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Energy Transfer Partners L.P. (NYSE:ETP) is a large publicly traded partnership with a diversified set of energy related assets.

  • Distribution Yield: 7.40%.
  • Distribution Growth: 0% (for 12 quarters between 2008 and 2011).

I consider ETP to be at a reasonable value at the current price. The lack of current distribution growth is problematic, but the yield is high and the future is what is important for investors. Considerable levels of investment between 2007 and 2011 may lead to increased distribution growth in the future, and a potential acquisition of certain assets of Southern Union (NYSE:SUG), which are currently locked up in a bidding war between Energy Transfer Equity LP (NYSE:ETE) and Williams Companies (NYSE:WMB), would improve the chances of distribution growth.

Overview
ETP is a diversified collection of energy related assets encased in an MLP structure. The general partner and a minority of the common units of ETP are held by Energy Transfer Equity LP.

Intrastate Operations
ETP operates the largest intrastate natural gas pipeline system in Texas, with 7,700 miles of intrastate pipeline. It also havs three storage facilities.

The ET fuel system consists of 2,600 miles of natural gas pipelines with a throughput of 5.2 Bcf/d, serves significant drilling areas, and includes hundreds of receipt and delivery points. The Oasis pipeline is a 36-inch diameter, 600-mile long, bi-directional pipeline that connects the Katy Hub to the Waha Hub and has a significant number of connections to various pipelines and market points. The HLP System is a 5.5 Bcf/d 4,100-mile long system with access to various reserves, shipping areas, distribution hubs, and other systems. The East Texas Pipeline is a 370-mile system that connects multiple treating facilities.

Midstream Operations
ETP's Midstream Operations Segment operates 7,000 miles of natural gas gathering pipeline, and 30 facilities for processing, treating, or conditioning. The Midstream Segment has many assets, with the largest being the Southeast Texas System. This 5,200-mile gathering system covers 13 counties and connects to several major hubs and pipelines.

Interstate Operations

ETP operates key interstate pipelines for transporting natural gas. The ETC Tiger Pipeline is a 175-mile. 2 Bcf/d connection that serves parts of Texas and Louisiana, and connects to several other interstate systems. The Fayetteville Express Pipeline is a 185-mile, 2 Bcf/d joint venture between Kinder Morgan (NYSE:KMI) and ETP, connecting Arkansas to Mississippi. The Transwestern Pipeline is a 2,700-mile system connecting to several southwestern states with a capacity of 2.1 Bcf/d.

Propane Operations
Heritage Propane and Titan Propane, subsidiaries of ETP, serve over 1 million customers in 41 states with propane. ETP is one of the largest propane marketers in the country, and has a history of making hundreds of small or medium sized acquisitions.

Financial
Energy Transfer Partners had a considerable drop in revenue from 2008, but maintained solid income and cash flow levels. The partnership has been issuing units to make investments to diversify their portfolio of assets.

Revenue
2010$5.885 billion
2009$5.417 billion
2008$9.294 billion
Net Income
2010$617 million
2009$792 million
2008$866 million

Over this period, the number of units outstanding has increased from approximately 147 million to 189 million, and the general partner has received a larger absolute amount of available cash. Net income per unit, therefore, has decreased from $3.74 in 2008 to $1.20 in 2010. Available analyst estimates for per share net income expect these numbers to rebound considerably in 2011 and 2012.

Balance Sheet
ETP does have a bit more debt than I would like to see in an investment. Credit ratings are BBB-, but management has repeatedly stated a commitment to maintain or improve its investment grade status. Debt maturities are nicely spread out, ranging in maturity from 2012 to 2038. In 2010, ETP had $1,058 million in operating income and paid out $413 million in interest on debt, resulting in a coverage ratio of a bit over 2.5, which is acceptable and stable.

Distribution
The disheartening aspect of ETP has been the 12 consecutive quarters of the same distribution payment to unit holders. However, the yield is very high, and distribution increases may resume as returns on years of investment begin to come in fully. The high yield offers a steady rate of return and considerable income for those in the harvest stage of their portfolio.

ETP currently pays $0.89375 per quarter, or $3.575 per year, per unit. Prior to this 12 quarter period of flat payments, ETP had meaningful distribution growth. ETP still does have the goal of increasing the distribution. Units currently have a yield of 7.40% based on the price of the units at $48.32.

Investing Thesis
ETP's intrastate transportation and storage business is not necessarily its most attractive segment despite being its core business. There is significant income from steady fees, but aspects of this business and the midstream business thrive when there are significant price differences throughout the state, and profitability decreases when the spreads are reduced, which is what has been occurring. This has played a major part in why the distributions have not been increasing and why revenue has been reduced.

Percentage of Operating Income by Segment
Segment200820092010
Intrastate65%56%49%
Midstream14%12%21%
Interstate11%12%13%
Propane10%20%17%











Fortunately, ETP continues to invest heavily in other areas through both internal projects and joint ventures, and therefore adjust its operations so that it draws in more and more income from other areas.

ETP spent approximately $1.3 billion in 2009 towards growth, maintenance, and joint ventures, and another nearly $1.4 billion in 2010. Another $1.2 billion or so is estimated for 2011. A fairly small percentage of these figures is put towards maintenance, with the rest being used for growth, so this period of flat distributions can be understood as a period of high investment and re-focusing of the business to diversify its income streams and have less reliance on its intrastate transportation and storage system.

Recent Events
There is currently a deal in the works for ETP's general partner holder, ETE, to acquire Southern Union, but the competing offer from another business, Williams Companies, has complicated matters, and it has turned into an outright bidding war. ETE originally put forth a combination equity/cash deal, but WMB offered an unsolicited higher pure cash offer, and ETE responded with a higher combination equity/cash deal, and WMB offered a yet higher pure cash deal. Although ETE's offer is currently not as high as WMB's in terms of market value, the tax benefits from receiving units rather than cash can fill the gap, and $1.67 per share of WMB's offer would go to ETE for breakup costs. It remains uncertain how the events will unfold.

If this acquisition of Southern Union by ETE ultimately occurs, by 2012 Southern Union's 50% interest in Citrus Corp will be sold by ETE to ETP for $1.9 billion, which ETP will pay for with a combination of debt and equity sales (increased common units) in order to maintain its investment grade rating. Moreover, if this were to occur, ETE has agreed to relinquish its incentive distribution rights on these drop-down assets for four years, resulting in $220 million in savings for ETP and significantly raising the chance of ETP being able to increase its own distribution to unitholders. Citrus Corp is the holder of 5,500 miles of Florida pipeline, and this would significantly expand ETP's interstate portfolio. In addition, ETP would potentially have other drop-down opportunities from ETE if the acquisition were to occur.

Risks
Energy Transfer Partners carries significant risk. The intrastate system has exposure to changes in commodity costs, although derivatives are used to smooth out the volatility. Profitability for its intrastate and midstream segments is reduced when there are minimal pricing differences across the state. ETP has considerable leverage, although interest payments are well-covered by cash flows. A significant percentage of its assets are located towards the south and east portions of Texas, and are vulnerable to weather-related problems. There are broader risks including MLP tax structure risks, risks associated with cost of capital, environmental, regulatory, and litigation risk, and so forth. All of this is somewhat balanced by the nature of the pipeline business in general; these are long-term hard assets that tend to be stable and profitable. There may also be risk due to conflicts of interest between ETP and the holder of ETP's general partner, ETE, and ETE's other holding, Regency (RGNC), although the opposite may be true as well: ETE and Regency may be a source of stability and opportunity for ETP.

ETE is in a mature phase of its distribution rights to ETE (the holder of ETP's general partner), meaning that it pays out a high percentage of its total cash distribution to ETE (over a third). This makes it harder to boost distributions to limited partners, because it has to acquire cash flows at very attractive prices to be able to both increase distributions on its units and pay more to its general partner. If ETE is unable to win the bidding war for SUG, and is therefore unable to drop down some of SUG's assets with an attractive incentive distribution rights waiver, then any distribution growth for ETP will have to come from organic growth and profitability or other acquisitions rather than this shorter term large acquisition opportunity. Also, should ETE lose the bidding war for SUG, ETP's stock price may take a temporary hit due to lower expectations and fewer opportunities.

Conclusion
In conclusion, I think that ETP is among the better value plays compared to other MLPs, although there is currently considerable uncertainty. A flat distribution during these hard economic times and its fairly unimpressive balance sheet justifiably weigh the price down. But ETP has spent considerable sums on broad investment between 2007 and 2011, which should provide increasing returns over the next few years. The partnership offers a very high current yield for those looking to live off of investment income, and there is upside potential should the distribution resume increasing.

Source: Energy Transfer Partners: A Stable 7.4% Distribution Yield