of a purchase and sale of an MLP unit and the associated tax consequences. to $21 from $20 per unit. Figure 55. as we assume the distribution of $1.80 $0.07 Year 1 $21 $1.. we assume one MLP unit is (1) purchased for $20.
07 $2.00 $30.000 would be subject to tax.00) plus the total distributions received from years 1 to 5 (i. Our after tax calculation reflects the following: • The investor payment of a capital gains tax of $0.$20] × 15%) • The recapture of the deferred tax related to distributions in years 1-5 of $1. We recommend placing MLP units in traditional brokerage accounts to avoid this issue and to ensure that the investor receives the full tax advantages of the security.00 × 35% $1.00 ÷ $20.00). the investor would realize a before tax total return of 50% (i.00]-1). divided by the original purchase price (i.. The after-tax total return would be approximately 38% in this example.00 $5..Third Edition WACHOVIA CAPITAL MARKETS.00 50% After-Tax Calculation Unit purchase price (original cost basis) Unit sale price (at the end of year 5) (-) Capital gains tax (-) Recapture of deferred tax (+) After tax distributions received ($0. UBTI exceeding $1. And Return Filing Requirements In addition to federal income taxes.40 $25 $20 $5 × 15% $0.e.e. $5.75 ([$25 . Investors may be subject to state and local taxes and return filing requirements even if he or she does not live in any of those jurisdictions.00).. Please see the Appendix for a list of states in which each MLP operates.40 $4.00 $25.75 $2.22 In this simplified example. LLC EQUITY RESEARCH DEPARTMENT Figure 56.00 $25..35] × 5) Figure 57.$0. MLPs can be held in IRAs.00 . but we would not recommend it. Income from MLPs and other sources of UBTI that exceeds $1.000 per year in an IRA would trigger adverse tax consequences for the plan sponsor. Therefore. [total return ÷ original cost basis]-1 [$30.93 × 5) Total return on investment Percent total return on investment $20. $25.80 × 5 × 35%) • The receipt of after-tax distributions of $4. Income from an MLP is considered UBTI for tax-exempt entities such as an IRA. 45 . Taxes Paid At The End Of Year 5 (The Sale) Total deferred portion of distribution (years 1-5) Ordinary income tax rate Recapture of deferred tax related to year 1-5 distributions Unit price at the end of year 5 Unit price at the start of year 1 Unit price appreciation Capital gains tax rate Capital gains tax paid on unit price appreciation Recapture and capital gains related taxes due Tax due on year 5 distribution received Total taxes paid at the end of year 5 Source: Wachovia Capital Markets.65 $27. LLC estimates D. E. LLC estimates $4.40 ($0. $20. The investor’s total return of $30 is composed of the unit sales price at the end of year 5 (i.00 $0.MLP Primer -.00 × 5) Total return on investment Percent total return on investment $20. LP unitholders may be required to file state and local income tax returns and pay state and local income taxes in some or all of the various jurisdictions in which an MLP conducts business or owns property. State And Local Taxes.15 $0.65 ([total distributions received – tax paid on annual distributions when received] × 5 years) ([$5.e. Can MLPs Be Held In An IRA? Technically yes.50 38% Source: Wachovia Capital Markets.e.75 $1. Estimated Total Return On Investment Before Tax Calculation Unit purchase price (original cost basis) Unit sale price (at the end of year 5) Distributions received ($1.
These bills exempted MLPs from corporate taxation. Congress will continue to support MLPs’ favorable tax treatment given their integral involvement in the buildout of U.e. the PTP structure has come under scrutiny by Congress. 2006. Trusts formed before November 2006 would be given a four-year reprieve until 2011. the cost basis of the MLP is reset to the price of the unit on the date of transfer.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. NAPTP Is Working To Ensure That GPs Are Not Affected By Carried Interest Legislation With the initial pubic offering (IPO) of the Blackstone Group in 2007. MLPs As An Estate Planning Tool MLPs can be used as a tax-efficient means of transferring wealth. In addition. many companies in other sectors have converted or are contemplating conversion to the trust structure. The advantages of the MLP tax structure were originally developed by Congress in mid. However. and U.S. Thus. or marketing. 35%). refining. MLPs have invested more than $23 billion on U. Canada’s Finance Minister.e. person who owns an interest in a MLP may be required to file a U. The NAPTP hosts an annual conference that allows its PTP members to provide company presentations to current and prospective investors. of which 70 are energy MLPs. distributions to a non-U. pipelines and storage facilities) that would efficiently move energy products to consuming markets. the U.C. states. energy infrastructure in the past five years (2003-07) and are expected to invest significant amounts of capital over the foreseeable future. The association currently represents the interests of 73 publicly traded partnerships (PTPs). Canadian Royalty Trusts Tax Status Expected To Change In 2011 On October 31. mining. When doing so. development.S. James Flaherty. Current Tax And Legislative Issues What Is The National Association Of Publicly Traded Partnerships (NAPTP)? The NAPTP is a trade association formed in 1983 that represents the interests of publicly traded partnerships (including publicly traded LLCs taxed as partnerships) and their respective employees on legislative and regulatory issues in Washington. Foreign Investor Ownership A non-U. Concern has also been raised over the fact that Blackstone is channeling its management fees (non-qualifying 46 . as Congress could use these potential tax revenues to reduce current and future deficits. loss revenue due to the tax structure of a royalty trust). loss. Canadian royalty trusts would be taxed like all other Canadian corporations. While most of the early trusts were confined to real estate and energy. Under this proposal.. as long as at least 90% of their income is derived from natural resource or mineral activities (including exploration.S.). energy infrastructure.S. What Is The Risk Of MLPs’ Losing Their Tax-Advantaged Status? There has been some concern among investors that MLPs could be at risk of losing their tax benefits. LLC EQUITY RESEARCH DEPARTMENT F. and pay federal income tax at regular rates on his or her share of net income or gain.5% rate.to late 1980s.naptp. Mr.. H. In our opinion.e.S. The issue is that fund managers at Blackstone receive compensation in the form of carried interest that is then taxed as capital gains (taxed at 15%) as opposed to ordinary income (i.org. in our view. the risk of MLPs losing their tax-advantaged status is low. the tax liability created by the reduction of the original unitholders cost basis is eliminated. processing. The proposal is not yet law. at the full 31. District Court of Appeals recently upheld a new ruling by the FERC that allows MLPs to include an income tax allowance in pipeline ratemaking.S.S. G. the individual’s MLP investments can be transferred to an heir. Further. D. or income deduction. Additional information in regards to the association can be found at www. The incentives were put into place to attract sufficient capital to support infrastructure development (i. through the passage of the Tax Reform Act of 1986 and the Revenue Act of 1987. etc. person are typically reduced by withholding taxes at the highest applicable effective tax rate. federal tax return to report his or her share of an MLP’s gain. announced a tax fairness plan proposal that would change the favorable tax status of Canadian royalty trusts by 2011. The Canadian government has taken this action to close what amounts to a significant tax loophole (i. When an individual who owns an MLP dies.. transportation. while others would begin paying taxes in 2007.
The original policy allows pipelines owned by MLPs to include an allowance for income taxes in determining their pipeline tariffs as long as the partnerships can show that some entity pays federal income tax. The long-term implications of the FERC’s policy change will likely not come to light until it’s implemented in an actual rate case. 2007. In determining an allowable pipeline rate. short-term growth rate two-thirds weighted + long-term growth rate one-third weighted). given the increasing number of pipeline assets owned (and being constructed) by public MLPs. An entity not subject to U. The income tax allowance is a major component for owners of interstate pipelines in determining a pipeline’s cost of service. The earlier bills were written so as to target any PTP that received compensation in the form of carried interest. which receive carried interest in the form of incentive distribution payments.. U. if an MLP thinks it deserves to charge a higher rate on its pipeline. MLPs that own FERC-regulated pipelines require their unitholders to be “eligible” holders.” Some energy MLPs hold corporate subsidiaries for purposes ancillary to their MLPs.Third Edition WACHOVIA CAPITAL MARKETS. federal income taxation. However. pay taxes at a lower rate. The FERC’s methodology for calculating ROE is the dividend yield plus the projected future growth rate of dividends (i. in our view. An eligible unitholder is an individual or entity subject to U. It is unlikely that there will be any new legislation on carried interest in 2008. (unlike c-corps) an MLP’s long-term growth rate (using GDP as a proxy) will be adjusted by 50% in calculating the ROE.MLP Primer -. all MLPs but publicly traded GPs). federal income tax on income generated by the MLP is also considered an eligible unitholder as long as all of the entity’s owners are subject to U. 2008.e. Congress may disallow the use of “blocker corporations.S. private equity funds attempt to convert services (ordinary) income into capital gains income and thereby.. as some rates are market based or negotiated with shippers. Specifically.e. Another potential issue is the creation of corporate subsidiaries to convert non-qualifying income (such as management fees) into qualifying income via the payment of dividends to the partnership. While not all interstate pipelines are subject to cost of service ratemaking. However.S. The inclusion of MLPs is a positive. MLPs Income Tax Allowance In Pipeline Ratemaking On May 29. now that carried interest has made it onto a list of potential revenue offsets. On April 17. the FERC adopted a new policy to include MLPs as proxy pipeline companies in establishing the allowed ROEs charged by interstate natural gas and oil pipelines. In contrast. 47 . The NAPTP is working diligently with Committee staff and Treasury Department officials to help educate members about the differences in operations and income between publicly traded GPs and private equity funds. federal income tax on the income generated by the MLP. This included both private equity funds and publicly traded GPs.S. it can seek a rate case wherein the FERC acts as a mediator. it is likely to resurface in the future. the carried interest of a publicly traded GP (IDR) is passed through as ordinary income and taxed at the higher rate at the unitholder level. we believe Congress will be able to differentiate between tax avoidance and a legitimate business rationale for a corporate subsidiary for an energy MLP. the NAPTP has been working to educate Congress on the differences between energy GPs and private equity funds. Again. FERC Includes MLPs In Determining Pipeline ROEs The Federal Energy Regulatory Commission (FERC) is the regulatory body responsible for determining the allowed rate of return (ROE) charged by interstate natural gas and oil pipelines. Such an example may be to house a foreign operation because the MLP structure may not be accepted in other countries. the rates on new interstate pipeline systems are subject to FERC approval.S. LLC EQUITY RESEARCH DEPARTMENT income) to corporate subsidiaries that then pay dividends back to the PTP (qualifying income). the FERC uses a proxy group of several publicly traded companies in the same industry as a benchmark.The carried interest issue has no bearing on conventional MLPs (i. In addition. District Court of Appeals upheld a policy decision made by the Federal Energy Regulatory Commission in May 2005. in our view. However.
MLP Investor Base Is Changing MLPs are still predominantly owned by retail investors. These funds were early investors in the sector and now hold significant positions in a number of MLPs. the MLP investor base is changing. Over that time period.. A growing group of hedged funds and closed-end funds have emerged as significant investors in MLPs. 48 . Sector Trends A.000 units per day in 1994. LLC EQUITY RESEARCH DEPARTMENT XI. as it is estimated that approximately 31% of MLP units (as measured by float) are currently held by institutions (i. to 11 from only 5 in 2004. increasing to 160. The funds also provide private funding for MLPs to supplement public equity offerings to finance growth initiatives.9 billion from $307 million. The number of energy MLPs has increased more than tenfold.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.000 units per day to date in 2008 from an average volume of 35. Dramatic Growth Of MLPs Over the past ten years. the MLP universe has grown by any measure. In addition. Number Of MLPs And Market Capitalization $180 Market capitalization ($ in billions) $160 $140 $120 $100 $80 $60 $40 $20 $0 7 $1 1994 9 $2 1995 12 $3 1996 12 $5 1997 15 $8 1998 17 $8 1999 18 $11 2000 29 23 $30 2003 $38 30 34 $70 42 $112 Total market capitalization of energy MLPs Number of energy MLPs 60 73 $147 $134 78 80 70 Number of MLPs 60 50 40 30 20 $19 2002 10 0 2004 2005 2006 2007 2008YTD $18 2001 Source: FactSet and National Association of Publicly Traded Partnerships B. Domestic Retail Ownership Has Been Declining 100% 23% Percent Ownership 75% 7% 50% 76% 25% 0% Retail 2005 Foreign Investors Institutional 2006 2007 74% 62% 22% 31% Source: Vinson and Elkins Money managers and hedge funds are emerging as major MLP investors. liquidity has improved dramatically for the MLP universe.e. primarily hedge funds and closed-end funds). Institutional ownership in MLPs is growing. the total market capitalization of the energy MLP universe has grown to roughly $147 billion in 2007 from approximately $1 billion in 1994. however. The number of MLP-focused closed-end funds has more than doubled. the average market cap has increased to $1. Likewise. Figure 58. Figure 59. to 78 in 2008 (to date) from 7 in 1994.
Closed-end funds are organized as corporations (as opposed to regulated investment companies.) and thus. Inc. 14 Omega Advisors. • Closed-end funds can engage in private market transactions that are not readily available to the public. Top 20 Institutional Holders Top 20 Institutional Holders (3/31/08) 1 Kayne Anderson Capital Advisors LP 2 Neuberger Berman LLC 3 Tortoise Capital Advisors LLC 4 Swank Advisors 5 Lehman Brothers Asset Mgmt LLC 6 Fiduciary Asset Management LLC 7 Pictet Asset Management SA 8 Argyll Research LLC 9 Fidelity Management & Research 10 Macquarie Fund Adviser LLC 11 Macquarie Investment Management Ltd. themselves. 12 RR Advisors LLC 13 Fayez Sarofim & Co. 20 Jennison Associates LLC Note: Holder list does not include investors owning MLPs via total return swaps Source: FactSet Emergence Of MLP Closed-End Funds Beginning with Tortoise Energy Infrastructure Corporation (TYG) in 2004. • These funds can be invested within IRA accounts without being subject to UBTI. The funds often provide private funding for MLPs to supplement public equity offerings to finance growth initiatives. thereby lending stability to MLP valuations. 15 Renaissance Technologies LLC 16 Energy Income Partners LLC 17 Magnetar Financial LLC 18 Eagle Global Advisors LLC 19 Glickenhaus & Co. Finally. Benefits to investing in a MLP closed-end fund include the following: • These portfolios are professionally managed and provide diversification for investors. There are now 11 closed-end funds that invest solely in MLPs (and one with 25% invested in MLPs). The MLP closed-end funds pay a dividend that is meant to generate a yield on par with the MLP investments. in our view. some funds may use the weakness as a buying opportunity. tax-exempt entities. etc. when MLPs experience periods of weakness. LLC EQUITY RESEARCH DEPARTMENT Figure 60. 49 .MLP Primer -. • Investors receive simplified tax reporting through a single 1099 rather than multiple K-1s. There are two closed-end funds that are now funding privately held MLPs that could ultimately become public entities when they mature.Third Edition WACHOVIA CAPITAL MARKETS. MLP closed-end funds are playing an increasingly prominent role in the MLP sector. are not subject to the restrictions related to qualifying income and UBIT. the MLP sector witnessed the creation of closed-end funds that invest primarily in MLP securities. An investor in a closed-end fund receives a 1099 form.
and steadily increasing demand from traditional markets have created the need for significant energy infrastructure.80 Current Yield 4.00 $20.90 $26.00 $25.7% 7.66 $27.40 Premium (Discount) Market Cap to NAV ($ In MM) (14.38 $26.00 $20. and processing capacity.00 $20.93 $22.00 $15. and the Rockies is creating the need for significant infrastructure development to transport supply from these new areas to the traditional consuming markets.8%) (19.3%) 2.00 $25.S.38 $28.39 $27.9% (11. Louisiana.05 $19. Oklahoma.22 $21.S.4% 9. traditional investors who want to own energy will need to seriously evaluate MLPs as an investment.4% 7.35 N/A $30.4% 7. in our view.9%) (12.54 $24. The U. MLP Closed-End Funds MLP Closed End Funds BlackRock Global Energy and Resources Trust Fiduciary Energy Income Growth Fund Fiduciary Claymore MLP Opportunity Fund Kayne Anderson Energy Development Company Kayne Anderson MLP Investment Company Kayne Anderson Energy Total Return Fund Cushing MLP Total Return Fund Tortoise Capital Resources Corporation Tortoise Energy Infrastructure Corporation Tortoise Energy Capital Corporation Tortoise North American Energy MLP Closed End Fund Average: MLP Closed End Fund Median: MLP Composite Median: Ticker BGR FEN FMO KED KYN KYE SRV TTO TYG TYY TYN Price 7/14/08 $34. Appalachia.3% 8. pipeline system has historically been designed to transport natural gas and crude oil production from the Gulf Coast to markets in the Northeast and West. While still comparatively small (the market cap of Microsoft is $235 billion).0% 7. the MLP sector is growing to a size that soon cannot be ignored.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.20 $11. We expect mutual fund participation to increase over time for a couple of reasons.60 $23.09 $17.2% 8.6% NAV/ Share $40. Shift In Supply Sources Is Driving Energy Infrastructure Investment The recent development of several new resource plays.71 $22.9%) (0.5% 7.5%) (7.7%) $1.3% 6. primarily pipelines.9%) N/A (13. MLPs are playing and should continue to play a major role in this energy infrastructure boom.4% 7.4% 7. energy complex makes its way into the MLP structure.7%) (12.00 $25.01 $22.00 $25. increasing imports (both LNG and crude products).251 $873 $151 $101 $548 $401 $105 IPO Date 12/23/04 6/24/04 12/22/04 9/21/06 9/27/04 6/27/05 8/27/07 2/2/07 2/24/04 5/26/05 10/27/05 IPO Price $25.85 $30.040 $142 $356 $228 $1.0% 7. The development of new resource plays in North Texas. (2) The MLP universe has grown significantly.74 $17. LLC EQUITY RESEARCH DEPARTMENT Figure 61. some mutual funds began to “dip their toes” in the MLP waters.6%) (8. storage.00 $25.00 Source: Bloomberg and FactSet Will Mutual Funds Get More Involved In The Sector? In 2007. As more of the U. with a market cap of $134 billion.00 $25. including the following: (1) MLPs are gaining prominence in the energy sector as many traditional energy companies are contemplating or have announced plans to form MLPs. 50 .93 $25. C.60 $28.8% 7.
During this time frame. and processing plants. From FY2003 to FY2007. In 2007. Organic Investments Driven By The Buildout Of U. U. MLPs invested approximately $65 billion in organic expansion projects and acquisitions. annual growth and acquisition capital investment increased to $28 billion from $4 billion. 51 .MLP Primer -. Natural Gas Supply Basin Map Source: Spectra Energy Corp.Third Edition WACHOVIA CAPITAL MARKETS. Between 2008 and 2012.4 billion in 2006 and $3. MLPs spent an estimated $10. up from $6. mostly centered on new interstate and intrastate pipelines. in our view. we estimate that our MLP universe will spend approximately $35 billion of growth-capital expenditure.S. and (2) greater visibility to distribution growth. LLC EQUITY RESEARCH DEPARTMENT Figure 62. while cash paid for acquisitions tallied $41 billion. (Please see the Appendix for a list of the announced/proposed pipeline projects. as they typically provide (1) more attractive returns.4 billion in 2005. gathering systems.8 billion on organic growth projects.) We believe MLPs will continue to play an increasingly larger role in the growth of energy infrastructure in the United States. or 18% of FY2007 total expenditure. storage. Organic projects remain the investment of choice (as opposed to acquisitions). MLPs Have Been Successful In Making Acquisitions And Investing Organically Over the past five years. Energy Infrastructure MLPs are involved in 15 of 33 new major pipeline projects on file at the FERC that could cost more than $14 billion in total.S. D. The top five MLPs that invested accounted for $12 billion. cash deployed in internal growth projects totaled $24 billion (or about 37% of the total investment).
Currently.85 billion acquisition of Anadarko’s gathering and processing assets in Kansas.and upstream-related transactions. The increase is being driven by the proliferation of new MLPs and the growth orientation of most management teams.0 $8.0 $2. Acquisition activity was focused around oil and gas reserves.2%. up from $9.5 billion in 2003. Historical Organic Capex Investments $20. other. 52 . aggregate MLP acquisition capital deployed has increased at an annual CAGR of 63%. up from 9.0 $0. In 2007.1x in 2006.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. approximately 37% of all energy pipelines in the United States are held by MLPs. and coal properties. and higher than the average multiple of 8. LLC estimates Acquisition Capital Deployed Has Been Steadily Rising Since 2003. Notwithstanding the market’s overall turbulence and the credit meltdown.6 billion.0 $4. 1.0 $16.05 billion acquisition of Dominion’s natural gas and oil exploration and production operations in the Mid-Continent Basin and APL’s $1.1 billion in H2 2007. Figure 64.0 $12.3 2003A $1.4 $16. 31%. In our models. MLPs still announced acquisitions totaling $11. Historical Acquisitions $20.5x in H1 2008. MLPs made/announced 92 acquisitions totaling $17.4 $17. The largest transactions in 2007 included LINE’s $2. 12.0 $8. acquisition multiples continued to climb.6 $10. gathering and processing assets. LLC EQUITY RESEARCH DEPARTMENT Figure 63. to $17.7 2004A $6.0 $0.0 $4. 43%.0 $12.0 $16. particularly for gathering and processing assets.5 2003A $9.8 $6.4 2005A $10. which largely include projected dropdown.0 $1.8 $4. we are forecasting $32 billion of acquisitions for 2008 to 2012.5%--includes primarily asphalt and compression acquisitions. implying ample room for consolidation by this sector.9 Total Capex ($B) 2005A 2006A 2007A 2008E Acquisition capex Source: Partnership reports Acquisition Multiples Have Risen Excluding oil and gas reserves.8 billion in 2006.7 2004A $3. MLPs paid an average EBITDA multiple of 9. Oklahoma.4x in 2005.6 billion in 2007 from $2.2 Total Capex ($B) 2006A 2007A 2008E Organic growth capex Source: Partnership reports and Wachovia Capital Markets. and Texas.
compression. returns are exceeding cost of capital. etc. MLPs that have dropdown opportunities are not reliant on third-party acquisitions or on finding internal organic projects to fuel growth. with the ten-year treasury yield at just 3.4x.9% and 11. interest rates have remained relatively low. As interest rates inevitably rise and MLPs are successful in raising distributions and incentive distributions to the GP. shipping. in our view. versus 7.Third Edition WACHOVIA CAPITAL MARKETS. in our view.7x 9. As this occurs. we expect acquisition multiples to decrease. LLC estimates The increase in multiples can be attributed to a number of factors.g. which. Investors seem willing to pay a premium for the visibility of future visible growth. Historical Acquisition Multiples 12x EBITDA Multiple 10x 8.8x 9. in our view. Thus.P. newer MLPs are typically paying only 2% of their cash flow to the general partner.8% and 2009E enterprise value (EV)-to-adjusted EBITDA multiple of 11.4x 8. as evidenced by the premium valuations afforded in the market for MLPs with this business model. E. Master limited partnerships that have “dropdown” opportunities trade at a median yield of 6.0x 9. MLP management teams typically feel a certain pressure to increase distributions. in our opinion. The first dropdown MLP to launch an IPO was Williams Partners. L. In addition. Some MLPs have acquired assets at seemingly rich valuations with the intention of enhancing or investing in the assets to increase the EBITDA run rate. as distribution growth has been one of the primary drivers of price performance. there have been nine IPOs of dropdown MLPs. The dropdown model has proven to be a successful strategy. there is less integration risk with “dropdown” assets than with third-party acquisitions. the market is clearly ascribing a certain value to the growth afforded by having a parent company with significant “MLP-able” assets. This strategy bears watching. Thus.MLP Primer -. in August 2005. The Emergence Of “Dropdown” MLPs Dropdown MLPs are a relatively new subsector of the MLP universe. as returns will have to be higher to justify the increased cost of capital. in general. …But Returns Still Exceeding Cost Of Capital MLPs continue to possess a competitive (and low) cost of capital. in our view. While the timing of “dropdown” acquisitions is not always certain. In addition. we expect their cost of capital will begin to increase.5x. Further. the median cost of capital of our MLP Composite is now 11. geographic). With so many new entrants to the MLP market (ten IPOs since 2005) competition for assets has been intense. respectively for the midstream MLP peer group. which can potentially be sold to the MLP to support future distribution growth.3%.). These partnerships can be involved in any area of the energy sector (midstream. these MLPs have been able (and willing) to pay more because they have a lower cost of capital and/or because the assets represent a strategic investment for the partnership (e.. thereby making the acquisition look more attractive on a forwardlooking basis. LLC EQUITY RESEARCH DEPARTMENT Figure 65. has enabled them to make acquisitions even at higher multiples. in our view.1x 9. For perspective. Since then. upstream. as we believe it introduces additional risk in the form of execution and timing.9%. in our view.5x 6x 2005 Average Weighted EBITDA Multiple 2006 Median EBITDA Multiple 2007 2008 YTD Source: Partnership reports and Wachovia Capital Markets. even at higher multiples.2x 9. Dropdown MLPs have sponsor companies that own MLP qualifying assets.7x 8x 8. 53 .
000 $9.756 $3. This included $8.1x 10.6x EV/Adjusted EBITDA 2008E 2009E 11. In addition.610 $5.2 billion for IPOs.598 $2. raising $1.7x 11. MLPs raised a total of $14. MLPs Continue To Enjoy Good Access To Capital The number.2x 9.836 $5.7 billion.8% 7.379 2005A 2006A 2007A $3.823 $1.572 $2. Figure 67. up from $14. Dropdown MLPs Versus Midstream MLPs Yield Dropdown MLPs Midstream MLPs 6.972 $3.0 billion for secondary offerings.802 $0 Source: Partnership reports 54 .4x 11.5x Source: FactSet and Wachovia Capital Markets.549 $10.000 IPOs Private Placements Public Secondaries Units To Sponsor/Seller $15.415 $2. size. $3.9% P/DCF 2008E 2009E 10.259 $454 2004A $1. LLC estimates F.701 $2. and total amount of capital raised by MLPs continue to increase. The year 2007 marked another record in terms of capital-raising by MLPs.5 billion raised via direct placement of equity from institutional investors. Historical MLP Equity Offerings Gross Proceeds From Equity Offerings $20.781 $1. which was given partial equity credit by the rating agencies. On the equity front.981 $8.7 billion of equity. Total debt and equity issued topped $18.5x 10. and $3.8x 11.9 billion in 2006.4 billion. LLC EQUITY RESEARCH DEPARTMENT Figure 66.794 $5.000 $4. there were three hybrid securities issued.000 Equity Proceeds ($MM) $14.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.171 $817 2008YTD $2.
675 $3.65% 6.975 $6.65% 7.50% 5.70% 7.Investment Grade Versus Non-Investment Grade During the recent credit crunch and economic slowdown.60% Term (Yrs) 10 10 30 5 5 10 30 5 10 30 5 10 10 30 10 10 10 Proceeds ($MM) $300 $600 $300 $250 $250 $350 $400 $350 $600 $550 $400 $700 $400 $400 $350 $600 $250 $7.50% 6.000 $4. thus. accessing credit facilities has been the best alternative for debt financing.95% 5.50% 6. the public debt markets have been volatile and more expensive.625 $3.956 $8. investment grade rated MLPs continued to enjoy good access to capital as the high-grade debt market remained open and relatively unchanged as it relates to price.150 $5.90% 6.40% 6. LLC EQUITY RESEARCH DEPARTMENT Figure 68.156 Debt Offerings ($MM) $6.340 $5.965 $1.50% 5. Historical MLP Debt Offerings Gross Proceeds From Debt Offerings $10.050 55 . Figure 69.030 $4.000 Investment Grade Non-Investment Grade $8.6%. investment grade MLPs have raised $7. Investment grade MLPs continue to have good access to the public markets for both debt and equity.505 $1. During the recent credit crunch.000 $2. 2008 Year-To-Date Investment Grade Debt Offerings Date Issuer 1/10/08 BPL 2/6/08 KMP 2/6/08 KMP 3/24/08 BWP 3/24/08 TPP 3/24/08 TPP 3/24/08 TPP 3/25/08 ETP 3/25/08 ETP 3/25/08 ETP 3/31/08 EPD 3/31/08 EPD 3/31/08 EEP 3/31/08 EEP 4/1/08 NS 4/18/08 PAA 7/9/08 MMP Average / Total Source: Partnership reports and FactSet Investment Grade MLP Debt Offerings Rate 6.MLP Primer -.000 $3.00% 6.50% 7. For non-investment grade MLPs.750 $0 2004A 2005A 2006A 2007A 2008YTD Source: Partnership reports A Dichotomy In The Market -.50% 7. we have seen a stark dichotomy develop between investment grade and non-investment grade MLPs.475 $2.800 $2.Third Edition WACHOVIA CAPITAL MARKETS.95% 6.475 $3.000 $3.65% 6.55% 6.05% 5. For 2008.1 billion in new issues at an average interest rate of 6.
A Paradigm Shift In PIPE Dynamics Market psychology shifted in late 2007 as it related to PIPE issuances. and the opportunity to forego the sometimes tedious process of filing and marketing a secondary offering. In 2007. Growing institutional interest. strategic. MLPs Are Employing Creative Financing Solutions To Fund Growth PIPE Mania The amount of equity raised from institutional investors participating in private investments in public equity (PIPE) has grown over time and reached an all-time high in 2007. and (3) the stock price would respond positively.).. A PIPE is a direct equity investment in publicly traded equity. organic and acquisitions). the relatively attractive pricing (discounts of 6-7%). the increasing strong demand for MLP capital. The number of MLP equity deals steadily increased to 62 in 2007 from 37 in 2003. (2) in conjunction with the acquisition.156 MLPs have traditionally been disciplined acquirers. MLPs’ favorable relative price performance. high yield debt markets remain open for MLPs. PIPE investors who had purchased the stock at a discount to the previewed price would get a double boost in their returns. The MLP benefited by pre-funding an acquisition and thereby eliminating any potential overhang or erosion in the stock price as the market would normally anticipate an equity offering to fund the transaction. This dynamic has caused MLPs to be disciplined acquirers.2 billion in eight offerings at an average interest rate of 9.01% Term (Yrs) 10 10 8 10 10 10 10 10 Proceeds ($MM) $250 $500 $200 $150 $300 $250 $256 $250 $2.g. in our view. and the current low interest rate environment explain. in our view.88% 8.75% 8. etc. they must access the capital markets to finance growth (i.0% Figure 70. In addition. In 2008. as the high yield and term loan B credit markets remain volatile and expensive. MLPs raised more than $8. as the expected financings created an overhang on MLP unit prices. yield-seeking investors. thereby eliminating the equity overhang. In the old paradigm. Management teams are now more guarded when talking about equity needs and are exploring ways to avoid excessive equity issuances. MLPs with equity financing needs were punished in their valuations in H2 2007. the stock typically responded favorably (assuming the deal was accretive. PIPEs can be an effective way to raise capital as they are typically more time efficient (e. 2008YTD High Yield Debt Offerings Date Issuer 1/7/08 ATN 4/8/08 MWE 4/23/08 NRGY 5/6/08 ATN 5/13/08 CPNO 6/5/08 NGLS 6/16/08 LINE 6/23/08 APL Average / Total Source: Partnership reports and FactSet High Yield Offerings Rate 10.25% 10. an MLP would (1) announce an acquisition or large capex project. PIPEs became a preferred method for MLPs to finance (the equity portion of) expansion projects and acquisitions due to the easy access to large pools of capital.75% 9. In 2004. no need for a roadshow) than secondary offerings.g. After the announcement of the event. Since MLPs distribute all available cash to unitholders. In 2007. (2) in conjunction with the 56 . non-investment grade MLPs have raised $2. which provided the investors with additional return. G.75% 8.25% 9. In the new paradigm. Investors in many of the early PIPEs outperformed because the equity placements were typically tied to an event (acquisition or investment).. Nevertheless. fewer regulatory issues) and less costly (e. Investors (in the PIPEs) benefited by purchasing the stock at a discount that was based on the preview price of the units. the median size of equity deals has increased to approximately $162 million year in 2007 from $79 million in 2003. as management teams must demonstrate to unitholders that acquisitions and projects are accretive to justify financing.75% 7.75% 8.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.5 billion of equity via PIPEs. This shift in the financing paradigm can best be described as follows. LLC EQUITY RESEARCH DEPARTMENT Non-investment grade MLPs have relied mostly on revolving credit facilities to finance debt. the MLP (1) announces an acquisition.. the MLP would announce a PIPE.e. in part. MLPs raised approximately $363 million of equity via PIPEs.
Thus. In 2006. We expect hybrid securities to become more prevalent due to the partial equity credit given by the rating agencies and the market’s acceptance of the security.e. In addition. we believe management teams have become even more sensitive in projecting potential equity offerings for fear of creating additional selling pressure on their stock prices. the MLP announces a PIPE or instead announces that it will issue equity in conjunction with closing. $300 million in July 2006. Hybrid securities are given partial equity credit by the rating agencies. that is. $200 million in August 2006.. the GP can afford to temporarily subsidize an acquisition to improve the accretion for the LP unitholder. junior subordinated notes) pay a fixed coupon rate for a stipulated period of time and then a floating coupon rate for balance of the term of the note (i. similar to i-shares).A Perpetual Equity Overhang MLP announces an acquisition or organic growth project MLP announces a PIPE thereby eliminating the equity overhang MLP announces a PIPE thereby eliminating the equity overhang MLP does not announce a PIPE or equity offering Stock goes up on anticipation of a distribution increase Stock goes down because investors focus on the lockup Stock goes down because there is an overhang to finance transaction Source: Wachovia Capital Markets.e.e. The reason is that the GP receives the benefit of higher distributions (as the LP raises the distribution). This could be an indication of a high price being paid for an asset. Paid-In-Kind (PIK) Equity Paid-in-kind equity is an LP unit that receives distributions in the form of additional stock (i. GP Subsidies Another creative financing solution used by MLPs is to have the general partner effectively subsidize a transaction. everyone focuses on the lock-up expiration date.Third Edition WACHOVIA CAPITAL MARKETS.. in our view. In these instances.e. However. future PIPEs will likely be smaller in size with fewer investor participants. In the case of MLPs. EPD became the first MLP to issue junior subordinated (i.. hybrid) securities. we believe PIPEs will continue to play a role in financing MLP growth. LLC EQUITY RESEARCH DEPARTMENT acquisition. Figure 71. raising $550 million via three tranches (i.MLP Primer -. and $50 million in September 2006). it demonstrates the beneficial impact to the GP when the MLP makes an acquisition. 57 . we may see more one-day-marketed or overnight secondary offerings versus traditional multi-day-marketed secondary offerings to reduce the negative impact of an impending equity offering.. but also realizes an increase in cash flow as the MLP issues additional equity to finance the transaction. The additional stock received by the unitholder is equivalent to the value of the quarterly distributions paid to common unitholders. and (3) the stock goes down because either there is an overhang to finance the transaction or the PIPE creates the overhang. Hybrid Securities A hybrid security is an investment vehicle that has characteristics of both a debt and equity security.e. Paid-in-kind equity is typically eligible to convert into common units after a certain period. Because acquisitions are so accretive to GP owners. the GP temporarily forgoes incentive distribution rights payments in order to make an acquisition immediately and sufficiently accretive to limited partnership unitholders. PIPE Dynamics--Perpetual Equity Overhang Old Paradigm MLP announces an acquisition or organic growth project New Paradigm -. A MLP that raises capital through the issuance of PIK equity (1) minimizes cash outflow that helps bridge the time until a project or acquisition starts to generate meaningful cash flow and (2) removes any overhang related to potential equity offerings. typically at LIBOR + bps premium). the partnerships’ hybrid securities (i.. LLC Although there has been a shift in the market psychology surrounding equity issuances. In addition.
Master Limited Partnerships WACHOVIA CAPITAL MARKETS. and Vanguard Natural Resources) established as LLCs (rather than the traditional LP structure) with no GP entity to maximize the long-term growth of the partnership. Figure 73. Hence. publicly traded entities to highlight and maximize their value.8MM ~$1. in our view. a GP’s ownership of incentive distribution rights with a 50% tier creates the leverage that enables the GP to increase its distribution at a faster rate than the underlying MLP.e. Crosstex Energy.7MM ~$1. Finally.. held the first initial public offering for a stand-alone pure-play general partner interest. 58 . The Multiplier The multiplier represents the rate of cash flow growth to the GP relative to LP growth. from Anadarko Help finance $689MM Rainbow acquisition Help finance $200MM acq. Eleven GPs have been spun out as separate. while the underlying MLPs have only been able to increase their distribution at a rate of 11%.Recognizing The Value Of The GP In January 2004. Copano Energy. The multiplier is determined by a number of structural characteristics related to the assets owned by the GP. Linn Energy. Publicly Traded General Partners GP Alliance Holdings GP LP Atlas Pipeline Holdings LP Buckeye GP Holdings LP Crosstex Energy Inc. For example.85B acq. there are three publicly traded partnerships (i. distribution growth for successful GPs can be significantly higher than that of LPs.4MM Length Of Subsidy 2 yrs 2 yrs 5 yrs 1 1. The value of the GP lies in the fact that the GP receives a disproportionate amount of the incremental cash flow of the underlying partnership as LP distributions are increased due to the IDRs.5MM $20-15-15-10-5MM ~$6. of PPX Help finance $1.4B acq. GPs have been able to raise their distributions at a three-year CAGR of 32% (2005A to 2007A). buyers of GPs have recognized the value of the IDRs typically held by the GP.5 yrs 4 yrs Reason For Subsidy Help finance $530MM acq. Inc. from Shell Help finance $230MM Stagecoach acquisition Help finance $2. Other MLPs have chosen to amend the IDRs to limit the cash flow that goes to the GP. LLC EQUITY RESEARCH DEPARTMENT Figure 72. Energy Transfer Equity LP Enterprise GP Holdings LP Hiland Holdings GP LP Inergy Holdings LP Magellan Midstream Holdings LP NuSTAR GP Holdings LLC Penn Virginia GP Holdings LP Source: Partnership reports Ticker AHGP AHD BGH XTXI ETE EPE HPGP NRGP MGG NSH PVG IPO date May-06 Jul-06 Aug-06 Jan-04 Feb-06 Aug-05 Sep-06 Jun-05 Feb-06 Jul-06 Dec-06 Power Of The IDRs Clearly. Publicly Traded General Partners -. For example. Summary Of Past GP Subsidized Transactions Date Announced MMP NRGY PAA (I) APL PAA (II) Nov-04 Aug-05 Jun-06 Jun-07 Apr-08 Annual Cash Subsidy $4. from ExxonMobil up to $20MM / $15MM 2 yrs / Forever SXL Apr-08 Source: Partnership reports H. The role of the GP and the incentive distribution rights typically held by the GP have gained recognition.
GP Multiplier Underlying MLP ($ in millions.2x 3.0 million of incremental SG&A expenses • 5 million underlying MLP units owned by the GP Figure 75.9x 1.0x 1.0x Multiplier Effect 2.8x $20 $20 $40 $2 $20 $0 $22 With 10% increase $220 $85 $305 $22 $85 $5 $102 % growth 10% 31% 15% 10% 31% 0% 28% 59 .8x 1.00 50 $200 24% 5 Current period Incremental $200 $65 $265 $20 $65 $5 $80 2.9x 1.00 per unit • 50 million common units outstanding • A 10% distribution increase • High splits level (i.MLP Primer -.0x AHD NRGP MGG NSH BGH Median Source: Partnership reports and Wachovia Capital Markets. LLC Current period $4..0x 3. Our example assumes the following at the underlying MLP: • A current distribution of $4. The GP’s leverage to the underlying MLP’s distribution growth can be defined as the ratio of the pure-play GP’s distribution growth rate relative to that of the underlying MLP.Third Edition WACHOVIA CAPITAL MARKETS.7x 2. except per unit data) Current distribution per unit Units outstanding (in millions) Total distribution % of cash flow to GP MLP common units owned by GP ( in millions) GP distributable cash flow Cash flow to LP unitholders Cash flow to GP Total cash distribution to LP & GP Distributions to GP from LP units Distributions to GP from GP interest and IDRs Incremental SG&A expense GP distributable cash flow Multiplier effect Source: Wachovia Capital Markets. Forward GP Multiplier Estimates 4.2x 2.0x 0. 50/50 tier) • Distribution tiers from Figure 49 And the following assumptions at the GP: • $5. LLC EQUITY RESEARCH DEPARTMENT Figure 74. LLC estimates PVG EPE XTXI ETE HPGP AHGP How the math works.e.1x 2.6x 1.7x 1.0x 2.8x 1.9x 1.
interest and SG&A expense and taxes). all else being equal. the multiplier effect is approximately 2. the ratio of the pure-play GP’s distribution growth relative to that of the underlying MLP). Hence.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. All of the publicly traded pure-play GPs incur incremental SG&A expense. publicly traded pure-play GPs typically own limited partnership units of the underlying MLP. Some public securities hold only the GP interest along with a share of a MLP’s limited partner units (typically subordinated to the common units). With the exception of MGG.. However. if the MLP raises its distribution per unit by 10%. reduce the cash available to pay the GP’s unit holders. its growth rate should equal the growth rate of the MLP.8x (i. Corporate taxes. the partnership would need to pay incremental distributions to LP unit holders and the GP of $20 million each. The greater the number of LP units held at the GP. and TPP are the only underlying MLPs with publicly traded GPs. C-Corp versus MLP). LLC EQUITY RESEARCH DEPARTMENT Based on these assumptions. the slower the growth. Thus. all 11 publicly traded pure-play GPs do not own any independent assets. Since the underlying MLP is at the “high-splits” level.) 60 . EPD. • Incremental expense at the GP (i. a 10% distribution increase at the MLP would enable the GP to raise its distribution by approximately 28%. The underlying partnership should have a lower cost of capital (relative to MLPs with maximum IDRs of 48%). (For a list of publicly traded entities holding GP interests.. Their cash flow is based solely on distributions declared by the underlying MLPs. A GP’s potential leverage to the underlying MLP’s growth is based on the maximum incentive distribution level that is stipulated in the partnership agreement.e. its growth rate slows and converges with the growth rate of the underlying MLP. we believe the following factors should be considered: • Growth profile of the underlying MLP. Most IDRs are capped at 48%. 50%). please see the Appendix.e. meaning the GP can reach a level where it can receive 50% of the incremental cash flow (48% for the IDRs plus 2% for the GP interest). Thus. the cumulative percentage of distributions attributable to IDRs increases. reduce the cash available to pay dividends. unit holders is generally slower than the growth rate achieved by the IDRs.e. the 2% GP interest and IDRs entitle the GP to receive a disproportionate amount of the MLP’s incremental cash flow (i. all else being equal. Taken to the extreme. Hence. The incremental expenses at the GP level. Over time. the distribution growth of a GP associated with a fast-growing underlying MLP should be higher than that of a GP and supported by one with modest growth prospects. • Percentage of cash flow accruing to IDRs.e. Not All GPs Are Created Equal When comparing publicly traded pure-play GPs and their leverage to the underlying MLPs (i. the underlying MLP should be able to increase its distributions at a faster rate and sustain its growth rate for a longer period of time. as the cumulative percentage of distributions to the GP increases. • Percentage of GP’s cash flow attributable to LP units held. such as interest expense. all else being equal. General Partners Are Held In Different Entities Publicly traded GPs are housed in a variety of public entities.. management’s decision to cap the IDRs may benefit the GP in the long run. Other GP interests are held within companies involved in other businesses or that own other energy assets. NS. XTXI is the only publicly traded pure-play GP structured as a corporation. Currently. all else being equal. • Structure of the GP (i. The reason is that the growth of distributions to L.. the GP’s growth rate of 28% divided by the underlying MLP’s distribution growth of 10%).e. the IDRs of which are capped at 23%. which should enable it to compete more effectively for acquisitions and realize higher returns on all investments (acquisitions and expansion projects). if the GP is receiving 50% of the distributions of the underlying MLP.P. Thus. • Maximum IDR level. in our view.
an oil and gas MLP can set distributions at a long-term sustainable level. they will likely need to make ever larger acquisitions to sustain growth. Upstream MLPs are dependent on debt and equity markets to finance acquisitions. but on a base of $500 million is less so at 4%. Although an active hedging program mitigates commodity price risk. The oil and gas MLP needs to be actively and conservatively managed to maintain reserves and roll over hedges. L. Generally. LLC EQUITY RESEARCH DEPARTMENT I.” With price certainty. • EV Energy Partners. a prolonged period of low commodity prices could force upstream MLPs to cut their distribution absent acquisitions. 1. Return Of Upstream MLPs The IPO of Linn Energy in January 2006. modest debt) and a more robust distribution coverage ratio (i. 70-90%) in order to lock in prices and reduce commodity price exposure. A displacement in either of these markets could hamper a partnership’s ability to pursue acquisitions and increase distributions. can pressure earnings and narrow coverage ratios. 61 .. • Dependence on acquisitions. • Active hedging strategy. • Financing growth. marked the return of oil & gas producing assets to the MLP structure.” • Upstream MLPs Are Faced With Unique Challenges And Risks • Depleting asset base. The MLP mantra must be strictly adhered to. There are inherent challenges associated with a depleting asset base. Why? The business model was flawed and execution was poor. • Pioneer Southwest Partners. Reserves in certain regions of the United States are more appropriate for the MLP structure.2x). Absent acquisitions. in our view. There are currently ten publicly traded upstream MLPs. consisting of the following: • Atlas Energy Resources LLC (ATN). • Conservative balance sheet and high distribution coverage ratio. • Exploitation and not exploration--low drilling risk. • Quest Energy Partners.e.e. even with hedges. Declining commodity prices. in our view. balance sheets were over-leveraged. The partnerships should hedge a significant percentage of their expected production (i.e. all else being equal. Oil and gas MLPs should focus on exploitation. • BreitBurn Energy Partners. low development costs. LP (ENP).Third Edition WACHOVIA CAPITAL MARKETS. LP (EVEP). “never. LP (LGCY). in our view. instead of relying on exploration to support cash flow. a partnership’s asset base is eroding and reinvestment opportunities may be limited.e. these partnerships relied on relatively risky drilling to sustain production.. (PSE). • Strong management team. LP (QELP).. Upstream MLPs are suitable for yield-oriented investors that seek more direct exposure to oil and gas assets and have a higher risk tolerance. We would prefer an oil and gas MLP to lock in prices for a multiyear time period (to the extent the market allows). Reserves suitable for the oil and gas MLP structure should be characterized as predominantly proved developed and long-lived. the factory-like development of a well-known reserve base.. and • Vanguard Natural Resources. in our view. i. MLPs with more volatility in their underlying businesses should maintain a more conservative balance sheet (i. with slow depletion rates. • Constellation Energy Partners LLC (CEP). even at the expense of “leaving some upside on the table. LLC (VNR) Upstream MLPs Failed in the 1980s. As upstream MLPs increase in size.P. and hedging tools were not available to mitigate commodity price risk. • Commodity price exposure.MLP Primer -. • Legacy Reserves. What Should Be The Criteria To Invest Today? Appropriate reserve base. • Linn Energy LLC (LINE). • Encore Energy Partners. An incremental $20 million of cash flow on a base of $100 million is meaningful at 20%. ever cut the distribution. LP (BBEP).
this cost-ofcapital benefit is temporary and exists only when the MLP is at the lower incentive distribution level. MLPs are generally thought to have a lower cost of capital than C-corps. Cost of capital is therefore the weighted average cost of GP equity.Master Limited Partnerships • WACHOVIA CAPITAL MARKETS. As the MLP increases its distribution. and debt. but also to future distributions that will presumably be higher. high drilling activity can lead to faster decline rates as new wells typically come online with steeper decline rates. LLC estimates Equity owners are entitled not only to the current distribution. an investor’s required rate of return). However. but could be entitled to 50% of the MLP’s cash flow through IDRs. As an upstream MLP’s asset base increases in size. In fact. In addition. which. (2) setting distributions and (3) choosing among financing alternatives. LP equity. Defining Cost Of Equity Conventional Thinking On Cost Of Equity Cost of equity = Cash yield WCM's Cost Of Equity Definition Cost of equity = Forward cash yield + Growth Cost of equity = Current yield Percentage cash flow to LP Cost of equity = Forward yield (1) Percentage cash flow to LP + Growth Note (1): Forward yield = next four quarterly distributions divided by current unit price Source: Wachovia Capital Markets. The cost of GP equity is the forward GP yield (cash flow being paid to the GP over the next four quarters) plus the expected growth in cash flow payments to the GP as the MLP raises its distribution over time. Properly defining and forecasting cost of equity has important ramifications for (1) making investment decisions. Because of this high degree of leverage. The cost of LP equity is the forward yield (distributions paid to LP unitholders over the next four quarters) plus expected distribution growth. competition over MLP suitable assets could intensify. increases annual maintenance capital requirements. the level of spending required to sustain production also increases. LLC EQUITY RESEARCH DEPARTMENT • High maintenance capex. in turn. By ignoring the growth component. Figure 76. Thus. we argue that today’s yield (the unit price) reflects some underlying distribution growth assumption. the cost of equity is understated and transactions that are initially accretive could become dilutive in later years as the partnership pays incremental distributions on the original units issued to finance the transaction. The general partner typically has just a 2% interest in the assets of the MLP. There Are Three Components To An MLP’s Cost Of Capital MLPs have three principal sources of capital: LP equity. 62 . 2%. its cost of capital increases and this advantage erodes away. and debt. The conventional methodology used to calculate an MLP’s cost of equity is flawed. GP equity is substantially more expensive than LP equity. Competition. GP equity. An MLP’s hurdle rate for new investments should therefore be greater than the weighted average cost of these three capital sources. Cost Of Capital Is Becoming A More Prominent Issue. we believe the cost of equity is best defined as adjusted yield (forward yield adjusted for GP promote) plus distribution growth.e. This represents an LP unitholder’s expected return for the risk undertaken in owning LP units of an MLP (i. driving acquisition multiples higher and reducing potential accretion. This advantage erodes over time due to the GP incentive distribution rights. Cost of LP equity.. as the MLP is more successful in raising distributions. it must pay a greater percentage of its total cash flow to the GP. all else being equal. due to their taxadvantaged partnership structure and low cash flow outlay to the general partner. in our view. or the forward cash yield (distributions paid to LP unitholders over the next four quarters adjusted for the GP cut) plus total distribution growth. paradoxically. An MLP’s total cost of equity is the weighted cost of LP equity plus the weighted cost of GP equity. In Our View J. As upstream MLPs increase in size and number. For an MLP. Cost of GP equity. as it incorrectly equates an MLP’s cash yield to the partnership’s cost of equity.
representing a 1. the partnership with IDRs will have a higher cost of equity than an MLP without IDRs. increases the partnership’s cost of equity. For two MLPs targeting an equal rate of return to unitholders. 2% of cash flow accrues to the general partner. Alternatively. an MLP with IDRs needs to make increasingly larger (or more accretive) investments in order to prevent erosion in investor returns. it is a mistake to think of cost of equity for a MLP as just the yield. LLC estimates 63 .0% 0% 10% 20% 30% % Cash Flow Paid To GP 40% 50% 60% Investor Return (LP cost of equity) IDR Premium (GP cost of equity) Source: Wachovia Capital Markets.0% 8. Again. equity owners demand a higher return because of the higher incremental risk that they carry.Third Edition WACHOVIA CAPITAL MARKETS. in many instances. If that were the case. the GP commands 50% of available cash flow. the cost of equity would be less than the cost of debt. the partnership should have a cost of equity of approximately 11.5% equity hurdle rate.0% Cost Of Equity 14.3% perpetual distribution growth) over the life of the partnership. Incentive Distribution Rights Increase Cost Of Capital IDRs create an increasingly large disconnect between an investors’ required rate of return (LP cost of equity) and an MLP’s total cost of equity. In other words.MLP Primer -. implying that the partnership would need to target investments with returns in excess of approximately 18% in order to sustain the 10% return to investors. an MLP without IDRs targeting a 10% return to investors would have a cost of equity approximately equal to 10% over the life of the partnership. LLC estimates Intuitively. Figure 78 illustrates the lifecycle of a hypothetical MLP with IDR tiers capped at 50% of cash flow. Figure 78.5%.0% 10. MLPs Have Three Main Sources Of Capital Cost of GP equity = Implied GP yield + GP interest growth $ Cost of LP equity = Forward yield + distribution growth Cost of debt Source: Wachovia Capital Markets.0% 12. it would have to make investments in excess of this 11. As a result. in turn.0% Total Cost Of Equity 18. In other words. As the partnership increases its distribution and triggers higher distribution tiers. when the MLP is first created. At year 0.5% premium over the 10% targeted return to investors.0% 16. which. When 15% of cash flow is accruing to the GP. cost of equity should be higher than the cost of debt because creditors get paid before equity owners. For simplicity. At the extreme.7% forward yield + 3. LLC EQUITY RESEARCH DEPARTMENT Figure 77. if the partnership wanted to continue returning 10% to investors. the percentage of cash flow accruing to the general partner increases. we assume the MLP targets a 10% return to investors (6. Lifecycle Of MLP With 50/50 Splits--IDR Premium 20.
it is this tax-advantaged structure that allows MLPs to trade at a premium to C-Corps.3).8% (assuming a risk-free rate of 4%. and Standard & Poor’s The primary advantage of the Wachovia MLP Index is that the broader index inclusion requirements (i. However. in our view. as a good portion of its perceived advantage becomes negated after factoring in distribution growth expectations set by investors and the effect of increasingly higher payments to the GP through IDRs. and ultimately. In other words. Alerian.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.. Is An MLP’s Cost-Of-Capital Advantage Overstated? Yes And No An MLP’s cost of capital advantage over a C-Corp could be exaggerated.price performance / total return Market capitalization weighting Minimum market cap ($ in millions) Timing of rebalance Maximum index constituent weighting Index base Index base date Index sub sectors Number of current index members Constituent types Calculation Wachovia 12/11/2006 WMLP / WMLPT Float-adjusted $200 Quarterly None 100 12/31/1989 Yes 73 Alerian 6/1/2006 AMZ / AMZX Float-adjusted $500 Quarterly None 100 12/31/1995 No 50 (maximum) Citi 7/18/2006 CITIMLP / CITIMLPT Full market cap $500 Quarterly None 100 12/31/1999 No 47 MLPs only Dow Jones S&P 9/6/2007 SPMLP / SPMLPT Float-adjusted $300 Annual (in July) 15% 1000 7/20/2001 No 40 MLPs. and an average beta of 0. and LLCs MLPs.e. The following chart outlines the differences between the indices. 64 . Citi. instead. it equates to excess returns for the investor. K. One explanation for the disparity between required rate of return and actual return is that investors could be underestimating future distribution growth. and LLCs Standard & Poor's MLPs. LLC. lower market capitalization threshold and unrestricted number of index constituents) provide a more representative picture of MLP industry performance. In comparison. a market-risk premium of 5%. and Standard & Poor’s) have introduced MLP indices that allow investors to track the price and total return performance of the MLP sector. GPs. which is significantly higher than the required rate of return as defined by CAPM methodology. We estimate our universe of MLPs will increase distributions by an average of 9-10% in 2007 and 2008. we believe cost of equity under the capital asset pricing model (CAPM) does not capture the cost of GP equity. our MLP index has delivered a historical ten-year average total return of approximately 18% (versus 6% for the S&P 500). If the MLP increases its distribution at a greater rate. an investor’s required rate of return). For our MLPs under coverage.. the calculation is not calibrated to capture the increasingly higher percentage of cash flow that accrues to an MLP’s general partner over time. An investor requiring a 10% annual return might purchase an MLP yielding 6% under the assumption that the MLP will be able to grow its distribution at 4%. Emergence Of MLP Indices Due to the growth and prominence of the MLP sector over the past couple of years. LLC EQUITY RESEARCH DEPARTMENT CAPM Understates The Cost Of Equity As it relates to MLPs. Alerian Capital Management. and LLCs Standard & Poor's Standard & Poor's Source: Wachovia Capital Markets. in our view. GPs. Citi. in our view. Figure 79. four financial institutions (Wachovia. the average cost of equity as defined by CAPM is about 7. GPs. up from the historical 4-6% rate during 1998-2004. We believe another major benefit of the Wachovia MLP Index is that price and total return performance can also be obtained for 13 sub-indices. in our view. the fact remains that MLPs are tax-efficient vehicles to pass cash flow to unit holders. Comparison Of MLP Indices Comparison of MLP indices Index launch date Ticker . we believe it provides a better guide for LP cost of equity (i.e.
65 . Investors can also gain exposure to an MLP without direct ownership via a total return swap agreement. The cash settlement amount at maturity equals to the principal amount multiplied by an index ratio based on the performance of the Alerian MLP Select Index. In October 2007. Source: Standard and Poor’s and Wachovia Capital Markets. new financial products have been created to facilitate investment in the MLP sector. Upon exercise of the warrant.Third Edition WACHOVIA CAPITAL MARKETS. • Wachovia MLP index warrant. WCM Refined Products MLP Index Bloomberg Index Tickers Price Performance Total Return WMLP WCHWGPS WCHWCOA WCHWEXP WCHWMAR WCHWPRO WCHWMID WCHWGAS WCHWGNP WCHWNGP WCHWPET WCHWCRD WCHWRFP WCHWMLPT WCHWGPST WCHWCOAT WCHWEXPT WCHWMART WCHWPROT WCHWMIDT WCHWGAST WCHWGNPT WCHWNGPT WCHWPETT WCHWCRDT WCHWRFPT 7. WCM Natural Gas Pipelines MLP Index B. Wachovia introduced cash-settled call warrants linked to the performance of the Wachovia Composite MLP Index. net of fees. WCM Petroleum MLP Index i. In May 2007. Financial Products Facilitate Participation In MLPs In the past few years.MLP Primer -.g. In a total return swap. investors receive a cash payment (settlement value) equal to the notional amount of the warrant multiplied by the percentage change. if the price of the MLP decreases over the swap's life. WCM Natural Gas MLP Index i. WCM Marine Transportation MLP Index 5. No principal protection on the ETN exists. receive 1099s and not K-1 statements). the total return receiver will be required to pay the counterparty (usually a brokerage firm) the amount by which the asset has fallen in price. It was the first ETN linked to an MLP Index (the Alerian MLP Select Index) and is listed on the NYSE under the symbol “BSR. an investor receives a synthetic security which mimics the performance of the underlying security. The counterparty owns the underlying MLP and receives payments from the investor over the life of the swap based on a set rate. We expect additional structured products around the MLP market to be created over time to spur additional investment in the sector. LLC L. WCM Oilfield Services MLP Index N/A N/A Note: WMLP index price performance quotes are real-time and all other index quotes are end of day. the MLPs have experienced an increase in options trading volume. WCM Crude Oil MLP Index ii.. However. • BearLinx Alerian ETN. • Total return swaps. LLC EQUITY RESEARCH DEPARTMENT Figure 80. With more institutional investors involved in the sector. This includes any distributions generated by the underlying MLP and the benefit of the MLP’s price appreciation over the life of the swap. if the percentage change in the value of the index is positive. WCM Gathering & Processing MLP Index ii. WCM Oil & Gas MLP Index 4. WCM MLP Sub-Indices And Related Bloomberg Tickers WCM MLP Sub-Indices WCM MLP Index 1. • Options. Alerian Capital Management launched the BearLinx Alerian MLP Select Exchange Traded Note (ETN). WCM Coal MLP Index 3.” BSR investors receive distributions in the form of a monthly coupon. net of fees. WCM GP Composite Index 2. WCM Propane MLP Index 6. WCM Midstream MLP Index A. The Wachovia and Alerian instruments provide diversification for investors and are administratively less burdensome than direct ownership in MLPs (e.
For example.1%.500 Daily trading volume 150. ranging from a high of 10. resulting in a higher total return. assets subject to commodity price risk.5%. We then use a long-term growth rate of 0. in turn. B.500 75. See “Drivers of Performance – Distribution Growth” for additional information. The disparity in yield among MLPs can be explained by several factors including risk profile (financial and operational). which employs a risk-free rate (using the 10-year Treasury yield as our benchmark) and a market-risk premium.000 187. weather risk.500 0 Dec-06 Source: Bloomberg Feb-07 Apr-07 Jun-07 Aug-07 Oct-07 Dec-07 Feb-08 Apr-08 Jun-08 XI.. From 1998 to 2007. depending upon the individual MLPs outlook. we focus on price-to-distributable cash flow (DCF) multiples. C. MLPs with profiles that are perceived to be riskier (e. Our DDM assumes a required rate of return (ROR) of 9. Others will project a distribution for year-end and then apply a target yield to their projection to determine a fair value for the security. faster-growing MLPs should command a lower yield because it is assumed that the growth in cash flow would generate increases in distributions that. Distribution Yield MLPs can be valued using a number of techniques.3%. EBITDA generated by the partnership is used to support the cash distributions 66 . Distributable cash flow is defined as the cash available to be distributed to limited unitholders after payments are made for sustaining capital expenditures.g. Growth prospects.0-11. growth prospects. Two-Stage Distribution (Dividend) Model Our primary tool for valuing MLPs is a two-stage distribution (dividend) discount model (DDM). and interest rate environment. we use adjusted EBITDA rather than adjusted enterprise value.0-3. other cash obligations. higher leverage. We believe the focus for MLPs should be on cash flow rather than earnings (or P/E). The most common valuation method typically focuses on yield due to the fact that MLPs are income-oriented securities. would translate into greater appreciation of the underlying security. D. Enterprise Value-To-Adjusted EBITDA When comparing MLPs’ value on the basis of an EV-to-EBITDA multiple. MLP Option Contract Trading Volume 225. we project a distribution growth rate over five years. or more variability in cash flow) typically trade at a higher yield in the market as investors require greater return to compensate for the increased risk. and cash distributions to the GP. Some investors will look at yield to determine relative value. For our DDM model. We believe the disparity in yield can also be partially explained by the growth profile of various MLPs.0%. Valuation Of MLPs A.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. our MLP universe has had a median yield of 7.000 112. and management team. Price-To-Distributable Cash Flow To determine relative value.8% to a low of 5. Risk profile. asset mix. LLC EQUITY RESEARCH DEPARTMENT Figure 81.000 37.
with an average of 238 bps over the ten-year period from January 1998 to 2007.($25 × 10%) $23 Source: Wachovia Capital Markets. the percentage of cash flow accruing to its general partner. and growth orientation of MLP investments has changed over time. 3. we would deduct approximately $2. We believe this is the most appropriate way to adjust EBITDA when comparing it to enterprise value. if a partnership has an enterprise value of $200 million and is generating EBITDA of $25 million with 10% of its cash flow going to the general partner. 4 EV-to-adjusted EBITDA EV-to-adjusted EBITDA EV-to-adjusted EBITDA 8.0x.5 million from EBITDA in calculating our EV-to-adjusted EBITDA multiple.Third Edition WACHOVIA CAPITAL MARKETS. pay if it distributed all of its sustainable available cash flow. we deduct the cash flow accruing to the general partner from EBITDA. we caution that measuring current spreads versus a historical average may not be valid as the number. This is the maximum distribution a partnership could. Yields on midstream MLPs have maintained spreads over the 10-year treasury as wide as 512 bps and as narrow as 16 bps.(EBITDA × % cash flow to GP) $25 . LLC E. Spread Versus The 10-Year Treasury The midstream MLP yield is currently trading at approximately 400bps above the 10-year treasury. Alternatively. However. 2. LLC EQUITY RESEARCH DEPARTMENT to both the limited and general partners. Figure 82. However. We view the spread versus the Treasury as a good measure of investors’ appetite for assuming risk over time as it relates to owning MLPs. size. What Is Maximum Potential Distribution? Maximum potential distribution (MPD). Figure 83. and its current distribution coverage ratio. Midstream MLP Spread To The 10-Year Treasury (1998-2007) 600 MLP Yield Spread To 10-Yr Treasury (Bps) 500 400 300 200 100 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Source: FactSet F. enterprise value reflects only the interest of the limited partners.MLP Primer -. it is the distribution that could be paid such that the distribution coverage ratio equals 1. Therefore. in order to produce an “apples-to-apples” comparison. 67 . For example. Enterprise Value-To-Adjusted EBITDA Calculation 1. in theory.9x = = = = EV EV $200 $200 ÷ ÷ ÷ ÷ adjusted EBITDA EBITDA . Potential distribution upside based on MPD is a function of a partnership's sustainable cash flow.
their distribution coverage ratios are often above 1. financial leverage). reflecting their exposure to coal prices. In other words. The latter is typically the cash flow that is left after maintenance capital expenditure.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. For example. Caveat -. and distributions paid to the general partner. MPD Is Different Than Distributable Cash Flow (DCF) MPD is different than distributable cash flow (DCF). although we suspect that it may sometimes be erroneously defined as such. propane MLPs. • Total distributions paid = Distributions paid to the partnership’s limited partners and general partner based on the average units outstanding at the end of each quarter for the trailing-12-month period. • Available cash flow = The partnership’s projected net income + DD&A expense – Interest Expense Maintenance Expense – Other Cash Expenses (Income) for the trailing-12-month period. This calculation determines the distribution coverage ratio. Consequently.0x. This is to ensure that MPD is based on a sustainable cash flow base. DCF is not equivalent to how high the distribution can be set. A ratio of less than 1 indicates that the partnership may be borrowing to pay its distributions and that the current distribution may not be sustainable. we consider price-to-MPD multiples in addition to price-to-DCF multiples. other factors to consider before investing include a partnership’s risk profile (e. before the subtraction of cash paid to the GP) divided by the cash distributions paid to both the LP unit holders and GP.MPD Does Not Tell The Whole Story Partnerships typically set their distributions (at a sustainable run rate) below MPD to account for cash flow volatility and financial leverage. DCF is divided by the declared annual distribution. in our view.2x or greater. in our view. In concert with MPD.2-1. in general. while the latter measures excess cash flow available to pay both limited partners and the general partner. This excess cash flow is a cushion and suggests that the partnership’s distribution is safe in the event that cash flow decreases in the short term.g. LLC EQUITY RESEARCH DEPARTMENT MPD is a proxy for free cash flow to limited partners. MPD should not be used in isolation to analyze MLPs.3x because of the impact of weather on cash flow.e. Coal MLPs typically maintain a distribution coverage ratio of 1. We prefer to calculate the distribution coverage ratio as available cash flow (i. in our view. To do so. 68 . A ratio above 1 indicates that the partnership is generating more than sufficient cash flow to pay its distribution. Thus.. growth outlook. and management team.. DCF should be more appropriately used as a measure to determine the safety of the declared distribution. set their distributions below MPD to maintain a coverage ratio of at least 1. The former more precisely quantifies free cash flow to limited partners. cash interest expense. This is to account for distributions associated with anticipated equity issuances. Our MPD calculations are based on the following assumptions: • Sustainable cash flow = The partnership’s estimated minimum available cash flow for the period between the trailing 12 months in question and 2012.
In particular. and local authorities. MLPs are regulated across a number of industries. Conflicts of interest with the GP. Energy demand is closely linked to overall economic growth. some MLPs’ cash flows could be negatively affected.MLP Primer -. If an MLP’s operating region experiences unseasonably warm weather. For certain MLPs. which could result in lower earnings and cash flow. and ultimately. LLC EQUITY RESEARCH DEPARTMENT XII. Some MLPs. gathering and processing. MLPs’ ability to grow is dependent. (2) the GP aggressively increasing the distribution to achieve the 50%/50% split level rather than managing distribution growth to maximize the long-term sustainability of the partnership. could be negatively affected. Weather risk. If commodity prices are weaker than expected. MLP valuations could also be negatively affected if Congress revoked MLPs’ special tax treatment. Some MLPs have significant exposure to commodity price fluctuations including partnerships involved in oil and gas production. and coal. such as pipelines and storage assets. 69 . are dependent on cold weather for their earnings. propane demand. If MLPs were unable to access these markets or could not access these markets on favorable terms. If the MLPs are unsuccessful in completing projects on time or within budget or if the partnerships cannot identify attractive acquisitions. investor psychology could be influenced by election rhetoric concerning tax laws. A slowdown in drilling activity could reduce oil and gas producer revenue. A decline in drilling activity. A severe economic downturn.Third Edition WACHOVIA CAPITAL MARKETS. Because MLPs pay out the majority all of their cash to unit holders. throughput volume into processing plants. in part. Risks Growth is dependent on access to external capital. MLP management teams have been successful in dealing with similar uncertainties related to the MLP landscape over recent years. Tax and legislative risk. Regulatory risk. Many MLPs have assets that have been designated by the Department of Homeland Security as potential terrorist targets. particularly those involved in the transportation (pipeline) and distribution of propane. they must continually access the debt and equity markets to finance growth. Specific to the former. Some potential areas of conflict include (1) the price at which the MLP is acquiring assets from the GP. lower commodity prices are more likely to affect drilling in these regions before drilling is curtailed in more convention oil and gas fields. (3) the potential for management to place the interests of the parent corporation or the GP above the interests of the LP unit holders. Any number of regulatory hurdles could affect MLPs’ ability to grow. which typically have a higher cost structure. A terrorist attack or environmental incident could disrupt the operations of an MLP. and therefore. as 2008 progresses. volume. Execution risk related to acquisitions and organic projects. Headline risk exists related to potential legislative changes on the treatment of carried interest and challenges to FERC tariff regulations. on their ability to complete identified organic growth projects on time and on budget and/or to successfully identify and execute future acquisitions. Commodity price risk. Intrastate pipelines are typically regulated by the FERC. Environmental incidents and terrorism. gathering fees. Even though these issues may appear daunting. A severe economic downturn could reduce the demand for energy and commodity products. which could negatively affect cash flow and earnings in the near term. being subject to regulation by federal. many MLPs have assets tied to unconventional shale plays. pipeline volume. future cash flow and distribution growth rates could be adversely affected. Thus. this could inhibit longterm distribution growth. the GP of the partnership and the parent company that owns the GP are controlled and run by the same management teams. state. Coal is one of the most heavily regulated industries in the country. and (4) underlying MLP equity issuances benefit the GP regardless of whether the acquisition or project is accretive.
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MLP Primer -. LLC EQUITY RESEARCH DEPARTMENT XIII.Third Edition WACHOVIA CAPITAL MARKETS. Appendix 71 .
Backwardation. Amine. Amine is a type of chemical used to remove impurities from natural gas in order to make the natural gas suitable for pipeline transport. A blendstock is a liquid compound that is mixed with petroleum products to improve the petroleum’s characteristics. LLC Future price Base gas (or cushion gas). A market condition in which future commodity prices are greater than spot prices. Figure 84. The higher future price is often due to the cost associated with storing and insuring the underlying commodity. Probable reserves indicate there is at least a 50% probability or “more likely than not” chance that the reserves will be producing in the future. Proved reserves indicate there is at least a 90% probability or “reasonable certainty” that the reserves will be producing in the future. Blendstocks. Contango Market Contango Market Conditions Commodity price $150 $100 $50 $0 Spot price Source: Wachovia Capital Markets. Available cash flow is the cash flow available to the common unit holders and the general partner.e. For example. Figure 85. LLC EQUITY RESEARCH DEPARTMENT MLP Glossary Of Terms 1P reserves (proved). Backwardated Market Backwardated Market Conditions Commodity price $150 $100 $50 $0 Spot price Source: Wachovia Capital Markets. depleted natural gas or oil field. Base gas refers to the volume of gas that is needed as permanent inventory in a storage reservoir (i. LLC Future price Contango. Available cash flow.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. Possible reserves indicate there is at least a 10 % probability or “less likely than probable” chance that the reserves will be producing. blendstocks are mixed with motor gasoline to increase the gasoline’s octane or oxygen content. aquifer. A backwardated market usually occurs when demand exceeds supply. 2P reserves (proved + probable). A market condition in which future commodity prices are lower than spot prices. and/or salt cavern) to maintain adequate pressure and deliverability rates throughout the withdrawal season. 3P reserves (proved + probable + possible).. 72 .
LLC OR EBITDA (-) interest expense (-) maintenance capex Available cash flow (-) Cash flow to general partner Distributable cash flow Distribution. Dirty hedge. The current yield is calculated by taking the current declared quarterly distribution annualized and dividing it by current stock price. withdrawal rate. One dekatherm is the approximate energy content of 1. if the GP is receiving 10% of an MLP’s total distributions and the partnership’s units trade at a 7% yield. In general. Deliverability refers to the amount of natural gas that can be delivered (withdrawn) from a storage facility on a daily basis (this also known as the deliverability rate. or withdrawal capacity). However. The injection capacity of a storage facility is also variable.000 cubic feet of natural gas (or 1 Mcf). and is dependent on factors comparable to those that determine deliverability. Injection capacity (or rate).. a corporation protects its owners from being personally liable in the event that the company is sued (i. the injection rate is at its lowest when the reservoir is most full and increases as working gas is withdrawn. but have no liability to business creditors. Available And Distributable Cash Flow Calculation Net income (+) depreciation and amortization (-) maintenance capex Available cash flow (-) Cash flow to general partner Distributable cash flow Source: Wachovia Capital Markets. minus the risk-free rate.8% (current yield / [1 . DCF is the cash flow available to be paid to common unit holders after payments to the general partner. As a separate legal standing entity. Dekatherm. Cash or adjusted yield. Deliverability. It is defined as the risk-free rate (typically the 10-year treasury) plus (+) beta multiplied (×) by the expected market return (typically the historical return of a given market index). Figure 86.” MLPs typically distribute all available cash flow (i. For example. and provides an alternate definition of the required rate of return (or cost of equity) of a given asset. Corporation. In a typical partnership agreement.e.) is a distinct legal entity..MLP Primer -. cash flow from operations less maintenance capex) to unit holders in the form of distributions (similar to dividends). In contrast to the deliverability rate. The shareholders contribute capital. Compression. limited liability). A dirty hedge is the use of crude oil derivatives to hedge natural gas liquids (NGL) exposure. Methane found in coal seams. Capital asset pricing model (CAPM). We define cash yield as an MLP’s current yield adjusted for its GP share of cash flow. injection capacity is usually expressed in MMcf/day or dekatherms/day. LLC EQUITY RESEARCH DEPARTMENT British thermal unit (Btu): A unit of measurement for energy representing the amount of heat required to raise the temperature of one pound of water one degree Fahrenheit. management typically has some discretion in how much cash flow it chooses to pay out. the deliverability rate it is at its highest when the reservoir is most full and declines as working gas is withdrawn. or any other parties. 73 . tax authorities.Third Edition WACHOVIA CAPITAL MARKETS. the cash yield would be 7. A storage facility’s injection rate is the amount of gas that can be injected into a storage facility on a daily basis. the MLP is required to distribute all of its “available cash. Distributable cash flow (DCF). A dekatherm is a measurement of energy content.e. Coalbed methane (CBM). A storage process in which the same quantity of natural gas is injected into and withdrawn from storage within a certain period of time. separate from its shareholders and employees. Current yield. The CAPM maps the relationship between risk and expected return. Cycling.% of cash distributions paid to GP]). which may have a claim on corporate earnings and assets. A corporation (C Corp. As with deliverability. Deliverability is usually expressed in terms of millions of cubic feet per day (MMcf/day) or dekatherms per day. Natural gas is compressed to a higher pressure to facilitate delivery of gas from one point to another.
a $100 million investment at an 8x EBITDA multiple. Downstream. In this context. the greater the safety of the distribution. EBITDA is a useful tool when comparing companies that incur large amounts of depreciation expense because it excludes these non-cash items that could understate the company’s true performance. Expansion capital expenditures (CAPEX). EBITDA multiple.5 million on an annual basis (or a 12. Investors typically associate as the “cushion” a partnership has in paying its cash distribution.ferc. Excess cash flow is the cash flow that remains after distributions have been paid to common and subordinated unit holders and general partner. See definition for Organic capex. An MLPs’ EPU is synonymous with a C corp. up to: $1. natural gas. Figure 87. EPU is calculated by dividing net income allocated to the limited partners divided by the weighted average units outstanding at the end of the period.5% return). (Definition source – www. An EBITDA multiple is the expected return an acquisition or organic growth project is estimated to generate. taxes. The FERC is an independent agency that regulates the interstate transmission of electricity. A dropdown is the sale of an asset from the parent company (or sponsor company) to the underlying partnership. The producer retains ownership of both the dry gas and the NGLs. Distribution tiers indicate the percentage allocations (and the associated thresholds) of available cash flow between common unitholders and the general partner based on specified target distribution levels. and oil.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. the higher the ratio is. The ratio is calculated by dividing available cash flow by distributions paid.00 Distribution tiers Tier 2 Tier 3 Tier 4 (high splits) Thresholds Percent allocations Source: Wachovia Capital Markets.00 $2. The coverage ratio indicates the cash available for distribution for every dollar to be distributed. Figure 88. LLC EQUITY RESEARCH DEPARTMENT Distribution coverage ratio. Earnings per unit (EPU). Federal Energy Regulatory Commission (FERC).00 $4.gov) 74 . the processor receives a fee for processing. as well as licensing hydropower projects. LLC Distribution yield. Under the fee-based arrangement. Downstream relates to the refining and marketing sectors of the energy industry. The FERC also reviews proposals to build liquefied natural gas terminals and interstate natural gas pipelines. Distribution Coverage Ratio Calculation Distributions paid (to GP and LP) Source: Wachovia Capital Markets. EBITDA is a non-GAAP measure used to provide an approximation of a company’s profitability. The distribution yield is synonymous to a dividend yield. Fee-based. Hypothetical Distribution Tiers Percent of cash flow to: Distribution tiers Tier 1 LP 98% 85% 75% 50% GP 2% 15% 25% 50% LP distr. Dropdowns can also be defined as a transaction between two affiliated companies. Dropdown. For example. Earnings before interest. This measure excludes the potential distortion that accounting and financing rules may have on a company’s earnings. Excess cash flow.00 $3. LLC Distribution coverage ratio = Available cash flow (to GP and LP) Distribution tiers. depreciation and amortization (EBITDA). would be expected to generate approximately $12. therefore. It is also associated with the sale of products after they are refined or processed.’s earnings per share (EPS).
the volume and BTU content of the dry gas is reduced.e. General partner (GP). and natural gasoline). Fractionation is the process that involves the separation of the NGLs into discrete NGL purity products (i. April 1 to October 31) during which producers and pipelines inject natural gas into storage for use during the winter months. and (3) receives cash distributions. LNG is natural gas that has been condensed into liquid form (via either pressure or refrigeration).MLP Primer -. normal butane. Intrastate pipelines are regulated by state. 75 . including natural gas.e. I-shares do not generate UBTI. Fracturing is a process employed in the production of natural gas that typically involves the pumping of water (at very high pressures) to create an extensive crack in the rock formation. Incentive distribution rights. Limited liability company.. K-1 statement. or local jurisdictions. ethane. Keep-whole. IDRs allow the holder (typically the general partner) to receive an increasing percentage of quarterly distributions after the MQD and target distribution thresholds have been achieved. The process that changes natural gas from a gaseous state to a liquid state. The LP (1) provides capital. Investors in i-shares receive a 1099 statement (not K-1).” The processor must then replace the BTUs that it extracts from the natural gas stream (via the extraction of NGLs) with equivalent BTUs of natural gas. LLC EQUITY RESEARCH DEPARTMENT Forward yield. See definition for processing margin. I-Shares. In a keep-whole arrangement. (2) generally has a 2% ownership stake in the partnership. or “high splits” tier. coal. propane. LPGs are typically a mixed form of propane and butane. LPGs are created (as a by-product) during the refining of crude oil or from natural gas production. The K-1 form is the statement that an MLP investor receives each year from the partnership that shows his or her share of the partnership’s income. The GP (1) manages the day-to-day operations of the partnership. Fractionation. The LLC structure provides some additional benefits as compared to the LP structure.Third Edition WACHOVIA CAPITAL MARKETS. Liquefied natural gas. A K-1 is similar to Form 1099 received by shareholders of a corporation. Frac spread. provincial. and (3) is eligible to receive an incentive distribution (through the ownership of the MLPs’ incentive distribution rights). This is known as the 50/50. gain. Hydrocarbon. Fracturing. LLC unit holders have voting rights. except the payment of distributions is in stock instead of cash. Interstate pipelines. deductions. Liquefaction. Incentive distribution agreement. total distributions received over the next 12 months) divided by an MLP’s current unit price. Interstate pipelines are regulated by the FERC. Limited partner. At inception. and credits. (2) has no role in the MLPs’ operations or management.. This is referred to as “shrinkage. iso-butane. An interstate pipeline is a pipeline that transports product across state lines. MLPs establish agreements between the GP and LP that outline the percentage of total cash distributions that are to be allocated between the GP and LP unit holders. the processor retains title to the NGLs produced from the natural gas stream to sell at market prices.. IDRs can reach a tier wherein the GP is receiving 50% of every incremental dollar paid to the LP unit holders. Liquid petroleum gases. whereas unit holders of a standard MLP structure (LP) do not have this right. We define forward yield as an MLP’s next four quarterly distributions (i. Injection season. Intrastate pipelines. An intrastate pipeline is a pipeline that operates within one state. An organic compound made of carbon and hydrogen atoms used as sources of energy. I-shares are equivalent to MLP units in most aspects. The LLC structure affords the additional benefit of better corporate governance relative to the typical MLP structure. In most partnerships.e. loss. The crack in the rock exposes an increased surface area that allows a greater amount of natural gas to be produced. By extracting the NGLs. This refers to the period of time (i. A holder of a keepwhole contract would be long NGL prices and short natural gas prices. and crude oil.
Organic capex is investments used to expand a company’s operating capacity or operating income over the long term. upon initial public offering (assuming the company is able to generate sufficient cash flow from its operations after the payment of fees. and natural gasoline). but before it is distributed to the end use market for consumption. Holders of POP or POL contracts are effectively long on natural gas or NGL prices. Minimum quarterly distribution. Alternatively. Parking is the temporary storage of natural gas for a pipeline customer. The pricing differential is the difference between a pipeline’s contractual cost of natural gas supply and the market price. MLPs are also commonly referred to as “partnerships. This right survives the termination of a partner’s interest. Long. Midstream. treating. Creditors generally have the right to seek return of capital distributed to a limited partner if the liability for which payment is sought arose before the distribution. NGLs are extracted from the raw natural gas stream into a liquid mix (consisting of ethane. iso-butane. Pipeline quality gas. (Source: NAPTP) Percent of proceeds or liquids. this is unlikely to happen to a PTP investor. Oil or gas play. Partnership. transportation. although limited partners enjoy limits on their liability. Pipeline quality gas is typically 95% methane. but instead. Master limited partnership. Maintenance capital expenditure.0x (no excess cash flow). Parking. is an aggregate of all the partners. This is natural gas that has impurities removed.” Methane. 76 . it owns natural gas and benefit when the price increases. MPD represents the maximum distribution a partnership could. the processor receives a percentage of the NGLs only. A partnership is not considered to be a separate entity. however. Limited partners may also be liable for substantial tax liabilities that could be determined through the audit process long after they have sold their interest. expenses. The processor receives a percent of the resulting dry gas and/or NGLs. pay if it distributed all of its sustainable cash flow. The NGLs are then typically transported via pipelines to fractionation facilities. the processor gathers and processes the natural gas and then sells the residue gas and produced NGLs at market prices. and cash flow to the GP). in theory. butane. MLPs consist of a general partner and limited partners. All partners are liable for the obligations of the partnership. The partnership does not guarantee its ability to pay out the MQD during any quarter. propane. A play is a proven geological formation that contains petroleum and/or natural gas. Pipeline customers may park natural gas to avoid selling the gas at a low price.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. Natural gas liquids. it is the distribution that could be paid such that he distribution coverage ratio equals 1. Methane is also known as natural gas. MQD is the minimum distribution the partnership plans to pay to its common and subordinated unit holders. maintenance capex. Natural gas processing involves the separation of raw natural gas into “pipeline quality” gas and natural gas liquids. they are not fully shielded in the way shareholders are. As a practical matter. processing. Midstream relates to the gathering. Pricing differential. An LDC is a company that obtains the major portion of its revenues from the operations of a retail distribution system for the delivery of gas for consumption by residential customers. It is the most commonly found hydrocarbon gas. Organic growth capital expenditure. Looping. If a holder is “long” natural gas. Maintenance capex is the investment required to maintain the partnership’s existing asset. MLPs are limited partnership investment vehicles consisting of units (rather than shares) that are traded on public exchanges. LLC EQUITY RESEARCH DEPARTMENT Local distribution company. Maximum potential distribution. In a percentage of proceeds (POP) arrangement. Under percent of liquids (POL) contracts. Looping involves the installation of additional pipeline next to an existing pipeline to increase the system’s capacity. Processing. or storage of a product after it is produced from the wellhead.
A percentage of the cash distribution to the unitholder that is tax deferred until the security is sold. and heating oil). the units will convert to common units on a one-for-one basis. diesel. Under this type of agreement. Royalty payment. the subordination period could be terminated at an earlier date if the partnership achieves certain criteria. If a holder is “short” natural gas. had been previously completed) for production. Total gas in storage. PV-10 is the after tax present value of estimated future cash flow of proved reserves. Throughput. 2011. natural gas. The processing margin is the difference between the price of natural gas and a composite price for NGLs on a BTU-equivalent basis. jet fuel.. they benefit when the price of natural gas declines. A recompletion is the completion of an existing wellbore (i. Regasification. The subordination period typically last for three years from the date of the partnership’s initial public offering.) regardless of whether the buyer takes delivery of the product. etc. Processing margin. A royalty is a type of payment received based on either a percentage of sales revenue or a fixed price per unit sold. Residue gas. Producer Price Index (PPI) adjustment. Subordinated units. Subordination period. For example. The FERC has allowed interstate natural gas and oil pipelines to increase the (maximum) rates charged to shippers based on the use of an index system.e. Crude oil refineries process and refine oil into refined petroleum products. Refined petroleum products. the subordinated units will not be entitled to receive distributions until the common units have received the MQD plus any arrearages from prior quarters. However. These products are primarily used as fuels by consumers (gasoline. The tax deferral rate on distributions ranges from 40-90%. Shale. Proved developed producing reserves. Shale is a form of sedimentary rock that contains crude oil or natural gas. The total gas in storage refers to the volume of storage in the underground facility at a particular time.e. The current index is valid for a five-year period that began on July 1. The process that changes natural gas from a liquid state to a gaseous state. subordinated units are not entitled to distribution arrearages. PUDs are reserves that are recovered through new wells (on undrilled acreage) or from existing wells that require significant capital expenditure (to be recompleted). Reside gas is the natural gas that remains after processing and treating. Tax deferral rate. kerosene. In addition. The tax deferral rate is an approximation provided by the partnership and is only effective for a certain period of time. Proved undeveloped reserves. The amount of natural gas or NGLs transported through a pipeline system. The calculation is based on current commodity prices and is discounted at 10%. Subordinated units are subordinate in the capital structure to common units. 77 . PV-10 (standardized measure). Short. a partnership may lease out its coal reserves to operators for the right to mine the partnership’s coal reserves in exchange for royalty payments.MLP Primer -. PDPs are reserves that can be recovered via existing wells and through the use of existing equipment and operations. the buyer is obligated to pay for a product (i. Subordinated units increase the likelihood that (during the subordinated period) there will be sufficient available cash to be distributed to the common units. 2006. LLC EQUITY RESEARCH DEPARTMENT Production decline rate. Companies are allowed to increase their rates on an annual basis on July 1. crude oil. This is a measure of the decline in production from crude oil and natural gas reserves. Take-or-pay contract. Upon expiration of the subordinated period..Third Edition WACHOVIA CAPITAL MARKETS. The subordination period is the period of time that subordinated units will not be entitled to receive any distributions until the common units have received the MQD plus any arrearages from prior quarters.3%. The index system is based on the Producer Price Index for finished goods plus 1. Recompletion. and extends through July 1. For a period of time. NGLs.
401-K. Workover. Working gas.. Units. Well bore. Working gas is the volume of gas in the reservoir above the level of base gas. Working gas capacity. Unlike C Corps. A well bore is the hole created by a drill bit.000 per year of UBTI may be held liable for the tax on the UBTI. Wellhead. WACC represents the cost to the entity of financing and should be the hurdle rate for new investments.g.’s shares.e. it is the proportional weight of equity and debt in a partnership’s capital structure. Upstream relates to the production of oil and natural gas from the wellhead (also known as exploration and production). Withdrawal season. Treating. The wellhead is also the point at which natural gas or crude oil emerges from the ground to the surface. amine) to remove the impurities. As it relates to MLPs. A workover is the operations on a producing well to resume or increase production. Working gas capacity refers to total gas storage capacity minus base gas. Total gas storage capacity is the maximum volume of gas that can be stored in an underground storage facility based on the physical characteristics of the reservoir. MLP units are synonymous with C Corp. Unrelated taxable business income. MLPs do not realize a tax benefit on their debt (since they do not pay corporate taxes). A tax-exempt entity that receives more than $1. Upstream. 78 .e. pension accounts. MLP income received by a tax-exempt entity (e. The period of time (i. Weighted average cost of capital. The natural gas is treated at a separate facility before being processed. Natural gas gathered with impurities higher than what is allowed by pipeline quality standards is treated with liquid chemicals (i. LLC EQUITY RESEARCH DEPARTMENT Total gas storage capacity. Working gas is available to the marketplace. and operating procedures at the site.. The equipment at the surface of a crude oil or natural gas well used to control the pressure of the well.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. and endowment funds) is considered “income earned from business activities unrelated to the entity’s tax-exempt purpose” or UBTI. installed equipment. November 1 to March 1) in which natural gas supplies are withdrawn from storage for use during the heating season..
MMcf/d: One million cubic feet of natural gas per day. MMcf: One million cubic feet of natural gas. LLC EQUITY RESEARCH DEPARTMENT Energy Industry Abbreviations Bbls: Barrels Bcf/d: One billion cubic feet per day MBtu: One thousand Btus. MM: In millions. Tcf: One trillion cubic feet of gas. MMBbls: One million barrels. MBbls: One thousand barrels. Mcf: One thousand cubic feet of natural gas. MMBbls/d: One million barrels per day.Third Edition WACHOVIA CAPITAL MARKETS. 79 .MLP Primer -. MMBtu: One million Btus. MBbls/d: One thousand barrels per day. MMBtu/d: One million Btus per day.
8 MBtu of natural gas 1 Mcf of natural gas = 0.000 cf 1.9 Btu (actual) 1 barrel of oil = 6 Mcf of natural gas 1 barrel of oil = 5.000.000 cf 1 MMcf = 1.026.000.000.1724 barrels of oil 80 .000.000.000 Btu (nominal) = 1.000 cf 1 Bcf = 1.1667 barrels of oil 1 MBtu of natural gas = 0. LLC EQUITY RESEARCH DEPARTMENT Basic Energy Conversion Factors 1 barrel = 42 gallons 1 Mcf = 1.000.000 cf 1 Tcf = 1.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.
23 $0.40 $0.33 $0.53 $0.15 $0.38 Current Quarterly Distribution $0.75 $0.47 $0.56 $0.63 $0.25 $0.90 $0.66 $0.59 $0.50 $0.44 $0.53 $0.87 $0.40 $0.30 $0.70 $0.29 $0.45 $0.99 $0.46 $0.49 $0.70 $0.58 $0.38 $0.39 $0.59 $0.99 $0.51 $0.38 $0.33 $0.74 $0.53 $0.42 $0.50 $0.41 $0.53 $0.33 $0.29 $0.38 $0.30 $0.44 $0.33 $0. MLP IDR Tiers MLP IDR Tiers Ticker ATLAS PIPELINE PARTNER LP BUCKEYE PARTNERS LP BOARDWALK PIPELINE PARTNERS CALUMET SPECIALTY PRODUCTS COPANO ENERGY LLC CHENIERE ENERGY PARTNERS LP DUNCAN ENERGY PARTNERS LP ENBRIDGE ENERGY PRTNRS -LP ENBRIDGE ENERGY MGMT LLC ENTERPRISE PRODS PRTNER -LP EAGLE ROCK ENERGY PARTNRS LP ENERGY TRANSFER PARTNERS -LP GENESIS ENERGY -LP HOLLY ENERGY PARTNERS LP HILAND PARTNERS LP QUICKSILVER GAS SERVICES LP KINDER MORGAN ENERGY -LP KINDER MORGAN MANAGEMENT LLC MARTIN MIDSTREAM PARTNERS LP MAGELLAN MIDSTREAM PRTNRS LP MARKWEST ENERGY PARTNERS LP NUSTAR ENERGY LP ONEOK PARTNERS -LP PLAINS ALL AMER PIPELNE -LP RIO VISTA ENERGY PARTNERS LP SUNOCO LOGISTICS PRTNRS L P TC PIPELINES LP TRANSMONTAIGNE PARTNERS LP TEPPCO PARTNERS -LP CROSSTEX ENERGY LP Midstream MLP Median DCP MIDSTREAM PARTNERS LP EL PASO PIPELINE PARTNERS LP EXTERRAN PARTNERS LP TARGA RESOURCES PARTNERS LP REGENCY ENERGY PARTNERS LP SPECTRA ENERGY PARTNERS LP SEMGROUP ENERGY PARTNERS LP WESTERN GAS PARTNERS LP WILLIAMS PIPELINE PARTNERS WILLIAMS PARTNERS LP Drop Down MLP Median ATLAS ENERGY RESOURCES LLC BREITBURN ENERGY PARTNERS LP CONSTELLATION ENERGY PRTNRS ENCORE ENERGY PARTNERS LP EV ENERGY PARTNERS LP LEGACY RESERVES LP LINN ENERGY LLC QUEST ENERGY PARTNERS LP PIONEER SOUTHWEST ENRG PRTNR VANGUARD NATURAL RESOURCES Upstream MLP Median AMERIGAS PARTNERS -LP FERRELLGAS PARTNERS -LP GLOBAL PARTNERS LP INERGY LP SUBURBAN PROPANE PRTNRS -LP Propane MLP Median CAPITAL PRODUCT PARTNERS LP K-SEA TRANSPORTATION -LP NAVIOS MARITIME PARTNRS-REDH OSG AMERICA LP TEEKAY LNG PARTNERS LP TEEKAY OFFSHORE PARTNERS LP US SHIPPING PARTNERS LP Shipping MLP Median ALLIANCE RESOURCE PTNRS -LP NATURAL RESOURCE PARTNERS LP PENN VIRGINIA RES PRTNR LP Coal MLP Median APL BPL BWP CLMT CPNO CQP DEP EEP EEQ EPD EROC ETP GEL HEP HLND KGS KMP KMR MMLP MMP MWE NS OKS PAA RVEP SXL TCLP TLP TPP XTEX DPM EPB EXLP NGLS RGNC SEP SGLP WES WMZ WPZ ATN BBEP CEP ENP EVEP LGCY LINE QELP PSE VNR APU FGP GLP NRGY SPH CPLP KSP NMM OSP TGP TOO USS ARLP NRP PVR Quarterly Distribution Thresholds 15% Tier $0.64 $0.35 $0.76 $0.68 $0.49 $0.MLP Primer -.41 $0.28 $0.59 $0.59 $0.47 $0.45 $0.38 $0.63 $0.40 $0.83 $0.28 $0.87 $0.40 $0.40 $0.47 $0.56 $0.40 $0.25 $0.28 25% Tier $0.38 $0.25 $0.55 $0.46 $0.45 $0.94 $0.70 $0.40 $0.85 $0.53 $0.61 $0.42 $0.40 $0.64 $0.45 Current IDR Split 50% 50% 25% 2% 0% 2% 2% 25% 25% 25% 2% 50% 25% 25% 50% 2% 50% 50% 25% 50% 50% 25% 50% 50% 2% 50% 50% 25% 50% 50% 25% 50% 2% 15% 15% 15% 2% 25% 2% 2% 50% 15% 15% 0% 15% 2% 25% 0% 0% 0% 0% 0% 0% 15% 2% 15% 50% 15% 15% 2% 50% 2% 2% 15% 2% 2% 2% 50% 50% 50% 50% Source: Partnership reports Coal Shipping MLPs Propane MLP Upstream MLPs Drop Down MLPs Midstream MLPs 81 .72 $0.38 $0.46 $0.50 $0.67 $0.43 $0.62 $0.45 $0.61 $0.55 $0.48 $0.35 $0.53 $0.31 $0.68 $0.41 $0.28 $0.68 $0.28 $0.45 $0.95 $0.94 $0.39 $0.29 $0.44 $0.44 $0.50 $0.46 $0.38 $0.55 $0.53 $0.58 $0.63 $0.18 $0.50 $0.40 $0.36 $0.33 $0.18 $0.50 $0.53 $0.46 $0.43 $0.28 $0.44 $0.49 $0.50 $0.36 $0.35 $0.50 $0.47 $0.53 $0.38 $0.60 $0.32 $0.50 $0.35 $0.45 $0.63 $0.60 $0.45 $0.49 $0.52 $0.43 $0.96 $0.04 $0.90 $0.82 $0.54 $0.42 $0.66 $0.65 $0.72 $0.55 $0.78 $0.45 $0.44 $0.33 50% Tier $0.59 $0.60 $0.31 $0.55 $0.38 $0.35 $0.42 $0.59 $0.99 $1.28 $0.75 $0.45 $0.54 $0.53 $0.36 $0.69 $0.43 $0.31 $0.50 $0.56 $0.50 $0.62 $0.95 $0.43 $0.33 $0.56 $0.70 $0.44 $0.96 $0.62 $0.15 $0.63 $0.33 $0.44 $0.70 $0.43 $0.75 $0. LLC EQUITY RESEARCH DEPARTMENT Figure 89.40 $0.45 $0.40 $0.45 $0.71 $0.42 $0.31 $0.33 $0.50 $0.51 $0.25 $0.36 $0.56 $0.32 $0.57 $0.53 $0.53 $0.43 $0.23 $0.Third Edition WACHOVIA CAPITAL MARKETS.60 $0.60 $0.70 $0.54 $0.33 $0.29 $0.39 $0.
S.Texas To Mississippi Expansion Southeast Expansion Denali . LLC EQUITY RESEARCH DEPARTMENT Figure 90.The Alaska Gas Pipeline Project Tontitown Project Southeast Supply Header Project High Plains Expansion Project Raton 2010 Expansion Project EasternShore EnergyLink Project Ruby Pipeline Project Southern Access Alberta Clipper E. LP Southern Natural Gas Company Spectra Energy Corporation Spectra Energy Corporation Spectra Energy Corporation Spectra Energy Corporation TransCanada Pipeline USA TransCanada Pipeline USA TransCanada Pipeline USA Transcontinental Gas Pipe Line Corporation Transcontinental Gas Pipe Line Corporation Projects Involving MLPs: 15 Source: FERC and Partnership reports Project Name Gulf Crossing Pipeline Fayetteville & Greenville Laterals E.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. & ExxonMobil CenterPoint Energy CenterPoint Energy & Spectra Energy El Paso El Paso Eastern Shore Natural Gas Company El Paso/ Bear Energy Enbridge Energy Partners Enbridge Energy Partners Enbridge Energy Partners Energy Transfer Partners Enterprise Products Partners & Questar Florida Gas Transmission Kinder Morgan Energy Partners Kinder Morgan Energy Partners Kinder Morgan & Energy Transfer Partners Kinder Morgan Energy Partners Oneok Partners Oneok Partners. Major U. Pipeline Projects Sponsor Boardwalk Pipeline Partners Boardwalk Pipeline Partners Boardwalk Pipeline Partners Boardwalk Pipeline Partners BP. LP & TC Pipelines. ConocoPhillips.Texas Extension (Clarity) Phoenix Expansion White River Hub Project Phase VIII Expansion Project Rockies Express Louisiana Pipeline Mid-Continent Express Colorado Lateral Expansion Project Overland Pass w/ Expansion Bison Pipeline Project South System Expansion III Project Phase V Project East to West Hubline Expansion M&NE Phase IV (Canaport) Expansion Ramapo Pathfinder Pipeline Project Yuma Lateral Project Palomar Pipeline 85 North Expansion Project Sentinel Expansion Project MLP 82 .
LLC EQUITY RESEARCH DEPARTMENT Figure 91.Third Edition WACHOVIA CAPITAL MARKETS. States With MLP Pipeline And Storage Assets BWP Alabama Alaska Arizona Arkansas California Colorado Connecticut Delaware Florida Georgia Hawaii Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia Washington West Virginia Wisconsin Wyoming X BPL DEP EEP X X X X X X X X X X X EPB X EPD X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X ETP GEL X X Pipelines And Storage MLPs HEP KMP OKS MMP NS X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X PAA X SEP SGLP SXL X TCLP TLP TPP X WMZ X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Source: National Association of Publicly Traded Partnerships 83 .MLP Primer -.
States With MLP Gathering And Processing Assets APL Alabama Alaska Arizona Arkansas California Colorado Connecticut Delaware Florida Georgia Hawaii Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia Washington West Virginia Wisconsin Wyoming CPNO DPM EROC HLND Gathering And Processing MLPs KGS MMLP MWE X X X X NGLS RGNC WES WPZ XTEX X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Source: National Association of Publicly Traded Partnerships 84 .Master Limited Partnerships WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT Figure 92.
LLC EQUITY RESEARCH DEPARTMENT Figure 93.MLP Primer -. States With MLP Coal And Upstream Assets ARLP Alabama Alaska Arizona Arkansas California Colorado Connecticut Delaware Florida Georgia Hawaii Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia Washington West Virginia Wisconsin Wyoming Coal MLPs NRP X PVR ATN BBEP CEP X ENP Upstream MLPs EVEP LGCY LINE PSE QELP VNR X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Source: National Association of Publicly Traded Partnerships 85 .Third Edition WACHOVIA CAPITAL MARKETS.
Master Limited Partnerships WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT Figure 94. States With MLP Propane And Shipping Assets APU Alabama Alaska Arizona Arkansas California Colorado Connecticut Delaware Florida Georgia Hawaii Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia Washington West Virginia Wisconsin Wyoming X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Propane And Heating Oil MLPs FGP GLP NRGY SGU X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X SPH CPLP KSP Shipping MLPs NMM OSP TGP TOO USS X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Source: National Association of Publicly Traded Partnerships 86 .
P.P.P.P.P. L.P. L. Enterprise Product Partners.P.P. ONEOK Partners. Genesis Energy. GE Energy Financial Services Global Companies LLC and Global Montello Group Corp.P.P. Inc.MLP Primer -. L.P. Enervest and EnCap Enterprise GP Holdings. Inergy. Exterran Energy Partners. Ferrelgas Partners. Quest Energy Partners.P. L.P. L.P.P.P. TEPPCO Partners. Teekay Shipping Corporation Teekay Shipping Corporation The Heritage Group (and others) TransCanada Transmontaigne. L. L.P. Natural Resource Partners. Inc. L. Atlas GP Holdings. L. Targa Resources. Targa Resources Partners. Ferrellgas. Kinder Morgan Energy Partners.P. L. Inc. El Paso Pipeline Partners. L.P. Overseas Shipholding Group Inc. Ticker ARLP WES ATN APL BPL CPLP CQP CEP NRP XTEX DPM GEL DMLP EPB EEP ENP ETP EVEP EPD DEP TPP EXLP FGP RGNC GLP HLND HEP NRGY KMP KSP BWP MMP MMLP EROC NMM NS OKS OSP RVEP PVR SGU PSE PAA QELP KGS SGLP SEP SXL NGLS TGP TOO CLMT TCLP TLP APU USS WPZ WMZ Source: Company reports 87 .P.S. Williams Partners. Loews Corporation Magellan Midstream Holdings. Sunoco Logistics Partners. Kestrel Heat.P. (Morgan Stanley Capital Group Inc. L. L.P. L. L. K-Sea General Partner. L. Enterprise GP Holdings. L. L. L. Pioneer Southwest Energy Partners. Enbridge Energy Partners. Inc. Calumet Specialty Products Partners. Martin Resource Management Corp. DCP Midstream.P. L. Constellation Energy Partners. L.P.P. LLC Pioneer Natural Resources Plains GP Holdings. Natural Gas Partners Navios Maritime Holdings Inc. Holly Energy Partners. Martin Midstream Partners. L. Williams Pipeline Partners.P. Regency Energy Partners. Teekay Offshore Partners. Enterprise Products Partners.P. L. Teekay LNG Partners. Crosstex Energy. L. L.P. NuStar GP Holdings. L. Inc. L.P. Quicksilver Gas Service.P. L. L. L. Rio Vista Energy Partners.P. Capital Products Partners. L.P.P.P. L. Plains All American Pipeline.P. L.P. United States Shipping Master.P. Buckeye GP Holdings. L.P. L. L. Navios Maritime Partners L.P.P. Constellation Energy Group Corbin J. L. LLC Williams Companies Williams Companies Note: High-lighted cells indicate publicly traded GP MLP Ticker AHGP APC ATLS AHD BGH Private LNG CEG Private XTXI Private DNR Private EP ENB EAC ETE Private EPE EPD EPE EXH Private GE Private HPGP HOC NRGP Private Private LTR MGG Private Private NM NSH OKE OSG POCC PVG Private PXD Private QRCP KWK Private SE SUN Private TK TK Private TSX Private UGI Private WMB WMB Master Limited Partnership Alliance Resource Partners. LLC ONEOK. L. L. Inc. L. L. LLC EQUITY RESEARCH DEPARTMENT Figure 95. LLC Atlas Pipeline Partners.P. SemGroup Energy Partners. L.P. Eagle Rock Energy Partners. Boardwalk Pipeline Partners.P. Holly Corporation Inergy Holdings. L. Penn Virginia Resource Partners.P. Energy Transfer Partners. U. L. Inc. NuStar Energy L.P.P. L. El Paso Corporation Enbridge. Jr. L. Inc. Hiland Holdings GP.P. Encore Energy Partners.P.Third Edition WACHOVIA CAPITAL MARKETS.P. Amerigas Partners. L.P. Penn Virginia GP Holdings. Cheniere Energy Partners. Inc. L. L. L. L. Anadarko Petroleum Corp. L.P. Shipping Partners.P. Robertson. Inc. L. L. Atlas Energy Resources. GPs And Their Underlying MLPs Publicly Traded GP Interest (except where noted) Alliance Holdings GP.P.P.P. L. L.P. TC Pipelines.P. SemGroup. Dorchester Minerals.P. L. LLC Capital Maritime & Trading Corp. K-Sea Transportation Partners. L. L. Atlas America.P. Exterran Holdings Inc. Quicksilver Resources. Transmontaigne Partners.P. Cheniere Energy Inc.P. Western Gas Partners.P.P. Spectra Energy Partners. L. Hiland Partners.P. Inc. Encore Acquisition Company Energy Transfer Equity. L. Kinder Morgan. L. OSG America. Spectra Energy Sunoco.P.P.P. Penn Octane Corp.) UGI Corp. Global Partners. L. Crosstex Energy.P. L. L.P.P. DCP Midstream Partners.P. L. L. Quest Resource Corp. StarGas Partners. Magellan Midstream Partners. Buckeye Partners. LLC (which is a 50/50 joint venture between Spectra Energy / ConocoPhillips) Denbury Resources. L. Dorchester Minerals Management L. EV Energy Partners. Duncan Energy Partners.
60 $48.3% 10.53 $44.440 $718 $1.554 $456 $2.48 $24.9% 5.00 $38.8% 6.21 $55.171 28.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.9% 6. Vol.915 $748 $640 $294 $481 $2.410 $676 $843 $1.41 $2.82 $28.151 $966 $1.1% 9.258 15.187 $145.133 4.187 71.13 $27.70 $27.4% NM 10.552 37.93 $9.30 $17.2% 6.206 92.53 $33.92 $12.9% 5.193 93.898 $1. except per unit data) ATLAS PIPELINE PARTNER LP BUCKEYE PARTNERS LP BOARDWALK PIPELINE PARTNERS CALUMET SPECIALTY PRODUCTS COPANO ENERGY LLC CHENIERE ENERGY PARTNERS LP DUNCAN ENERGY PARTNERS LP ENBRIDGE ENERGY PRTNRS -LP ENBRIDGE ENERGY MGMT LLC ENTERPRISE PRODS PRTNER -LP EAGLE ROCK ENERGY PARTNRS LP ENERGY TRANSFER PARTNERS -LP GENESIS ENERGY -LP HOLLY ENERGY PARTNERS LP HILAND PARTNERS LP QUICKSILVER GAS SERVICES LP KINDER MORGAN ENERGY -LP KINDER MORGAN MANAGEMENT LLC MARTIN MIDSTREAM PARTNERS LP MAGELLAN MIDSTREAM PRTNRS LP MARKWEST ENERGY PARTNERS LP NUSTAR ENERGY LP ONEOK PARTNERS -LP PLAINS ALL AMER PIPELNE -LP RIO VISTA ENERGY PARTNERS LP SUNOCO LOGISTICS PRTNRS L P TC PIPELINES LP TRANSMONTAIGNE PARTNERS LP TEPPCO PARTNERS -LP CROSSTEX ENERGY LP Midstream MLP Median DCP MIDSTREAM PARTNERS LP EL PASO PIPELINE PARTNERS LP EXTERRAN PARTNERS LP TARGA RESOURCES PARTNERS LP REGENCY ENERGY PARTNERS LP SPECTRA ENERGY PARTNERS LP SEMGROUP ENERGY PARTNERS LP WESTERN GAS PARTNERS LP WILLIAMS PIPELINE PARTNERS WILLIAMS PARTNERS LP Drop Down MLP Median ATLAS ENERGY RESOURCES LLC BREITBURN ENERGY PARTNERS LP CONSTELLATION ENERGY PRTNRS ENCORE ENERGY PARTNERS LP EV ENERGY PARTNERS LP LEGACY RESERVES LP LINN ENERGY LLC PIONEER SOUTHWEST ENRG PRTNR QUEST ENERGY PARTNERS LP VANGUARD NATURAL RESOURCES Upstream MLP Median AMERIGAS PARTNERS -LP FERRELLGAS PARTNERS -LP GLOBAL PARTNERS LP INERGY LP STAR GAS PARTNERS -LP SUBURBAN PROPANE PRTNRS -LP Propane MLP Median CAPITAL PRODUCT PARTNERS LP K-SEA TRANSPORTATION -LP NAVIOS MARITIME PARTNRS LP OSG AMERICA LP TEEKAY LNG PARTNERS LP TEEKAY OFFSHORE PARTNERS LP US SHIPPING PARTNERS LP Shipping MLP Median ALLIANCE RESOURCE PTNRS -LP NATURAL RESOURCE PARTNERS LP PENN VIRGINIA RES PRTNR LP Coal MLP Median ATLAS PIPELINE HOLDINGS LP ALLIANCE HOLDINGS GP LP BUCKEYE GP HOLDINGS LP ENTERPRISE GP HOLDINGS LP ENERGY TRANSFER EQUITY LP HILAND HOLDINGS GP LP MAGELLAN MIDSTREAM HLDGS LP INERGY HOLDINGS LP NUSTAR GP HOLDINGS LLC PENN VIRGINIA GP HOLDINGS CROSSTEX ENERGY INC General Partnership MLP Median All MLPs Average All MLPs Median All MLPs Sum Source: Partnership reports and FactSet Ticker APL BPL BWP CLMT CPNO CQP DEP EEP EEQ EPD EROC ETP GEL HEP HLND KGS KMP KMR MMLP MMP MWE NS OKS PAA RVEP SXL TCLP TLP TPP XTEX DPM EPB EXLP NGLS RGNC SEP SGLP WES WMZ WPZ ATN BBEP CEP ENP EVEP LGCY LINE PSE QELP VNR APU FGP GLP NRGY SGU SPH CPLP KSP NMM OSP TGP TOO USS ARLP NRP PVR AHD AHGP BGH EPE ETE HPGP MGG NRGP NSH PVG XTXI Price 7/14/2008 $38. Tax Deferred 80% 75% 80% 80% 80% 80% 80% 90% NA 90% 80% 80% 90% 80% 80% 80% 95% NA 80% 51% 90% 80% 90% 80% NA 80% 80% 80% 90% 80% 80% 70% 80% 80% 80% 80% 80% 80% 70% 80% 80% 80% 60% 50% 70% 80% 40% 90% 100% 15% 80% 70% 70% 70-80% 90% 70% 80% 80% 80% 80% 60% 80% 44% 80% 80% 30% 90% 80% 70% 70% 80% 70% 75% 50% 90% 90% 60% 90% 90% 50% 80% 70% 0% 75% 75% 80% Date: 7/14/2008 88 General Partnerships Coal Shipping MLPs Propane MLPs Upstream MLPs Drop Down MLPs Midstream MLPs .50 $23.308 127.67 $48.56 $21.61 $21.048 $753 $2.410 $676 $846 $1.39 $49.24 $61.046 10.6% 7.00 $31.60 $55.809 $558 $1.60 $28.5% 5.88 $31.00 $62.78 $19.0% 4.516 $1.994 7.187 $1.32 $42.13 $56.569 $3.14 $12.59 $41.03 $32.604 $1.328 $2.513 $1.929 43.24 $11.212 $1.33 $28.80 $52.55 $13.953 $382 $1.53 $21.439 151.48 $20.295 $19.9% 7.475 $1.05 $30.14 $8.00 $35.996 206.00 $32.07 $17.229 $687 $1.099 197.70 $47.22 $18.9% 8.822 119.2% 6.189 39.541 29.0% 8.16 $27. 285.1% 7.57 $18.552 $725 $818 $556 $1.8% 6.3% 4.672 $5.3% 8.93 $43.200 $1.00 $31.9% 7.726 $1.2% 8.4% 13.8% 9.75 $38.005 55.08 $30.64 $63.706 42.920 $711 $3.264 71.31 $13.529 183.40 $39.48 $10.92 $71.696 35.365 184.614 $2.1% 9.00 $25.575 $1.14 $26.47 $65.061 353.273 $9.5% 11.663 15.8% 5.24 $23.378 226.7% 6.28 $19.1% 9.905 37.147 $55 $1.45 $37.274 $7.50 $39.628 $20.50 $69.29 $7.40 $38.686 $1.1% 12.60 $20.86 $11.00 $38.360 $584 $2.84 $22.11 $21.00 $34.61 $41.808 358.3% 4.1% 10.253 $4.279 55.4% 4.53 Current Yield 9.881 $670 $544 $460 $550 $14.00 $24.3% 8.32 $30.12 $33.022 $818 $799 $2.262 $13.4% 6.90 $41.0% 5.26 $16.5% 8.08 $40.212 $1.51 $12.50 $33.462 138.20 $13.114 113.50 $32.764 $457 $5.25 $15.11 $19.02 $25.7% 6.89 $23.50 $17.65 $41.8% 8.696 $608 $483 $283 $732 $2.465 69.230 462.1% 6.8% 8.2% 5.799 67.85 $20.12 $24.81 $19.5% 9.151 $2.61 $18.01 $23.780 27.988 $1.5% 6.5% 10.51 $18.95 $18.53 $18.50 $57.324 $411 $639 $399 $731 $2.10 $30.75 $19.98 $20.35 $34.9% 0.013 182.68 $24.762 $1.86 $33.131 $5.41 $16.262 $2.232 113.50 $51.188 338.35 $28.95 $45.1% 9.210 $194 $1.62 $24.332 66.5% 7.45 $15.226 156.30 $13.455 $547 $795 $669 $867 $4. MLP Market Data MLP Market Data ($MM.1% 7.17 $22.36 $42.82 $30.43 $23.272 $1.897 34.497 90.55 $26.25 $26.0% 11.87 $24.704 126.781 $1.15 $1.99 $31.96 $41.033 $4.624 73.3% 4.194 132.74 $28.015 203.79 $52.4% 20.17 $36.88 $22.70 $51.66 $29.89 $46. LLC EQUITY RESEARCH DEPARTMENT Figure 96.911 $941 $1.07 $28.041 104.1% 10.237 $164 $1.11 $20.00 $16.9% 8.22 $31.392 148.00 $45.22 $14.140 $7.407 231.954 $462 $640 $2.382 55.97 $16.452 111.98 $37.911 $2.00 $50.15 $23.209 $541 $7.53 $27.86 $23.82 $54.89 $60.57 $35.99 $29.99 $25.223 98.736 $1.40 $36.203 300.74 $40.1% 8.674 $10.7% 8.01 $39.41 $47.837 16.7% 6.04 $37.99 $49.918 $1.237 $558 $1.00 $19.75 $18.950 10.803 67.660 $2.1% 8.689 Enterprise Value $2.38 $26.443 $1.57 $30.696 138.17 $15.08 $21.853 $2.65 $22.89 $19.25 $16.660 $223.8% 15.51 $33.99 $42.64 $1.10 $26.39 $58.392 25.9% 10.087 200.6% 6.0% 7.45 $24.17 $4.437 $28 $1.781 243.934 87.00 $53.12 $35.90 $44.65 $17.47 $54.5% 9.3% 5.822 82.2% 5.10 $37.570 133.410 114.6% 6.52 $45.516 $1.5% 7.201 $322 $2.00 $43.73 $44.86 $2.90 $40.117 $5.8% 5.04 $29.07 $31.29 $38.75 $23.00 $17.33 $25.0% 9.517 $3.9% 9.2% 6.13 $15.45 $17.8% 7.111 878.65 $40.0% 7.4% 5.50 $55.39 Market Cap $1.03 $34.373 $2.33 $24.521 $752 $900 $695 $633 $21.558 238.71 $19.094 $352 $1.60 $19.49 $20.803 $3.212 $1.32 $46.73 $39.4% 8.4% 9.079 103.113 410.38 $35.725 $2.994 28.40 $25.570 Est.632 $608 $359 $181 $624 $1.025 457.199 $396 $306 $140 $404 $928 $375 $25 $375 $1.20 $14.50 $58.50 $15.43 $26.01 $31.388 $4.021 $1.2% 7.81 $11.350 157.358 33.000 114.892 $1.604 $919 $2.7% 6.31 $43.37 $52.544 $12.718 179.683 $567 $4.88 $32.95 $41.246 27.706 121.178 $1.38 $40.89 $57.726 $470 $1.018 $1.7% 7.00 $28.654 257.375 $1.224 $2.54 $37.16 $45.8% 8.290 157.00 $21.9% 8.115 3-Month Avg.541 198.1% 8.00 $17.212 $2.02 $20.10 $46.169 197.217 576.57 $29.683 $567 $3.55 $25.990 $930 $1.367 $353 $4.19 $31.50 $48.50 $46.39 $28.7% 11.66 $16.79 $21.680 $7.384 $1.90 $19.84 $31.306 $1.958 78.592 $6.844 $2.6% 7.237 $2.68 $17.08 $36.11 $32.394 82.47 $26.15 $26.2% 9.9% 52-Week Low High $37.914 66.216 244.
4 $137.856 $41 $0 $708 $0 $0 $36 $683 $1.8 $29.6 $33.2 $16.2 $32.0 $23.5 $6.6 $42.2 $77.0 $14.5 $5.1 $4.2 $21.111 $79 $32 $100 $0 $210 $16 $94 $189 $299 $53 $75 $177 $305 NA NA NA NA NA NA NA NA NA NA NA NA $269 $41 $13.2 $28.203 $1.0 $7.8 $66.3 $5.9 $1.608 $615 $0 $0 $705 $55 $0 $0 $0 NA $828 $2.0 $207.000 $4.0 $4.5 $27.1 $10.000 $0 $0 $0 $0 $0 $0 $94 $208 $302 $0 $150 $50 $200 NA NA NA NA NA NA NA NA NA NA NA NA $111 $0 $5.3 $20.2 $18.966 $50 $998 $10 $10 $88 $18 $3.0 $23.0 $20.1 $5.4 $199 ATN BBEP CEP EVEP LGCY PSE QELP VNR $54.4 $275 $58.4 $8.1 $72.0 $28.7 $22.2 $16.4 $134.0 $5.7 $66.8 $37.1 $18.2 $101.6 $77.2 $46.100 $24 $48 $35 $82 $2.8 $360 $29.7 $63.1 $21.1 $61.3 $13.3 $23.4 $60.5 $23.505 2010E $255 $50 $135 $70 $0 $500 $500 $25 $284 $25 $20 $56 $0 $738 $10 $150 $100 $150 $150 $410 $75 $5 $113 $50 $3.1 $30.2 $25.540 $0 $200 $150 $200 $150 $200 $0 $73 $973 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $150 $50 $200 NA NA NA NA NA NA NA NA NA NA NA NA $123 $0 $6.5 $91.3 $20.365 $109 $300 $450 $175 $854 $420 $105 $50 $475 $300 $14.1 $12.9 $42.0 $11.7 $15.2 $19.0 $3.0 $35.9 $34.4 $54.6 $21.2 $60.3 $8.2 $37.3 $1.2 $6.000 $5.0 $60.8 $2.2 $62.9 $14.3 $24.9 $13.027 $140 $7 $1.4 $35.0 $35.0 $321 $28.104 $63 $151 $309 $192 $647 $548 $81 $25 $176 $392 $12.5 NA NA NA NA NA NA NA NA NA NA NA NA $44.4 $27.400 $1.0 $1.607 $30 $2. except per unit data) ATLAS PIPELINE PARTNER LP BUCKEYE PARTNERS LP BOARDWALK PIPELINE PARTNERS COPANO ENERGY LLC DUNCAN ENERGY PARTNERS LP ENBRIDGE ENERGY PRTNRS -LP ENTERPRISE PRODS PRTNER -LP EAGLE ROCK ENERGY PARTNRS LP ENERGY TRANSFER PARTNERS -LP Ticker APL BPL BWP CPNO DEP EEP EPD EROC ETP GEL HEP HLND KGS KMP MMLP MMP MWE NS OKS PAA SXL TLP TPP XTEX 2008E $16.MLP Primer -.5 $29.2 $15.5 $64.5 $2.6 $14.3 $27.8 $268 APU FGP NRGY SPH $27.2 $3.3 $20.0 $13.5 $2.4 $21.0 $1.159 $72 $112 $1.0 $67.7 $14.0 $28.4 $11.2 ARLP NRP PVR $76.9 NA NA NA NA NA NA NA NA NA NA NA NA $40.5 $28.5 $20.083 2009E $0 $200 $0 $0 $100 $0 $0 $150 $0 $125 $0 $0 $0 $0 $0 $0 $128 $0 $0 $0 $0 $0 $0 $0 $703 $150 $500 $575 $700 $170 $300 $350 $200 $595 $1.498 $571 $0 $0 $0 $713 $41 $0 ($0) $0 $300 $127 $13 $7 $13 $0 $6.1 $111.7 $8.9 $74.120 DPM EPB EXLP NGLS RGNC SEP SGLP WES WMZ WPZ $6.1 $65.893 2009E $17.0 $12.0 $128.6 $241.1 $69.7 $83.6 $6. MLP Capex Forecast Maintenance Capex Spending ($MM.5 $65.2 $141.189 $11.4 $8.0 $71.3 $32.2 $208.253 $13.0 $110.5 $62.9 $30.2 $55.0 $196.489 2008E $217 $100 $3.6 $43.4 $18. LLC estimates Date: 07/14/08 89 .450 $500 $30 $645 $24 $40 $56 $40 $808 $20 $150 $225 $150 $150 $320 $105 $60 $192 $83 $6.4 AHD AHGP BGH EPE ETE HPGP MGG NRGP NSH PVG XTXI NA NA NA NA NA NA NA NA NA NA NA NA $36.279 $1.152 $300 $500 $246 $700 $1.940 2007A $1.Third Edition WACHOVIA CAPITAL MARKETS.4 $10.5 $220.9 $24.2 $13.5 $71.9 $67.5 $93.2 $11.870 $0 $105 $62 $25 $183 $90 $0 $25 $43 $15 $548 $78 $44 $10 $0 $0 $0 $57 $0 $188 $30 $9 $39 $5 $83 $4 $0 $0 $4 $234 $0 $12 $246 NA NA NA NA NA NA NA NA NA NA NA NA $95 $41 $4.7 $34.1 $12.671 $483 $485 $194 $0 $0 $0 $4.2 $79.900 $0 $200 $150 $200 $150 $250 $0 $50 $1.5 $70.1 $54.000 $0 $113 $42 $50 $179 $90 $0 $22 $44 $15 $555 $123 $44 $13 $0 $0 $0 $56 $0 $235 $40 $8 $85 $8 $141 $4 $315 $0 $319 $243 $0 $12 $255 NA NA NA NA NA NA NA NA NA NA NA NA $144 $50 $7.5 $11.479 $407 $514 $0 $580 $1.2 $82.9 $209.8 $3.8 $114.9 $7.5 KSP TGP TOO $22.5 $23.4 $61.920 $1.2 $70.6 $24.313 % EBITDA 5% 11% 13% 6% 16% 9% 11% 8% 8% 4% 4% 7% 4% 8% 16% 9% 3% 13% 12% 7% 12% 11% 10% 7% 8% 4% 3% 13% 13% 7% 5% 6% 23% 37% 16% 10% 17% 22% 32% 32% 18% 24% 28% 39% 26% 9% 9% 3% 7% 8% 24% 12% 29% 24% 29% 9% 7% 9% NA NA NA NA NA NA NA NA NA NA NA NA 13% 10% Organic Growth Spending 2007A $144 $34 $1.6 $24.111 2010E $18.0 $16.6 $24.2 $348 $60.2 $15.418 $30 $78 $25 $50 $208 $124 $4 $19 $18 $43 $598 $171 $66 $16 $0 $0 $0 $58 $0 $310 $38 $19 $157 $11 $225 $10 $438 $27 $475 $135 $0 $37 $172 NA NA NA NA NA NA NA NA NA NA NA NA $312 $62 $16. LLC EQUITY RESEARCH DEPARTMENT Figure 97.4 $39.4 $41.415 2010E $0 $200 $0 $0 $0 $0 $0 $150 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $350 $150 $500 $575 $0 $350 $300 $350 $350 $575 $750 $3.4 $18.1 $72.198 2009E $270 $50 $562 $70 $0 $1.2 $6.7 $77.8 $17.752 Midstream MLPs Drop Down MLPs Upstream MLPs Propane Ship Coal General Partnerships GENESIS ENERGY -LP HOLLY ENERGY PARTNERS LP HILAND PARTNERS LP QUICKSILVER GAS SERVICES LP KINDER MORGAN ENERGY -LP MARTIN MIDSTREAM PARTNERS LP MAGELLAN MIDSTREAM PRTNRS LP MARKWEST ENERGY PARTNERS LP NUSTAR ENERGY LP ONEOK PARTNERS -LP PLAINS ALL AMER PIPELNE -LP SUNOCO LOGISTICS PRTNRS L P TRANSMONTAIGNE PARTNERS LP TEPPCO PARTNERS -LP CROSSTEX ENERGY LP Midstream MLP Total DCP MIDSTREAM PARTNERS LP EL PASO PIPELINE PARTNERS LP EXTERRAN PARTNERS LP TARGA RESOURCES PARTNERS LP REGENCY ENERGY PARTNERS LP SPECTRA ENERGY PARTNERS LP SEMGROUP ENERGY PARTNERS LP WESTERN GAS PARTNERS LP WILLIAMS PIPELINE PARTNERS WILLIAMS PARTNERS LP Drop Down MLP Total ATLAS ENERGY RESOURCES LLC BREITBURN ENERGY PARTNERS LP CONSTELLATION ENERGY PRTNRS EV ENERGY PARTNERS LP LEGACY RESERVES LP PIONEER SOUTHWEST ENRG PRTNR QUEST ENERGY PARTNERS LP VANGUARD NATURAL RESOURCES Upstream MLP Total AMERIGAS PARTNERS -LP FERRELLGAS PARTNERS -LP INERGY LP SUBURBAN PROPANE PRTNRS -LP Propane MLP Total K-SEA TRANSPORTATION -LP TEEKAY LNG PARTNERS LP TEEKAY OFFSHORE PARTNERS LP Shipping MLP Total ALLIANCE RESOURCE PTNRS -LP NATURAL RESOURCE PARTNERS LP PENN VIRGINIA RES PRTNR LP Coal MLP Total ATLAS PIPELINE HOLDINGS LP ALLIANCE HOLDINGS GP LP BUCKEYE GP HOLDINGS LP ENTERPRISE GP HOLDINGS LP ENERGY TRANSFER EQUITY LP HILAND HOLDINGS GP LP MAGELLAN MIDSTREAM HLDGS LP INERGY HOLDINGS LP NUSTAR GP HOLDINGS LLC PENN VIRGINIA GP HOLDINGS CROSSTEX ENERGY INC General Partnership MLP Total All MLPs Average All MLPs Median All MLPs Sum Source: Partnership reports and Wachovia Capital Markets.4 $25.7 $20.268 $21 $0 $25 $12 $78 $55 $0 $11 NA $41 $243 $143 $22 $19 $0 $0 $0 $92 ($0) $275 $47 $30 $84 $17 $177 $10 $351 $21 $382 $106 $0 $38 $145 NA NA NA NA NA NA NA NA NA NA NA NA $264 $50 $13.1 $38.5 $25.736 Acquisition Spending 2008E $9 $900 $0 $0 $300 $0 $0 $154 $0 $311 $194 $0 $0 $0 $6 $12 $241 $675 $0 $676 $200 $136 $338 $0 $4.2 $121.1 $54.7 $21.725 $0 $0 $53 $200 $150 $160 $80 $73 $716 $2 $1 $44 $0 $46 $230 $0 $0 $230 $0 $3 $210 $213 NA NA NA NA NA NA NA NA NA NA NA NA $213 $76 $11.7 $3.3 $81.
084 $553 Date: 7/14/2008 None None None BBNone None None None None None None No No No No No No No No No No No None None None No No No BBNone None No No No None B+ B+ B+ No No No No None None None None None None None None No No No No No No No No None None None None None None None None None BBBNo No No No No No No No No Yes S&P Debt Rating B+ BBB BBB+ BBNone BBB BBBNone BBBNone BBNone None BBB None BBB B+ BBBBBB BBBBBB None BBBNone Investment Grade No Yes Yes No No Yes Yes No Yes No No No No Yes No Yes No Yes Yes Yes Yes No Yes No Midstream MLPs Drop Down MLPs Upstream MLPs Propane Ship Coal General Partnerships GENESIS ENERGY -LP HOLLY ENERGY PARTNERS LP HILAND PARTNERS LP QUICKSILVER GAS SERVICES LP KINDER MORGAN ENERGY -LP MARTIN MIDSTREAM PARTNERS LP MAGELLAN MIDSTREAM PRTNRS LP MARKWEST ENERGY PARTNERS LP NUSTAR ENERGY LP ONEOK PARTNERS -LP PLAINS ALL AMER PIPELNE -LP SUNOCO LOGISTICS PRTNRS L P TRANSMONTAIGNE PARTNERS LP TEPPCO PARTNERS -LP CROSSTEX ENERGY LP Midstream MLP Median DCP MIDSTREAM PARTNERS LP EL PASO PIPELINE PARTNERS LP EXTERRAN PARTNERS LP TARGA RESOURCES PARTNERS LP REGENCY ENERGY PARTNERS LP SPECTRA ENERGY PARTNERS LP SEMGROUP ENERGY PARTNERS LP WESTERN GAS PARTNERS LP WILLIAMS PIPELINE PARTNERS WILLIAMS PARTNERS LP Drop Down MLP Median ATLAS ENERGY RESOURCES LLC BREITBURN ENERGY PARTNERS LP CONSTELLATION ENERGY PRTNRS EV ENERGY PARTNERS LP LEGACY RESERVES LP PIONEER SOUTHWEST ENRG PRTNR QUEST ENERGY PARTNERS LP VANGUARD NATURAL RESOURCES Upstream MLP Median AMERIGAS PARTNERS -LP FERRELLGAS PARTNERS -LP INERGY LP SUBURBAN PROPANE PRTNRS -LP Propane MLP Median K-SEA TRANSPORTATION -LP TEEKAY LNG PARTNERS LP TEEKAY OFFSHORE PARTNERS LP Shipping MLP Median ALLIANCE RESOURCE PTNRS -LP NATURAL RESOURCE PARTNERS LP PENN VIRGINIA RES PRTNR LP Coal MLP Median ATLAS PIPELINE HOLDINGS LP ALLIANCE HOLDINGS GP LP BUCKEYE GP HOLDINGS LP ENTERPRISE GP HOLDINGS LP ENERGY TRANSFER EQUITY LP HILAND HOLDINGS GP LP MAGELLAN MIDSTREAM HLDGS LP INERGY HOLDINGS LP NUSTAR GP HOLDINGS LLC PENN VIRGINIA GP HOLDINGS CROSSTEX ENERGY INC General Partnership MLP Median All MLPs Average All MLPs Median Source: FactSet.293 $1. and Wachovia Capital Markets.287 $2.000 $1. LLC EQUITY RESEARCH DEPARTMENT Figure 98.793 $557 $4.640 $82 $356 $235 $83 $7.572 $0 None None $3 None None $14 $1.020 $2.000 $503 ATN BBEP CEP EVEP LGCY PSE QELP VNR $829 $131 $136 $270 $136 None $123 $103 $136 APU FGP NRGY SPH $1.088 $1.096 $651 $188 $2.647 $1. Standard & Poor's.579 ARLP NRP PVR $240 $513 $414 $414 AHD AHGP BGH EPE ETE HPGP MGG NRGP NSH PVG XTXI $25 $1 None $1.271 $1.751 $6.Master Limited Partnerships WACHOVIA CAPITAL MARKETS.710 $474 $135 $2.289 $1. LLC estimate 90 .601 $3.366 $255 $953 $796 $2.579 $1.150 $857 $549 $928 KSP TGP TOO $333 $1.091 $465 $296 None $243 $1. MLP Credit Metrics Total ($MM. except per unit data) ATLAS PIPELINE PARTNER LP BUCKEYE PARTNERS LP BOARDWALK PIPELINE PARTNERS COPANO ENERGY LLC DUNCAN ENERGY PARTNERS LP ENBRIDGE ENERGY PRTNRS -LP ENTERPRISE PRODS PRTNER -LP EAGLE ROCK ENERGY PARTNRS LP ENERGY TRANSFER PARTNERS -LP Ticker APL BPL BWP CPNO DEP EEP EPD EROC ETP GEL HEP HLND KGS KMP MMLP MMP MWE NS OKS PAA SXL TLP TPP XTEX Debt $1.120 DPM EPB EXLP NGLS RGNC SEP SGLP WES WMZ WPZ $655 $503 $217 $639 $1.
0% 12/30/07 2007A 5.8% 0.3% 8.3% 25.1% 10.2% 13.6% 12/30/08 12/30/09 12/30/10 2008E 2009E 2010E 9.8% 15.0% 12.4% (64.2% 7.0% 5.0% 0.5% 6.1% 1.6% 2.0% 9.2% 21.7% 9.2% 0.0% 4.6% 3.9% 0.6% 5.2% 16.9% 16.0% 0.5% 47.2% 27.0% 0.3% 4.5% 11.0% 10.8% 25.0% 2004A 11.7% 12.8% 13.4% 3.9% 6.9% 5.1% 44.2% 24.3% 15.1% 22.8% 7% 6% Propane 0.6% 8.0% 27.5% 37.8% 10.6% 30.7% 19.9% 28.1% 4.7% 8.6% 1.4% 6.5% 8.2% 21.5% 14.0% 10% 9% 4.5% 0.1% 12.3% 1.1% 28.6% 13.3% 100.2% 4.5% 0.1% 1997A 14.8% 11.3% 16.5% 13.6% 7.5% 23.7% 8.5% 11.1% 6.8% 0.4% 9.3% 25.9% 18.3% 29.7% 7.1% 9.4% 6.9% 10.4% 25.3% 8.9% 11.9% 4.3% 0.1% 7.3% 10.8% 3.1% 5.0% 0.2% 5.2% 8.0% 0.0% 0.1% 8.1% 35.0% 12.0% 5.3% 0.9% 14.3% 1998A 22.7% 6.9% 4.0% 0.1% 7.5% 35.5% 19.2% Not Under Coverage 20.0% 1.1% 25.0% 13.9% 15.0% 2003A 11.2% 10.8% 4.8% 7.4% 11.8% 5.0% 2.3% 8.7% 5.7% 16.9% Not Under Coverage 1.0% 4.9% 5.2% 0.1% 20.0% 4.0% 0.5% 6.3% 17.9% 6.7% 8.6% 8.4% 19.0% 4.1% 6.1% 6.7% 23.7% 0.6% 26.5% 0.6% 12.8% 14.0% 9.0% 12.4% 5.3% 5.5% 7.6% 14.8% 1.0% 0.8% 9.0%) 0.0% 1.6% 49.2% 4.3%) 13.6% 7.1% 6.9% 7.9% 5.0% 0.1% 14.4% 2.2% 6.0% 0.5% 11.7% 0.0% 4.1% 9.6% 0.2% 11.0% Not Under Coverage 8.9% 6.0% 15.Third Edition WACHOVIA CAPITAL MARKETS.4% 10.4% 2.3% Drop Down MLPs 24.3% 12.9% 6.5% 0.3% 10.1% 4.0% 0.1% 8.6%) 2.1% 2002A (14.2% 0.6% 12.0% General Partnerships 19.5% 15.1% Not Under Coverage 22.1% 4.0% Shipping Not Under Coverage 10.2% 7.3% 2001A 27.1% 18.6% 9.6% 3.1% 19.7% 30.0% 1996A 7.5% 0.1% 37.4% 8.0% 0.5% 7.5% 2006A 7.4% 21.0% 19.8% 16.7% 11.8% 35.7% 11.1% 8.1% 4.0% 32.0% 5.5% 0.0% 12.7% 43.1% 11.0% 1.0% 6.5% 10.7% 5.5% 0.0% 18.2% (66.1% 22.9% 18.9% 3.0% 5.9% 7.9% 9.7% 2.5% 6.1% 8.2% 8.8% 9.6% 6.2% 11.0% 7.8% 10. LLC estimates 91 .6% 4.2% 23.0% 3.7% 18.1% 3.5% 14.2% 2.8% 17.5% 9.0% 42.0% 0.5% 6.4% 9.7% 12.7%) 2.5% 31.4% 13.0% 9.2% 2.6% 2000A 10.0% 10.8% 0.4% 11.5% 12.8% 6.1% 5.0% 0.1% 1.0% 50.0% 16.5% 0.0% 0.7% 12% 10% 8.5% 9.1% 17.1% 11.6% 13.9% 5.7%) 3.2% 33.7% 1995A 0.9% Not Under Coverage 31.4% 7.1% 4.6% 6.0% 0.6% 9.1% 7.0% 6.8% 7.8% 7.0% 7.3% 5.8% 5.4% 14.7% 6.8% 6.1% 14.0% 3.0% 0.2% 6.0% 3.3% Source: Partnership reports and Wachovia Capital Markets.3% 14.6% 1.7% 2.5% 6.1% 5.9% 5.5% 13.8% 12.2% 3.0% 15.5% 21.3% 12.0% 0.4% 23.2% 22.5% 6.2% 9.2% 5.5% 23.2% 18.4% 1999A 3.2% 16.3% 33.7% 10.1% 22.5% 6.4% 13.1% 6.4% 15.0% 25.2% 21.6% 26.1% 0.0% 10.4% 25.1% 0.1% 9.2% Not Under Coverage 12.3% 0.4% 9.0% 49.6% 3.1% 0.6% 8.8% 19.8% 2.8% 12.9% 7.4% 1.6% 9.4% 16.8% 6.1% 4.0% 5.9% 6.9% 5.0% 3.4% 7.3% 6.7% 9.0% 18.7% 2.0% 0.6% 4.5% 0.6% 13.8% 5.0% 10.1% 0.9% 5. LLC EQUITY RESEARCH DEPARTMENT Figure 99.0% 0.MLP Primer -.2% 6.7% 6.3% Midstream MLPs 4.3% 12.7% 30.3% 20.0% 6.0% 0.1% 8.0% Coal Upstream MLPs 0.8% 8.0% 8.5% 17.2% 12.3% 35.3% 7.1% 35.1% 8.2% 14.5% (15.8% 4.0% 1.3% 16.3% 22.4% 7.2% (50.4% 0. GPs) 3.0% 15.3% 15.2% 15.5% 61.0% 0.9% 2005A 18.6% 11.2% 8.0% 26.5% 13.6% 6.0% 0.0% 7.0% 9.0% 0.0% 7.4% 18.6% 16.7% 10.7% 1.0% 0.8% 7.5% 7.9% (0.2% 18.2% 17.0% 5.1% 3.3% 0.8% 13.5% 21.5% 9. MLP Historical And Forecast Distribution Growth Rates Annual Distribution Growth (Four Quarters Declared12/29/00 12/31/01 12/31/02 12/31/03 12/31/04 Declared) Versus Previous Four Quarters 12/31/05 12/30/06 12/31/93 12/30/94 12/29/95 12/31/96 12/31/97 12/31/98 12/31/99 1994A APL BPL BWP CLMT CPNO DEP EEP EPD EROC ETP GEL HEP HLND KMP MMLP MMP MWE NS OKS PAA SXL TCLP TLP TPP XTEX Median DPM EPB EXLP NGLS RGNC SEP SGLP WES WPZ WMZ Median ATN BBEP CEP DMLP EVEP LGCY LINE PSE QELP VNR Median ARLP NRP PVR Median KSP TGP TOO USS Median APU FGP GLP NRGY SGU SPH Median AHD AHGP BGH EPE ETE HPGP MGG NRGP NSH PVG XTXI Median Median Distribution Growth For All MLPs Median Distribution Growth For All MLPs (Excl.9% 7.1% 30.4% 0.5% 8.5% 11.5% 12.7% 3.1% 11.8% 4.4% 18.2% 10.2% 20.8% 5.7% 5.4% 25.0%) 4.9% Not Under Coverage 9.5% 7.3% 0.0% 0.2% 3.1% 2.0% 12.6% 17.0% 0.9% 7.7% 4.6% 27.3% 13.5% 2.9% 32.1% 9.8% 21.3% 9.6% 0.0% 13.9% 40.2% -19.9% 14.8% 5.6% 9.4% 9.0% 8.0% 0.9% 6.8% 10.0% 3.7% 5.8% 22.4% 0.4% 12.2% 8.9% 37.5% 4.3% 1.0% 0.0% 0.3% 12.5% 12.4% 14.4% 22.3% 16.6% 1.
MLP Note: Distribution CAGRs based on annualized quarterly distribution growth rate since IPO (i. MLP Distribution Growth CAGRs Since IPO ETE AHD NRGP XTXI EVEP ENP CPNO PVG LINE ATN DPM SGLP WPZ MGG CLMT HLND HPGP BGH XTEX EPE NGLS GEL AHGP NRP MWE CEP MMP EXLP BBEP KMP LGCY BWP SXL ETP HEP APL NRGY ARLP CPLP PVR KSP VNR RGNC TOO EPD TGP SEP NS PAA GLP TLP NSH MMLP EROC KGS BPL TPP TCLP QELP OKS SPH EEP DEP APU USS FGP 35% 34% 32% 30% 29% 28% 28% 23% 23% 23% 21% 20% 20% 20% 19% 19% 19% 19% 17% 17% 17% 15% 15% 14% 13% 13% 13% 13% 13% 13% 12% 12% 11% 10% 10% 10% 10% 10% 10% 9% 9% 9% 9% 9% 8% 8% 8% 7% 7% 7% 7% 7% 7% 7% 7% 5% 5% 5% 5% 4% 4% 3% 2% 1% 0% 0% 0% 5% 10% 15% 20% 25% 30% 35% 40% . 1.General Partnership .0x^4) Note: GEL distribution CAGR is post restructuring brought about after DNR purchased GEL's GP Note: ENP distribution CAGR reflects growth in the MLP's sustainable MQD distribution Source: Partnership reports 92 .e.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. LLC EQUITY RESEARCH DEPARTMENT Figure 100.
P.P. L. Western Gas Partners..P. L. Quicksilver Gas Services. Magellan Midstream Holdings. L. L.P..P.P.P.MLP Primer -. L..P. TransMontaigne Partners L.P. L. L. ONEOK Partners.P.P. Buckeye Partners. L.. DCP Midstream Partners.P.P. L.Third Edition WACHOVIA CAPITAL MARKETS. Plains All American Pipeline.. Williams Pipeline Partners. L. L.. Copano Energy L..P.com or write to 7 Saint Paul Street.. or will be.P. Inc.P..P.. L. LLC. Hiland Holdings GP.P. Energy Transfer Equity. Penn Virginia Resource Partners. El Paso Pipeline Partners. L. Eagle Rock Energy Partners.P. Holly Energy Partners. Natural Resource Partners L. L. Crosstex Energy. L. L. Copano Energy L. Wachovia Capital Markets.P. L. Copano Energy L. L. L. Genesis Energy.. L. L.P. L.P. Kinder Morgan Energy Partners.P.P.. Energy Transfer Partners. L. L. L.. Plains All American Pipeline.P. TEPPCO Partners. L.P... DCP Midstream Partners.. L. related to the specific recommendations or views expressed by me in this research report. L... L. L.. Hiland Holdings GP... L. Inergy. Wachovia Capital Markets..P. TEPPCO Partners.P.P.P. L.P..P. L. Williams Partners L. Duncan Energy Partners. Spectra Energy Partners. Eagle Rock Energy Partners. L.P.P.P. Magellan Midstream Partners.P.... L. L.P.P.P..P. Western Gas Partners.. Enterprise GP Holdings L. Pioneer Southwest Energy Partners.. please go to www.P..L. AmeriGas Partners. within the past 12 months. SemGroup Energy Partners....P....P..P. Exterran Partners.P.. LLC.P.. Quest Energy Partners.C. Vanguard Natural Resources... Atlas Energy Resources. Regency Energy Partners. Legacy Reserves.wachoviaresearch..P. Buckeye Partners. Martin Midstream Partners. Ferrellgas Partners. L. L. Kinder Morgan Energy Partners. L..P. Boardwalk Pipeline Partners.. Wachovia Capital Markets. NuStar Energy.P. Enbridge Energy Partners..P..P. Energy Transfer Partners.. SemGroup Energy Partners.P.. LLC..C.. El Paso Pipeline Partners.. L..P. L.P.. Boardwalk Pipeline Partners. Spectra Energy Partners....P. L.P... Quest Energy Partners. L.. Genesis 93 . and 2) No part of my compensation was. TransMontaigne Partners L... Atlas Pipeline Partners.P.. Enterprise Products Partners L.P.P.P. L. Crosstex Energy.P.C. L.P.P.P. Crosstex Energy..P. Teekay LNG Partners. L. Teekay LNG Partners. Enbridge Energy Partners.P. LLC.P. L. L. L.P. L.P.P. L. Sunoco Logistics Partners L.P.P.P. MD 21202 ATTN: Research Publications Additional Information Available Upon Request I certify that: 1) All views expressed in this research report accurately reflect my personal views about any and all of the subject securities or issuers discussed.P. K-Sea Transportation Partners.P. Vanguard Natural Resources.P. L. SemGroup Energy Partners. Kinder Morgan Energy Partners. Duncan Energy Partners. BreitBurn Energy Partners L.P. El Paso Pipeline Partners. LLC EQUITY RESEARCH DEPARTMENT Required Disclosures To view price charts for all companies rated in this document.P. LLC. L.P. L. Crosstex Energy. L.. Alliance Resource Partners..... L..P...P. Hiland Partners... Genesis Energy.P. Teekay LNG Partners..P. Legacy Reserves. L. L....P. NuStar GP Holdings.P.P.. Buckeye Partners.P..P.P.. LLC. L. Energy Transfer Equity. Enterprise Products Partners L.P... Penn Virginia GP Holdings. L. Buckeye Partners. Atlas Pipeline Partners... L. Inergy. Atlas Energy Resources. Sunoco Logistics Partners L. Wachovia Capital Markets. Plains All American Pipeline. Magellan Midstream Partners.P. MarkWest Energy Partners. LLC. L.P.P. L.P. L.. L..... L.P.. Hiland Partners.. MD5202.. Inergy. L. Copano Energy L. LLC maintains a market in the common stock of Alliance Holdings GP.P.P.P.P. Crosstex Energy. L. Targa Resources Partners. L...P. Magellan Midstream Holdings. Energy Transfer Partners.. NuStar Energy.P. Targa Resources Partners. Kinder Morgan Management.P. LLC or its affiliates received compensation for investment banking services from AmeriGas Partners.P. Exterran Partners.. L.. LLC. LLC or its affiliates intends to seek or expects to receive compensation for investment banking services in the next three months from Alliance Holdings GP..P. Williams Partners L. Buckeye GP Holdings L. TransMontaigne Partners L. L. L. Williams Pipeline Partners. Magellan Midstream Partners. L. MarkWest Energy Partners. Enterprise GP Holdings L... directly or indirectly. Hiland Holdings GP. Crosstex Energy. L..P. L... EV Energy Partners. L. Exterran Partners.. NuStar GP Holdings. L. Buckeye GP Holdings L. Crosstex Energy. L.. Atlas Energy Resources. BreitBurn Energy Partners L. DCP Midstream Partners.. L..P. L. Genesis Energy. LLC.P.P. L.P. Legacy Reserves.P. L.P.C.P. K-Sea Transportation Partners. Hiland Partners.. El Paso Pipeline Partners.C... Martin Midstream Partners..P. LLC. L. Targa Resources Partners. L. SemGroup Energy Partners..P..... L... L.P. L. L.P.. ONEOK Partners.P. in the past 12 months.P. Enterprise GP Holdings L.. Regency Energy Partners. L. Regency Energy Partners. Quest Energy Partners. have beneficial ownership of 1% or more of any class of the common stock of BreitBurn Energy Partners L.P.P.P. L.P. Legacy Reserves. MarkWest Energy Partners.. L.. Baltimore.. L.P.L. L. Buckeye GP Holdings L.. Boardwalk Pipeline Partners.. Constellation Energy Partners LLC.. L. L. L. 1st Floor. L. L.P. L. LLC or its affiliates managed or comanaged a public offering of securities for Atlas Energy Resources. Inergy Holdings.P.. Suburban Propane Partners. Inc. L.P. L.P. L. Williams Partners L.P. Inergy Holdings. Vanguard Natural Resources.. L. L..P. Atlas Pipeline Partners.P.. L.P.P.P.P.P.P.P.P. Inergy..P..P. Inc. Atlas Pipeline Holdings. L. Boardwalk Pipeline Partners.P. Quest Energy Partners.P..P. L. is..P. L.P.P. L. L.P. Enbridge Energy Partners. L. L...P.. Wachovia Capital Markets... L. TEPPCO Partners.P... L.. ONEOK Partners. Teekay Offshore Partners.. Williams Pipeline Partners. L. L. L. Enbridge Energy Partners. L.P. L.P.. L.L. L. Targa Resources Partners.P. Copano Energy L. L. L. Atlas Pipeline Holdings.P.... L. L.P.P.. Penn Virginia Resource Partners.. DCP Midstream Partners.L.. Atlas Pipeline Holdings... L. L.. Regency Energy Partners. Pioneer Southwest Energy Partners. Genesis Energy.. L..P.P.. EV Energy Partners. Atlas Pipeline Partners. L. Penn Virginia GP Holdings. Crosstex Energy. L.P. L. L.P. LLC and/or its affiliates.. Enterprise Products Partners L. Exterran Partners... Duncan Energy Partners. L.. L.. L. L. Enterprise Products Partners L. L.P..P.P. Energy Transfer Partners..L.. L. AmeriGas Partners. L..P. L.. NuStar Energy. Energy Transfer Equity. Penn Virginia Resource Partners. L.
P.. L. L.... DCP Midstream Partners. L..P. L... Natural Resource Partners L.P. Boardwalk Pipeline Partners.. Atlas Pipeline Holdings.P. LLC. SemGroup Energy Partners. L.P... L.P.. L.P. Kinder Morgan Management.. TEPPCO Partners. L. L.. Penn Virginia Resource Partners. LLC. LLC. LLC provided investment banking services to AmeriGas Partners. Western Gas Partners.. Kinder Morgan Management.P. Penn Virginia Resource Partners. L. Targa Resources Partners. L. LLC.P..P.. DCP Midstream Partners..P. Legacy Reserves.P.P.P.P..P.P.P. L.P. a client of Wachovia Capital Markets. L.. L. currently is. L. LLC does not compensate its research analysts based on specific investment banking transactions..P.. Duncan Energy Partners. Regency Energy Partners.P.P. Kinder Morgan Energy Partners. Atlas Pipeline Partners. L...P. Teekay LNG Partners.P.P. L. Regency Energy Partners. TEPPCO Partners. L..P.P. Exterran Partners. Enterprise GP Holdings L.P..P.. Buckeye Partners. L.P. LLC. Hiland Partners. Regency Energy Partners. LLC. currently is. Williams Partners L. L. Energy Transfer Partners.. DCP Midstream Partners. Crosstex Energy.P. L.P. L.. Inc... L. El Paso Pipeline Partners.P..P. in the past 12 months. L. Kinder Morgan Management. Atlas Pipeline Holdings. Kinder Morgan Energy Partners. L.P. Enbridge Energy Partners.. L.P. Atlas Pipeline Holdings. L. Wachovia Capital Markets.. TransMontaigne Partners L.. Kinder Morgan Energy Partners...P..P. L.. Energy Transfer Equity. LLC. L.P.P. LLC EQUITY RESEARCH DEPARTMENT Energy.P. DCP Midstream Partners.P. Western Gas Partners... L.P. ONEOK Partners. L. Exterran Partners. L. L. Hiland Partners.. Sunoco Logistics Partners L.. L.P.P. LLC. L.. Legacy Reserves.P. Exterran Partners..P. LLC received compensation for products or services other than investment banking services from Atlas Energy Resources.P. LLC. Energy Transfer Equity. Buckeye GP Holdings L.. Crosstex Energy. Western Gas Partners. Magellan Midstream Partners. BreitBurn Energy Partners L.P.P.. BreitBurn Energy Partners L. L.P. Natural Resource Partners L. L. Eagle Rock Energy Partners.P.P. Enbridge Energy Partners. Spectra Energy Partners.P. L.P.P.P.P. L... Kinder Morgan Energy Partners. L. SemGroup Energy Partners. currently is.. L. Williams Partners L. but is not limited to investment banking revenue.. Targa Resources Partners. L. L. Vanguard Natural Resources.. or during the 12-month period preceding the date of distribution of the research report was...P. Wachovia Capital Markets.P. Kinder Morgan Energy Partners. L. Inergy. MarkWest Energy Partners..P. L.P.P. L.. L. L. Kinder Morgan Energy Partners. Enterprise Products Partners L. TEPPCO Partners.. Crosstex Energy.P.. NuStar Energy. L. L. Inergy. Boardwalk Pipeline Partners. NuStar GP Holdings. MarkWest Energy Partners. L. L.P. Hiland Holdings GP.P.. Eagle Rock Energy Partners.. L.. L. L.P... LLC. ONEOK Partners.P. Energy Transfer Partners... NuStar Energy.P..P.. L. L. Spectra Energy Partners. L.P.... TEPPCO Partners.P.P. ONEOK Partners.P. Spectra Energy Partners. NuStar GP Holdings. L.... L. L. L..P. Inergy Holdings. Spectra Energy Partners.P.. Teekay Offshore Partners..P. L. Duncan Energy Partners. Pioneer Southwest Energy Partners.P..P...P. Natural Resource Partners L.. LLC.P..P.. SemGroup Energy Partners..P... Kinder Morgan Management. Crosstex Energy. L.. Targa Resources Partners.. Inc.P.P. Pioneer Southwest Energy Partners...P. Inergy Holdings. Duncan Energy Partners. 94 .P. Energy Transfer Partners. L. Copano Energy L. Pioneer Southwest Energy Partners..P. L. Boardwalk Pipeline Partners.. L.. L.. L. L.P. Sunoco Logistics Partners L. L.P... L. L. L.P. L.C. Atlas Pipeline Partners. L.P. Pioneer Southwest Energy Partners..P. L.P. L..P. L. Constellation Energy Partners LLC. Pioneer Southwest Energy Partners. ONEOK Partners. L.P. Kinder Morgan Management. L.P.P. L. Hiland Holdings GP.. L. Plains All American Pipeline.P. L. Atlas Energy Resources. Kinder Morgan Management.Master Limited Partnerships WACHOVIA CAPITAL MARKETS. which includes. Pioneer Southwest Energy Partners. LLC provided noninvestment banking securities-related services to BreitBurn Energy Partners L.. L. L.. Enterprise Products Partners L. L. Magellan Midstream Holdings. Inc.P. K-Sea Transportation Partners. L.. Teekay LNG Partners.P.P...P. L.P... Crosstex Energy.P.P.L. L. Regency Energy Partners...P. Kinder Morgan Energy Partners. Pioneer Southwest Energy Partners.. L. L..P. Penn Virginia GP Holdings. L.. L.P. LLC. L. L. Genesis Energy. Targa Resources Partners...P.P. L.. LLC. MarkWest Energy Partners..P... L. L. LLC. MarkWest Energy Partners. Energy Transfer Equity.. L. Crosstex Energy.P.P. L.P. L.P. L. LLC.. L.P.P.P.P.. Enterprise Products Partners L.. Targa Resources Partners. Kinder Morgan Management. Enterprise GP Holdings L. Vanguard Natural Resources.P..P. Teekay Offshore Partners..P.P.P. Atlas Pipeline Partners. Crosstex Energy..P.P.. Constellation Energy Partners LLC. Williams Pipeline Partners. L. L..P. TEPPCO Partners.. ONEOK Partners.. Crosstex Energy. WCM’s research analysts receive compensation that is based upon and impacted by the overall profitability and revenue of the firm.P. L...P.... LLC. L.P.P..P. Wachovia Capital Markets. Atlas Pipeline Partners.. Inc. or during the 12-month period preceding the date of distribution of the research report was. Enbridge Energy Partners...P. Magellan Midstream Partners. TransMontaigne Partners L.P.P. L. Atlas Pipeline Holdings. Boardwalk Pipeline Partners. L.P. L. L. Williams Pipeline Partners.P.. L. LLC. L.. Enterprise GP Holdings L. LLC. a client of Wachovia Capital Markets. L. Penn Virginia GP Holdings. Enterprise Products Partners L.. Enterprise GP Holdings L. Exterran Partners. L. Energy Transfer Partners.P. Wachovia Capital Markets.. L.. L.P.P. K-Sea Transportation Partners.P. L.. Plains All American Pipeline. L. L. Quest Energy Partners.. or during the 12-month period preceding the date of distribution of the research report was. Magellan Midstream Holdings. Duncan Energy Partners... SemGroup Energy Partners. Eagle Rock Energy Partners.P. L.P. L.P. L. L. Enbridge Energy Partners..P. L..P. Constellation Energy Partners LLC... Atlas Energy Resources. L.P.P. SemGroup Energy Partners. a client of Wachovia Capital Markets. Quest Energy Partners.P. Regency Energy Partners. Wachovia Capital Markets. Spectra Energy Partners. LLC provided nonsecurities services to Atlas Energy Resources. L.P..P.. MarkWest Energy Partners. L. L. L..P. Energy Transfer Equity. L.
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