Niska Gas Storage Partners IPO: Poor Structure for Public Unit-Holders

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 |  Includes: EPD, NKA, PNG, SEP
by: Bill Simpson

Bill Simpson wrote an analysis of Niska Gas Storage Partners (NYSE:NKA) to TradingIPOs subscribers on May 8. The company's initial public offering of at least 17.5 million units priced at $20.50 each Tuesday May 11, near the low end of its expected range of $20 to $22.

The text of Mr. Simpson's original writeup follows:

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Niska Gas Storage Partners plans on offering 20.1 million units (assuming over-allotments) at a range of $20-$22. Goldman Sachs and Morgan Stanley are leading the deal, eight other firms co-managing. Post-ipo NKA will have a total of 71 million units outstanding for a market cap of $1.49 billion on a pricing of $21. Ipo proceeds will be used to repay debt.

Holdco will own 70% of NKA post-ipo as well as incentive distribution rights and managing interest. Holdco is owned by private equity firms Carlyle and Riverstone.

From the prospectus:

'We....own and operate natural gas storage assets.'

Carbon copy deal of recent successful ipo PAA Natural Gas Storage L.P. (PNG). Both are North American based natural gas storage partnerships.

NKA owns and/or operates 185.5 billion cubic feet (Bcf) of total storage capacity, about four times the size of PNG. NKA is the largest independent owner and operator of natural gas storage assets in North America.

Need - Supply of natural gas throughout the year remains stable, however demand fluctuates seasonally. NKA provides customers with the ability to store gas for resale or use in higher value periods.

Storage facilities are located in Alberta, Canada, northern California, and Oklahoma.

92% of capacity is utilized by third-parties, however only 68% of revenues are derived from third parties. Third parties contract for storage over long term contracts, averaging 3.3 years.

Proprietary optimization - NKA fills in their capacity gaps by purchasing, storing and selling gas for their own account. NKA hedges their own purchases by immediately entering into forward sales contracts for purchased volume. Proprietary purchases historically have accounted for 8% of capacity, but 32% of revenues.

Financials

NKA will have substantial debt post ipo of $915 million. By contrast, PNG came public with $200 million in debt. With the debt levels to available distributable cash, PNG would appear much better positioned to grow yield over the next few years.

Distribution - NKA plans on distributing $0.35 to unit-holders quarterly. At an annualized $1.40, NKA would be yielding 6.7% on a pricing of $21.

Sector Yield - Looking at the natural gas only MLPs, the average yields currently are in the 5 1/2%-7% range. Recent ipo PNG currently trades at a 5.9% yield. Note that most of the natural gas related MLPs are pipeline oriented and not storage. Some do own both, including Spectra Energy Partners, L.P. (SEP) and Enterprise Products Partners LP (EPD).

Fiscal year ends 3/31 annually. FY '10 ended 3/31/10.

FY '10 - $210 million in revenues. Interest expense ate up 40% of operating profits. Earnings per share of $0.19. Earnings per share are not as important here as distributable cash flows. Should be noted, however, that NKA is saddled with good size debt on ipo.

NKA did have sufficient cash flows to have covered the $1.40 2009 distribution per unit, only when borrowings were included. ***Folding out borrowings, NKA would not have had sufficient cash flows in 2009 to fund distributions and capital expenditures. This indicates that any future capital expenditures will need to be funded by debt. Coverage here is pretty much 1:1.

FY '11 - Indeed to 1) fund capital expansion and 2) meet debt servicing obligations, NKA plans on borrowing $76 million in FY '11(ending 3/31/11). A red flag here is NKA plans on borrowing monies to service debt. Not ideal. NKA simply cannot fund their operations and distribute $1.40 annually without borrowing more money. Current debt servicing is killing cash flows. This is not a good structure for unitholders.

Risk - NKA makes a disproportionate amount of revenues on proprietary natural gas purchasing/storing/selling. While only 8% of capacity is used on this, 32% of revenues come from their own gas trading. For a partnership heavily leveraged without sufficient cash flows to fund operations, this brings a whole new level of risk. We've seen a few MLPs 'blow-up' due to management proprietary trading activities. NKA relies heavily on this sort of activity for 1/3 of revenue stream annually.

Conclusion - Largest gas storage operator in North America yielding 6.7% on ipo. That should be a good combination. Note, however, that just to meet operational/debt servicing obligations, NKA plans on increasing borrowing in FY '11 by $76 million. Annual distributions are pegged at $96 million, so in essence NKA is borrowing 75%-80% of their distribution in FY '11. They shift things around to make it appear otherwise, but the reality is NKA's operations and debt levels do not justify a $1.40 annual payout. Factor in too the risk of proprietary gas trading and this is a pass in range.

Structure here is poor for public unit-holders. Much higher quality natural gas partnerships out there yielding similar. Operations seem fine, structure of the public NKA looks risky.