Description

Genesis has been written up a couple of times in the past 3+ years, I would reference those write-ups for some additional background, going to keep it fairly brief and try not to overlap as GEL just reported today.

Thesis:

Genesis (GEL) is a compelling buy at ~ $7.00, that we estimate could have 12-month upside potential of ~ 200%+. Longer-term if Genesis can hit its mid-point adj. EBITDA guidance of $750mn and get back to its former double digit adj. EBITDA multiple the stock could be easily worth 4-5x+ from here. Genesis represents a rare opportunity to own a cheap inflation hedge with high quality assets at a deeply discounted valuation that the market has not yet fully appreciated.

The main reason for this write-up is we think inflation is coming down the pike, and a lot of it, perhaps even as much as we had in the mid 70s. Energy MLPs are one of the few areas of the market where most individual stocks are still down significantly from their pre-covid levels, and an area that we believe is actually one of the better recoveries plays in the market today. We believe there is a pretty clear line of sight as to what that recovery may look like in the domestic U.S. with the vaccines likely to be widely distributed by the summer. After being stuck inside and relegated to wearing masks for almost a year now it would appear there is tremendous pent up demand for travel, particularly domestic travel (both air and auto). 

Genesis is quite unique in that it has some very high quality assets that we believe are not permanently impaired (albeit are priced as such) from the pandemic and a few segments are likely to benefit significantly from reflation, especially the soda ash business. On top of this Genesis’ soda ash business is now directly in the sights of tremendous incremental demand from lithium ion batteries for EVs, growth in solar panels (flat glass), and more efficient LEED compliant glass replacements.

Why is there an opportunity?

Genesis has lagged recently due to concerns regarding damage to the Gulf of Mexico CHOPS line, a mothballing of the Granger expansion and facility, and concerns around a possible federal land drilling ban with Biden’s announced 60-day oil and gas drilling moratorium.

We feel however that the Genesis story has been substantially derisked over the past 6 months, the hurricane damages from Laura that shut down the CHOPS line has now been fully repaired (restored Feb. 4th) and put back online. The hurricane costs were material for the 2020, but really sort of an anomaly if you look at the longer-term history of impacts in the Gulf of Mexico (GOM), which haven't been that significant since 2005. Typically costs for any given year with regard to GOM repairs totals $8-10mn, the last estimate from management for the past year was ~ $40mn, significantly higher than typical costs.

The mothballing of Granger makes sense with the backdrop of the global pandemic and worldwide soda ash market still balancing. While there have been hints of price improvements with soda ash, it likely won’t materially get better until 2022. GEL management is planning for its fully expanded Granger facility to be completed in 2023. This is an exceptional business that should grow 3%+ per year as new demand channels open up as we will expand upon later.

Concerning the potential federal ban within the GOM we think it is a low probability, and if there are some limitations it will not hit until after 2023. The offshore projects tied to GEL’s pipeline have either take-or-pay contracts in place or permits already in place. Furthermore, the partnership should see an incremental 150 kpbd from Katmai and Mad Dog 2 in late ‘21 to mid ‘22.  Once fully ramped this would represent an incremental $100mn in segment EBITDA with very little in the form of capex.

So to summarize 7 months ago the Genesis was a $12 stock with WTI and Brent at ~$40, now with crude north of $60 it would appear there is significantly more upside from these levels. Not to mention the soda ash business is getting better by the day and one that we would expect to get to normalized levels in late ‘21 and return to growth in ‘22. In addition if the vaccine does become widely distributed by this summer, we think the summer driving season could return to normality helping the refinery centric business segments.

Quick Business Overview:

Genesis has four business segments, of which we will only focus on the most important two. 

The Offshore Pipeline Transportation segment (~ 45% of segment margins) is engaged in providing the critical infrastructure to move oil produced from the long-lived world-class reservoirs from the deepwater Gulf of Mexico to onshore refining centers. 

The Sodium Minerals and Sulfur Services segment (~ 31% of segment margins) includes trona and trona-based exploring, mining, processing, producing, marketing and selling activities as well as the processing of sour gas streams to remove sulfur at refining operations. 

The Onshore Facilities and segment (~ 16% of segment margins) -- and Transportation segment is engaged in the transportation, handling, blending, storage and supply of energy products including crude oil and refined products. 

The Marine Transportation segment (~ 8% of segment margins) is engaged in the maritime transportation of primarily refined petroleum products. Genesis' operations are primarily located in Wyoming, the Gulf Coast states and the Gulf of Mexico

Offshore Segment Still Growing

Quick highlighted commentary on the offshore segment from today’s call:

“....we're now just 12 or 18 months from initial flows from Argos and King's Quay, which required minimal capital from us. And in the case of King's Quay, come with take-or-pay agreements covering a significant portion of expected production. These 2 fields are scheduled for first production in early 2022. When fully ramped up, they will likely generate in excess of $25 million a quarter or over $100 million a year in incremental segment margin, EBITDA and importantly, cash flow to us in the very near future.” Q3 2020 Transcript

“If the temporary ban on new leases were to be extended or become permanent, which we believe would require a change in the law, it is important to note we have hundreds of thousands of acres that are dedicated to our offshore pipeline systems under life-of-lease dedications, all of which are existing valid leases under primary term, previously granted extensions of their primary term, or held by production in perpetuity alone or in recognized units.

We believe there is a tremendous inventory of incremental drilling and sub-sea tie back opportunities on these existing, valid leases that can keep our base production levels flat to slightly growing for many years, if not decades, to come.” Q4 ‘20 CC

“Near to intermediate-term activity is quite robust around our producing customers' facilities. Occidental Petroleum has recently drilled and completed 2 new wells in the Lucius field, both of which are already contractually obligated to flow through our 100% owned SEKCO pipeline and onto shore through our 64% owned Poseidon pipeline. BHP Petroleum has recently increased its working interest share in its operated Shenzi field. It has publicly announced its intent to drill several more infill wells in Shenzi proper, along with its intent to pursue a new 2-well sub-sea development from what it calls Shenzi North. All of the production from these new wells are already contractually obligated to flow through our 100% owned Shenzi lateral and onto shore through either Poseidon or 100% owned CHOPS pipeline.” Q4 ‘20 CC

What is Soda Ash?

Soda Ash is the 10th most consumed inorganic compound in the world, which has been used for over 5,000 years. It is a safe, simple compound and a key component in a variety of industrial processes from the manufacture of glass to dry powder detergents and lithium-ion batteries. It is also an important ingredient in the food and pharmaceutical industries.

The ancient Egyptians recovered Soda Ash from dry desert lake beds or produced it by burning marine plants with high sodium content to produce ashes, which gave the commonly used name of ‘Soda Ash’. They used it to reduce the melting point of silica sand to produce glass vessels and ornaments – the same basic production technique used in glass manufacturing today. The Romans also used its related compound, Sodium Bicarbonate, for medicinal purposes and to make bread.

Successive generations produced Soda Ash in this way until the mid-1800s, when synthetic production techniques were first developed, to supply the increasing demand from an industrialising world.

Today, Soda Ash (Sodium Carbonate) is produced by two main methods, both of which produce chemically identical Soda Ash.

1. Natural Soda Ash production: Natural Soda Ash is produced by mining naturally occurring Trona ore and then processing this via a simple process of filtering, concentration, crystallisation and drying into Soda Ash which can be sold. Commercially exploitable Trona deposits only occur geologically in three regions of the world: Enormous deposits in Wyoming, USA, large deposits in Turkey and much smaller and chemically less pure deposits in China.
   
   

2. Synthetic Soda Ash production: By synthetic production methods using either the so-called Solvay or Hou processes, in which salt (sodium chloride) is reacted with either limestone or ammonia to produce synthetic Soda Ash. This accounts for about 67% of global production.

Trona has been found in lake brines or naturally occurring mineral deposits. Trona (a mix of water, sodium bicarbonate, sodium carbonate and sometimes sodium chloride or salt) is the most common and richest source of naturally occurring Soda Ash.

Natural Soda Ash

Approximately 90% of the world’s natural soda ash (trona) reserves are located in Green River, Wyoming. Natural soda ash makes up ~ 23% of the global soda ash market and is expected to continue taking share globally due to cost advantages. To give an example of the large cost advantages, U.S. trona production costs are roughly 55% of synthetic European Solvay, 52.5% of synthetic Chinese Solvay, and 43.5% of synthetic Chinese Hou. Within the next 3 years there is no significant natural soda ash expansions expected to hit the market.

Genesis’ Alkali Business is the world’s largest producer of natural soda ash. The Alkali Business produces approximately four million tons (3.5 w/ the mothballing of Granger) of natural soda ash per year, representing approximately 28% of all the natural soda ash produced in the world and, based on current production rates, has an estimated reserve life remaining of over 100 years.

Genesis Specific Commentary on the soda ash market:

“In terms of soda ash market dynamics, we are seeing a steady near-term improvement in worldwide supply and demand balances for soda ash as the world's economies begin to reopen, along with certain supply responses, like the temporary mothballing of our Granger facility and more permanent reductions in capacity in China, as well as short-term supply disruptions from flooding in Central China. In other words, the market is working through inventories and existing boluses in the soda ash supply chain that developed at the end of last year became materially worse as a result of the economic reaction of COVID-19.”  GEL Q3 2020 Transcript

“It's important to point out that if our Westvaco facility is sold out of its roughly 3.5 million tons per year of production, and there's a return to something akin to 2019 prices, our soda ash business is quite capable of generating $160 million plus per year segment margin and EBITDA even with no volumes from Granger. Having said that, we remain excited and on track with our Granger expansion project. We believe when it comes online in late 2023 and expanded 1.2 million tons per year, our Granger plant will be one of the most economic soda ash production facilities in the world, similar to our world-class, if not leading Westvaco production facility. This will allow all of our production from Granger to compete more favorably for both growing incremental global demand as well as displacing significantly more expensive synthetic production.”  Q3 2020 Transcript

Upcoming Renewables Theme:

“Our soda ash business will increasingly participate in multiple renewable energy themes moving forward, including the production of new LEED-certified glass windows to retrofit older buildings, manufacturing of glass for solar panels and the production of lithium carbonate and lithium hydroxide, the basic building blocks of lithium-ion phosphate batteries using both the electrification of vehicles and long-term battery storage. In addition to being a building block of lower emissions initiatives, U.S. natural soda ash, according to third-party reports, has a greenhouse gas footprint roughly 37% less than Chinese synthetic soda ash when leaving their respective manufacturing sites and approximately a 22% less greenhouse gas footprint than Chinese synthetic soda ash on a delivered basis to customers in Japan and Southeast Asia after factoring into emissions incurred in rail and shipping transportation. The process to produce synthetic soda ash also creates by-products such as calcium chloride and ammonia chloride, which need further handling and ultimately increased synthetic soda ash's carbon footprint. This further demonstrates how low-cost natural soda ash produced from the largest known natural deposits of trona in the world right here in the United States is the most economic and equally important, most environmentally friendly soda ash in the world.”

GEL management put out some interesting comments in recent presentations surrounding lithium ion demand and how much incremental soda ash demand could be generated by just the global EV market. They believe based on estimated future demand there could be an incremental 6mn tons of demand coming from EVs by 2030-2035. This estimate does not include additional lithium ion demand arising from utility level storage solutions or on premise residential storage growth. In approximate terms it takes 2 parts soda ash per every 1 part lithium. 

Overall within the soda ash segment, the Westvaco facility (3.5mn tons) does approximately $160mn in segment EBITDA. If you add back Granger (1.2mn tons) with similar efficiencies coming back online you could get an incremental $55mn in EBITDA.  If one assumes a further pricing recovery you could easily see ~ $225mn+ in EBITDA coming from the combined soda ash operation, or just under 35% of expected 2023 consensus adj. EBITDA.

Conclusion

Genesis (GEL) is a compelling buy at ~ $7.00, that we estimate could have 12-month upside potential of ~ 200%+. Genesis represents a rare opportunity to own a cheap inflation hedge (and economic recovery play) with high quality assets at a deeply discounted valuation that the market has not yet fully appreciated. GEL currently trades on depressed consensus CY ‘21 FCF yield of ~25% FCF to equity, while most excess FCF will be used to pay down debt. We think the trajectory alone of incremental EBITDA coming into 2022 should materially re-rate the multiple. Keep in mind Genesis was a $25 stock (paying out > $2.00 per year in distributions) in ‘18 and ‘19 with less adj. EBITDA (than ‘21 consensus) and a similar levered capital structure. If GEL is able to get to $750mn in adj. EBITDA target and back to a low double-digit multiple, it is quite easy to see how this could be a multi-bagger in short order.

Catalyst

Multiple re-rating, Increased distribution, No Federal drilling ban, Inflation, EV demand play, and an oil company with a green ESG component.