Description

Genesis Energy, L.P. (“GEL”) is a diversified MLP trading at a 22.0% 2026E FCF yield with FCF positively inflecting this year.  We believe GEL is undervalued primarily due to its conservative, but temporary payout policy, as GEL has held distributions at depressed levels (after a 73% cut in March 2020), despite earnings surpassing pre-COVID levels.  This low distribution, combined with negative FCF in the last few years due to a growth capital expenditure program, has deterred yield and short-term focused investors.  However, several catalysts in the next 12 months should improve valuation, starting with significant distribution increases as GEL’s earnings contractually grow, and capital expenditures revert to maintenance levels.

GEL's operations are divided into four segments:

1. Offshore Pipeline Transportation (50% of segment EBITDA):  GEL owns and operates irreplaceable pipelines transporting crude oil from deepwater Gulf of Mexico to onshore markets.  Notably, its CHOPS and Poseidon pipelines are known as “the highway to shore” for Gulf of Mexico producers, as GEL’s pipelines are the sole transportation option for Central Gulf of Mexico production to shore.  With a multi-year offshore investment cycle underway, GEL's earnings are poised for sustainable growth, backed by long-term contracts.  We also believe earnings are sustainable beyond the current growth phase as deepwater projects typically produce for 15+ years, and slow decline curves of 5-8% are often offset with low-cost tiebacks.  GEL has invested heavily in building pipelines for the Shenandoah and Salamanca platforms, both slated to come online in mid-2025.  These contracts are backed by long-term take-or-pay agreements and will increase segment EBITDA by 27%.
2. Soda and Sulfur Services (32% of segment EBITDA):  GEL operates as a leading, low-cost producer of natural soda ash in North America.  Due to its scarcity, natural soda ash accounts for only 28% of global soda ash production despite being 50%+ cheaper to produce than synthetically produced soda ash (the only other alternative).  GEL's strategic advantages lie in its low-cost facilities, proprietary transportation infrastructure, and recent capacity expansion enhancing its economies of scale.  These advantages allow GEL to remain profitable despite soda ash prices falling to trough levels since mid-2023.  We expect soda ash prices to improve as higher cost producers shut down capacity (which happens during this part of the cycle), and the secular growth tailwind of increasing demand for solar and lithium, both of which use soda ash, continues.  The remaining 25% of the segment’s EBITDA comes from the refinery sulfur removal operations.  Operating gas processing units located within refineries for sulfur removal, this business is backed by long-term contracts and generates consistent cash flow through economic cycles.
3. Marine Transportation (14% of segment EBITDA):  GEL owns and operates a fleet of Jones Act tankers, providing transportation services in the US primarily for refined products.  GEL stands to benefit from favorable earnings in the medium term given the limited supply of Jones Act vessels in the market today and no new supply due to the considerable rise in shipbuilding costs.  Peer Kirby (ticker: KEX) is also experiencing earnings tailwinds and confirms the sustained positive outlook.  On GEL’s 1Q2024 earnings call, the CEO stated: “contract rates need to rise upwards of 40% from here in order to rationalize the new construction of comparable marine equipment.  This is driven by the increased cost of steel, extended construction timelines, lack of available shipyard space and the increased cost of capital.  We are, therefore, not alone in thinking that these market fundamentals could last upwards of an additional 3 to 5 years, all of which lead me to believe our Marine Transportation segment is well positioned to deliver record and growing earnings over the coming years.”   KEX had similar comments on its 1Q2024 earnings call: “prices to justify new construction are still 40% plus away.  So we just don't see any new building.  People are busy trying to maintain their fleets.  Cost of money has gone up.  So we don't see a lot of new supply coming in.  Demand is pretty solid right now.  So we feel really optimistic.”
4. Onshore Facilities and Transportation (4% of segment EBITDA):  GEL operates a portfolio of onshore pipelines, trucks, terminals, and rail unloading facilities.  They are largely integrated with GEL’s offshore pipeline systems and will benefit from the increased offshore volumes.

GEL’s current earnings are severely understated, and we believe there is 29%+ near-term EBITDA growth potential for GEL in the offshore segment and soda ash business driven by the completion of the two large capital expenditure programs and earnings recovery in the soda ash business. 

1. In 2022, GEL won contracts to provide downstream transportation services for two Gulf of Mexico offshore developments, Shanandoah and Salamanca.  Leveraging existing pipelines to win the contracts, GEL is investing $550 million between 2022 and 2024 to expand pipeline capacity and to build lateral lines connecting to the production platforms.  GEL’s favorable position allows it to earn an attractive return on investment, as the two contracts generate $110 million EBITDA annually and are backed by life of lease and take-or-pay agreements.  The investment also creates excess capacity and positions GEL for additional volumes and upside.  With capex associated with these projects set for completion by the end of 2024, earnings are slated to increase from mid-2025, driving 15% consolidated EBITDA growth.
2. GEL’s Granger soda ash facility was historically subscale and was idled in April 2020 as COVID-19 caused significant short-term disruption in the market.  When soda ash demand came back, GEL greenlit an expansion project at Granger in 2021 to increase its scale.  GEL’s $400 million investment in the Granger facility from 2021 to 2023 not only expanded GEL’s production capacity by 1.3 million tons annually, but it also made the facility much more cost competitive allowing it to ramp and operate during the current trough soda ash pricing environment – historically this would have been mothballed due to its prior higher cost.  The increased production capacity should enable $80-$100 million of incremental EBITDA annually.
3. Soda ash prices have been at a trough since mid-2023 due to new supply from China and global macro weakness, suppressing GEL’s earnings in this segment.  However, due to its low-cost advantage, GEL’s soda ash business remains resilient and free cash flow positive, while higher cost synthetic producers have started to shut down capacity as they lose money.  Requiring expensive raw materials and extremely energy intensive, the synthetic soda ash production process can cost twice as much as natural production.  It also emits 59% more GHG emissions when compared to natural production, making it undesirable for customers focused on carbon emission reduction.  We expect GEL’s soda ash business to ride out the pricing downturn profitably, with $100+ million of EBITDA recovery potential in the coming years as supply-demand dynamics improve, driving an additional 14%+ consolidated EBITDA growth.

Putting the above together, EBITDA should increase from $701 million in 2024 to $892 million in 2026 assuming soda ash prices revert to normalized levels.  Capital expenditures should fall from $350 million in 2024 to $155 million in 2026 as the growth projects are completed at the end of this year.  Therefore, GEL is near a FCF inflection point and is poised for significant distribution increases after years of low distributions.  During C19, GEL slashed its annual distribution by 73% to $0.60/sh to preserve cash.  Since then, the company allocated $950 million of growth capital toward the offshore and soda ash projects, resulting in negative FCF each year since 2021 and restricting its ability to increase distributions.  As major growth capex reaches completion by the end of 2024 and revenue from the new contracts are recognized beginning mid-2025, we expect GEL to generate $2.76/sh of FCF in 2026, a 22.0% FCF yield.

GEL’s FCF generation starting 2025 will unlock significant shareholder return potential.  During GEL’s 1Q2024 earnings call, the CEO stated: "absent unforeseen circumstances, we continue to anticipate being able to generate roughly $250 million to $350 million or more of cash per year in excess of all of the current cash requirements to run our businesses...We will continue to evaluate the various levers we can pull to return this capital to our stakeholders, including paying down debt, repurchasing additional amounts of our corporate preferred security, raising our common distribution and/or purchasing what we view as mispriced publicly-traded securities."  There is strong shareholder alignment as insiders collectively own 11.3% of the shares, and we believe any of the above capital return paths is a good option for increasing shareholder value.  Management has said they have no desire to make large acquisitions and prefer to simply harvest the FCF from the current operations.  They might even look to sell smaller businesses like Marine Transportation.  Notably, GEL has no growth capital expenditures planned and can sustain a $2.20/sh distribution on a projected $3.01/sh of 2026 distributable CF (73% payout ratio), or a 17.5% distribution yield on the current price.  We believe distribution increases and a shareholder focused capital allocation strategy will lead to re-rating of the stock back to its historical multiple of 9.3x EBITDA, which would lead to 136.7% upside.

Catalyst

1. FCF inflection in 2025
2. Increasing return of capital