EV Energy Partners Should Be OK Until 2018

| About: EV Energy (EVEP)

Summary

EV Energy Partners appears fine for liquidity with its $450 million borrowing base and likely limited cash burn in the next few years.

However, its credit facility covenants may become problematic in 2018.

It is also highly leveraged, making its 2019 debt maturity challenging to deal with unless we see something close to $70 oil and $4 natural gas by then.

For a long position, the bonds appear to be a better bet than the common units, with a higher current yield and no cancellation of debt income issues.

Sustainability of distribution remains questionable, especially as positive cash flow is only currently being produced by reducing capital expenditures below the level needed to maintain production.

EV Energy Partners (NASDAQ:EVEP) appears to be in decent shape from a liquidity standpoint for now with its $450 million borrowing base and amended covenants. Its situation does start to get challenging in 2018 though, as its current total debt to EBITDAX covenant has a high chance of being violated. As well, the 2019 unsecured debt maturity is going to be challenging to deal with as decreasing production will put its leverage ratio at near 5x even with $70 oil and $3.50 natural gas.

If one wanted a long position in EV Energy Partners, the bonds appear to be significantly more attractive than the common units. The bonds have a higher current yield and rank higher in the capital structure than the common units. The common units face potential cancellation of debt income issues and the ability to sustain a distribution is questionable.

2016 Outlook With $2.50 Natural Gas And $40 Oil

EV Energy Partners has cut capital expenditures to a midpoint of $14 million during 2016, resulting in its estimated production falling by around 6% from Q4 2015 levels. As a result, EV Energy Partners is now expected to generate $246 million in revenue during 2016 (including $64 million in hedge value) if WTI oil averages $40 and Henry Hub natural gas averages $2.50 during 2016.

 

Units

Per Unit

$ Million

Natural Gas (Mmcf)

50,178

$2.10

$105

Oil (Mbbls)

1,283

$36.25

$47

NGLs (Mbbls)

2,348

$12.80

$30

Net Transportation

   

$1

Hedge Value

   

$64

Total

   

$247

Click to enlarge

I estimate that EV Energy Partners will have cash expenses of $208 million in 2016 before distributions, including the $14 million it has budgeted for capital expenditures. This is well below the level of capital expenditures required to maintain production, which appears to be approximately $60 million. At $40 oil and $2.50 natural gas, EV Energy Partners could generate around $39 million in cash flow before distributions, or approximately $24 million after a distribution of $0.30 per unit ($0.075 per unit quarterly).

 

$ Million

LOE and Other

$114

Production Taxes

$8

Cash G&A

$26

Cash Interest

$46

CapEx

$14

Total

$208

Click to enlarge

2017 Outlook With $50 Oil And $3 Natural Gas

A challenge for EV Energy Partners is that it does need to spend more on capital expenditures to maintain production. The 6% decrease in 2016 production levels likely means that 2016's exit rate will be around 10% below 2015's exit rate. If oil improves to $50 and natural gas increases to $3 during 2017, then EV Energy Partners should generate around $220 million in revenue including $2 million in hedge value.

 

Units

Per Unit

$ Million

Natural Gas (Mmcf)

48,420

$2.60

$126

Oil (Mbbls)

1,200

$46.25

$56

NGLs (Mbbls)

2,180

$16.00

$35

Net Transportation

   

$1

Hedge Value

   

$2

Total

   

$220

Click to enlarge

EV Energy Partners will have cash expenses of $244 million before distributions, including $54 million to maintain production levels. The $54 million is slightly lower than before since there is less production to maintain. Thus EV Energy Partners will burn $39 million in 2017 if it wants to maintain production and a $0.30 per unit distribution. It appears to have a breakeven point of approximately $63 oil and $3 natural gas or approximately $50 oil and $3.50 natural gas before distributions. A $0.30 per unit distribution would increase this breakeven point by approximately $9 oil or $0.33 natural gas.

 

$ Million

LOE and Other

$109

Production Taxes

$10

Cash G&A

$26

Cash Interest

$45

CapEx

$54

Total

$244

Click to enlarge

Borrowing Base And Covenants

Although EV Energy Partners had its borrowing base reduced to $450 million, that should be more than sufficient given that it had only $265 million in credit facility borrowings at the end of 2015. EV Energy Partners also had its credit facility covenants amended and I think the interest coverage ratio covenant and the senior secured funded debt to EBITDAX covenant should both be fine now. However, the total debt to EBITDAX covenant that starts in Q1 2018 appears to have a high chance of being violated as it currently is structured. With its current debt load, EV Energy Partners probably needs close to $75 oil and $3.75 natural gas to avoid violating that covenant by the end of 2018.

High Debt Load

Although EV Energy Partners appears to be fine in terms of liquidity and can limit its cash burn to a reasonable level even without hedges, it still has a rather high level of debt. If it is able to pay its credit facility borrowings down to around $240 million by the end of 2016, then it will have around $642 million in net debt. At $50 oil and $3 natural gas, that translates into a 8.6x debt/EBITDA ratio. At $70 oil and $3.50 natural gas, its debt to EBITDA ratio is still 4.9x.

Conclusion

It appears that EV Energy Partners should probably be okay as a company until 2018, when the total debt to EBITDAX covenant may become problematic. The credit facility matures in February 2020 and the unsecured bonds mature in April 2019, so I think the credit facility covenants will be used as additional leverage to ensure that effects of the earlier unsecured bond maturity won't affect the potential credit facility recovery.

The 2019 unsecured debt maturity is going to be challenging for EV Energy Partners to deal with unless oil gets back up to the $70+ level and natural gas starts approaching $4 again. EV Energy Partners is currently limited to spending $35 million on repurchasing the unsecured notes, so it will only be able to repurchase around 20% of the unsecured debt based on current prices.

As with many of the MLPs, I see the bonds as being significantly more attractive than the common units if one wanted a long position though. The 2019 unsecured bonds offer a nearly 20% current yield and are higher up in the capital structure than the common units, which currently offer a 13% current yield. Although I think that EV Energy Partners will have trouble paying back the notes upon maturity, there should be a decent recovery on the unsecured notes given that the first-lien debt is projected to be around 3.2x EBITDA at $50 oil and $3 natural gas. However, there is potentially the risk that the unsecured notes get pushed down the capital structure by second-lien debt.

With the common units, there is also a risk (significant in my opinion) that the distribution gets fully suspended. As well, with any debt repurchases unitholders will get cancellation of debt income passed on to them. The common units are also unlikely to see more than a minimal recovery if EV Energy Partners is unable to refinance/repay its 2019 debt maturity. Thus, the common units seem markedly inferior to the bonds.

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Disclosure: I/we have no positions in any stocks mentioned, but may initiate a short position in EVEP over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Evaluating a long bonds and short common units pair trade.