After a great 2012 in the pipeline business, Plains All American Pipeline, L.P. (PAA) completed a transaction to increase the focus on rail transportation growth. The company finalized a $500M deal to acquire several loading facilities for railroads though the existing enterprise value of nearly $22B limits the impact of this rail move.
Plains All American engages in the transportation, storage, terminalling, and marketing of crude oil, refined products, and liquid petroleum gas (LPG) products in the United States and Canada.
The move highlights the transformational currents under cutting the pipeline business. As crude oil has been unable to transverse the current pipeline system to reach the refineries on the coasts, the railroads have stepped up with more direct routes that bypass the congested Cushing, OK oil hub. Not only is it a boon to railroads struggling with weak coal shipments, but exploration and refinery companies are access to better pricing than currently available.
Is this a solid long-term plan or short-term moves that will back fire? Spending limited capital on short-term benefits can have lasting impacts to asset quality.
Crude Rail Terminal Purchases
The assets to be acquired include three crude oil rail loading terminals located in the Eagle Ford, Bakken and Niobrara producing regions with an aggregate daily loading capacity of approximately 85,000 barrels per day, a rail unloading terminal at St. James, Louisiana with capacity of approximately 140,000 barrels per day and a project to construct a crude oil unloading terminal near Bakersfield, California.
The company will now have five loading terminals and three unloading terminals with crude oil loading capacity of approximately 250,000 barrels per day. Unloading capacity is expected to total 335,000 barrels per day with terminals located on the East Coast, Gulf Coast, and West Coast.
This move compliments the extensive network of rail facilities for natural gas liquids (NGLS) that includes 18 active loading and/or unloading terminals. The partnership will have approximately 6,700 railcars under lease by the end of 2013.
Top Producer Focusing On Rails
The leading producer, Continental Resources (CLR), in the Bakken region now relies on rails to ship over 65% of oil produced in that region in order to take advantage of price differentials from using rail shipments to the coasts. In the Q3 earnings report, the company saw a $3.18 per barrel sequential drop in the oil differential from the previous quarter mainly due to the additional capacity and transportation to the coasts provided by rail.
Numerous other examples exist where producers are favoring the rails over pipelines. In fact, Oneok Partners (OKS) announced the cancellation of the Bakken Express Crude pipeline due to lack of commitments highlighting the recent market share advancement of rails.
Analyst Raises Estimates
Credit Suisse quickly raised estimates on Plains All American based on the deal. The analyst raised the distributable cash flow per unit for 2013 and 2014 by $0.18 and $0.22, to $3.59 and $3.76 respectively. The analyst raised the EPS by similar amounts for the same years.
With a target price of $52, the analyst sees a solid gain combined with the nearly 5% distribution.
The MLP remains on a tear having hit 52-week highs in early December. The yield is now down to only 4.8% after the long run. As the chart below shows, even with the surging distributions, the strong stock price gains have eaten up the those distributions to reduce the yield:
The rail transportation of oil clearly provides a short-term advantage for a company with a large advantaged set of rail assets. The question will remain whether building an infrastructure to support a short-term advantaged solution is a smart long-term plan.
Some of the offloading facilities will maintain the long-term benefits with the constantly shifting landscape of the shale regions. The company will likely always have routes from new regions that are able to ship oil by rail where pipeline capacity is not sufficient. Will the Bakken always remain beneficiary for railroad transportation? The extra costs to transport via rail suggest it has a disadvantage that pipelines will eventually over come.
This advanced move into rail will work until it doesn't. Luckily for investors, they can ride the rail until it makes sense to hop back into the pipeline. Stock investors don't have to be stuck with the asset if the market changes.
Additional disclosure: Please consult your financial advisor before making any investment decisions.