Among the upstream MLPs, QR Energy (NYSE:QRE) has always been the cheapest. As I noted in a May 21 article, QR Energy was trading at a sharp discount, with a P/DCF multiple under 9.0x, compared to a peer average of around 11x. As a result, today's (July 24) news that QR Energy was being purchased by BreitBurn Energy Partners (NASDAQ:BBEP) does not come as much of a surprise.
Under the terms of the merger agreement, holders of QR Energy's Common and Class B units, including those issuable upon a change in control, will receive approximately 72 million Breitburn common units, or 0.9856 of a BBEP unit for each unit of QRE held. The consideration to be received by QR Energy unitholders is valued at $22.48 per unit, based on Breitburn's closing price of $22.81 on July 23, 2014, representing a 19% premium to QRE's closing price of $18.87 on July 23, 2014. The transaction is expected to be tax-free to QR Energy's unitholders other than the holders of QR Energy Class C Convertible Preferred Units who will receive an aggregate of $350 million cash at closing.
The transaction has been unanimously approved by the boards of directors of Breitburn and QR Energy, including the Conflicts Committee formed by the QR Energy Board of Directors. Certain QR Energy unitholders owning approximately 37% of the votes of the outstanding QRE units have agreed to vote in favor of the transaction. In addition, holders of QRE's Class B contingent units have agreed to reduce the outstanding number of such units by approximately 42%, subject to closing adjustments. Completion of the transaction is subject to the approval of QR Energy unitholders, certain regulatory approvals, and customary closing conditions. The transaction is expected to close in late 2014 or early 2015.
Breitburn's senior management team will lead the combined company and intends to employ all of QR Energy's talented roster of engineering, operations, and support staff, excluding those that are being retained by Quantum Resources Management, LLC. Breitburn will add a new member to its Board of Directors after closing, and Breitburn and QR Energy will mutually agree upon that individual.
Breitburn has received a firm commitment from Wells Fargo Bank, N.A. to increase the borrowing base under Breitburn's credit facility to $2.5 billion in connection with the transaction. Breitburn will continue to monitor market conditions for opportunistic refinancing transactions over the coming months.
What does this transaction mean?
For QR Energy unitholders, I would consider selling if you are long the stock. You are getting a nice premium upfront. In addition, you would avoid the risk of the transaction getting delayed, postponed, or canceled. This deal marks one of the largest ever for the upstream MLP sector. As we saw with Linn Energy and Berry, hiccups can and do occur.
However, I also understand the case for staying long and receiving the BBEP units. Once closed, BreitBurn plans to increase its distribution to $2.08 per unit. At the current exchange rate, this represents a yield of over 11% assuming you bought in at under $19 per unit.
For BreitBurn unitholders, you are getting the cheapest upstream MLP at a valuation, which is arguably below the industry average, even with the 19% premium.
In addition, QR Energy's oil focused asset base will greatly enhance the portfolio and should allow for synergies and a lower cost structure. Furthermore, this transaction should be accretive to DCF once closed, allowing the company to boost the distribution by a penny per quarter.
With QR Energy now being sold, I think now is the time to ring the register and take some profits. If you bought in after QR Energy bought out its GP, your cost basis is likely below $18 per unit, not including any distributions, representing a 25% gain in less than two quarters.
Disclaimer: The opinions in this article are for informational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned. Please do your own due diligence before making any investment decision.
Disclosure: The author is long QRE. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article. I may close my QRE long within the next few days.