BOARDWALK PIPELINE PRTNRS-LP BWP
May 08, 2018 - 1:50pm EST by
straw1023
2018 2019
Price: 9.35 EPS 0 0
Shares Out. (in M): 250 P/E 0 0
Market Cap (in $M): 2,300 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT 0 0

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Description

This is an arbitrage idea that involves an unusual situation. All prices from this morning when I started writing.
 
The trade idea is:
 
Buy 108 shrs of BWP at $9.18 and then buy 1 shr per day going forward at the closing price.

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I will skip the basics of BWP and jump right to the technical arbitrage here.
 
BWP is a midstream MLP whose sponsor/GP is Loews (L). The Limited Partnership Agreement contains an unusual clause:
 
 
 
RIGHT TO ACQUIRE LIMITED PARTNER INTERESTS
 
Section 15.1  
Right to Acquire Limited Partner Interests.
 
 
(b) Notwithstanding any other provision of this Agreement, if at any time: (i) the General Partner and its Affiliates hold more than 50% of the total Limited Partner Interests of all classes then Outstanding and (ii) the General Partner receives an Opinion of Counsel that the Partnership’s status as an association not taxable as a corporation and not otherwise subject to an entity-level tax for federal, state or local income tax purposes has or will reasonably likely in the future have a material adverse effect on the maximum applicable rate that can be charged to customers by subsidiaries of the Partnership that are regulated interstate natural gas pipelines, then the General Partner shall then have the right, which right it may assign and transfer in whole or in part to the Partnership or any Affiliate of the General Partner, exercisable at its option within 90 days of receipt of such opinion, to purchase all, but not less than all, of all Limited Partner Interests then Outstanding held by Persons other than the General Partner and its Affiliates, at a purchase price for each class of Limited Partner Interests equal to the average of the daily Closing Prices per Limited Partner Interest of such class for the 180 consecutive Trading Days immediately prior to the date three days prior to the date that the notice described in Section 15.1(c) is mailed.
 
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BWP informed/reminded unitholders of this call right last week. The market was very surprised.
 
BWP informed unitholders that Loews was "seriously considering" this potential call right.
 
First, does the call right apply? The 50% threshold is met. And the way the language is written about the "maximum applicable rate," the recent FERC action regarding an income tax allowance for cost-based rates triggers this clause. One potential argument would be that BWP is not charging the maximum rates on its pipelines so the FERC ruling is irrelevant. However, the "maximum applicable rate that can be charged" language seems to dismiss this concern.
 
If the call right does not apply, I expect this to trade back to the $11 price it was before the call right was revealed. However, I expect the call right to apply.
 
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Will Loews exercise call right? I believe that Loews would be wise to exercise the call right if they can buy the LP units below $12. Like many MLPs these days, the vehicle is not serving the purpose for which it was created. Again, if they do not exercise, I expect units to rebound back to $11 range.
 
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So, assuming they do exercise, what is this worth? Here is the timeline as I see it:
 
May 31 -- Opinion of Counsel announcing call right option. This is the biggest timing variable as Loews has an incentive to delay this Opinion of Counsel. However, they expose themselves to a lawsuit if they intentionally delay the Opinion knowing that it means a lower price. I have tried to pin down BWP mgmt on the timing of the Opinion, but I have not been successful.
 
Clearly, this idea falls apart if Loews can simply delay the decision indefinitely. Courts look askance at parties not availing themselves of their rights quickly (theory of laches). I believe the clock is running, and it would be absurd to suggest they can delay Opinion indefinitely. Given their own announcement, I do not believe they will do that.
 
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Given that the current price is lower than the price 9 months ago (i.e. 180 trading days), they probably will take their sweet time in actually acquiring the company. So I assume they take the full 90 days and acquire the company on August 31. And they will announce 10 days before that and so the last day of pricing used will be Aug 18.
 
That means that the price paid will be determined by closing prices starting Dec 1, 2017 thru August 18. That means that we already know 108 of the prices. And the average thus far is $11.83 versus current price of $9.18. And BWP goes ex div tmro so only paying $9.08. This is a 30.2% return (in less than 4 months) on the $9.18. However, the remaining 72 shrs will return 0% over an average of 2 months. We do not know the exact gross return because we do not know how much the future purchases will be, but it will be about 20% over an average of 3 months (100% annualized).
 
Note: Unless Loews tries to really mess with the price, we would also receive a distribution in August as well. I have not included that in the math because Loews could eliminate distribution after announcing option to purchase..
 
Risks:
 
The two risks are clear:
 
- They delay the Opinion of Counsel decision. Let's say they delay by 2 months from my assumption above. Then, the 180 trading day window will run from Feb 1 thru mid-October. And there have been 67 days thus far at an average price of $10.91. This is only a 20% gross return on only about 1/3 of the days with 6 months remaining. And so this will reduce the entire gross return to a bit under 10% over an average of 4 months.
 
- The value of BWP drops during this exercise and Loews does not want to acquire even at a $10 price.
 
Note that if the price trades up and it becomes questionable whether L would want to acquire, then can sell at a profit. And if stock goes down, more likely L will buy.
 

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

There are three catalsysts:

First, the Opinion of Counsel

Second, the announcement of whether they will exercise option to purchase

Third, the closing of the purchase

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