Description

I think Energy Transfer LP (NYSE:  ET) presents a very attractive risk / reward.  The Company has been written up twice on VIC at approximately double the current stock price.  In October, the Company cut its dividend distribution in half to protect its investment grade rating, resulting in the stock collapsing into the low $5s, but has since rebounded to nearly $6.78 per share.  Management was an active buyer of the stock during the March 2020 COVID related decline.  Kelcy Warren, the Company’s chairman, owns $1.8Bn worth of stock and the Company’s co-CEOs collectively own over $40mm worth of stock.  The stock price has also suffered from litigation and political overhang related to the Dakota Access Pipeline (“DAPL”; 9% of EBITDA).  Finally, many investors are distrustful after Kelcy Warren’s alleged self-dealing with respect to a private issuance of preferred shares during the ill-fated Williams merger.

ET is a large, diversified midstream oil and gas business with gathering, transportation, fractionate, and storage assets, including 90,000 miles of pipeline in every major US supply basin.  95% of revenue is fee driven.

The Company is also the GP to and has common equity ownership Sunoco (NYSE:  SUN) and USA Compression Partners (NYSE:  USAC).  The GP interests are non-economic, except as it relates to Sunoco IDRs. 

Below, I breakout the Company’s enterprise value and EBITDA deconsolidating SUN and USA, which reveals an attractive mid-stream asset trading at less than 7x EBITDA and a 24% equity earnings yield (assuming depreciation is equal to maintenance CapEx, which should prove conservative given the nature of the assets).

Key Risks:

DAPL:  The DAPL is currently subject to litigation related to an easement granted by the Army Corps of Engineers to cross a federal reservoir.  The reservoir is a drinking water source for the Sioux tribe.  The litigation is centered around whether or not the Army Corps of Engineers (the “Corps”) violated the National Environmental Policy Act (“NEPA”) by not conducting an Environmental Impact Statement prior to granting the easement. In June 2017, the D.C. District Court (“District Court”) ruled that here were deficiencies in the environmental assessment (lower bar than an Environmental Impact Statement or “EIS”).  The court then required the Corps to addresses the deficiencies through a more thorough environmental review, which was completed in February 2019.  Subsequently the Plaintiff tribes moved for summary judgement and argued the Corps failed to remedy the inadequacies specified by the District Court.  In March 2020, the District Court ruled that the Corps had to prepare an EIS.  In July, the District Court issued an order to vacate the easement and shut down the pipeline.  The defendants appealed the ordered.  In January 2021, the US District Court of Appeals (“Appeals Court”) upheld the lower court ruling requiring an EIS and vacating the easement, but reversed the shutdown order.  The Corps has requested until April 9^th to determine what action it will take in the case, so that the Biden Administration can better familiarize themselves with the litigation.   There are obviously reasons to believe the Biden Administration will take a tougher approach to the litigation and potential remedies than the Trump administration. 

That said, an EIS could ultimately vindicate the origination Environmental Assessment resulting in an easement being granted (there is obviously alot of debate regarding the safety of the pipeline, but pipelines near drinking water are fairly commonplace).  There is also the possibility that the case will be appealed to the Supreme Court, and its conservative majority will rule in favor of the DAPL.  Further, there is the possibility that a settlement is reached whereby ET resolves some of the Plaintiff tribe issues and provides compensation to them thereby allowing the pipeline to operate.

I any case, I think DAPL being permanently shut down is baked into the valuation.  At 9% of EBITDA, the loss of DAPL would result in the Company trading at 7.3x EV / EBITDA, which still looks cheap to me.   

Kelcy Warren:  On the Kelcy Warren self-dealing issue.  I view this a bit differently than (most?) folks.  He’s a fighter – and the Williams transaction could have bankrupted his company.  He used every tool in the tool chest to keep that from happening.  Even if you think he got a favorable deal (and the current stock price would suggest he didn’t), it’s better than BK.  Interestingly, they cut the distribution rather than issuing another self-dealing security last Fall, which I think perhaps is because he’s learned his lesson on this topic.  

Potential Upside:

I think potential upside exists from the Company re-rating to a more typical 10x+ multiple for midstream MLPs.  I’ve outlined what that would look like based on LTM, YTD run-rate, and YTD run-rate less DAPL earnings below.

If the multiple doesn’t re-rate and you stay at the current 6.6x EV / EBITDA multiple, then the stock trades down 47% if you assume run-rate less DAPL earnings, providing attractive upside / downside at the current stock price. 

Catalyst

- Good news on DAPL

- Cash flow generation as capital projects slow and the Company de-levers