Pipeline MLP company Buckeye Partners L.P. (BPL) has paid out more in quarterly distributions than the realized distributable cash flow since the second quarter of 2011. The company continued to increase the dividend each quarter even as it was spending significantly larger amounts on capital expenditures. The results from the next couple of quarters will be significant for investors.
Buckeye Partners primarily provides refined petroleum product pipeline and storage services in the midwest and northeast sections of the U.S. The company generates about one-quarter of annual EBITDA with its international storage and pipeline operations. The international assets include one of the world's largest petroleum storage terminals at the BORCO facility in the Bahamas.
2011 Spending Spree
Starting in late 2010, Buckeye Partners made significant asset purchases and operational changes which have resulted in a company much different from the one which closed out 2010. The major purchases included $1.7 billion deal for the BORCO Bahamas terminal and $165 million spent for BP Plc. (BP) pipeline and terminal assets in the U.S. Midwest. At the end of 2010, Buckeye bought in the publicly traded general partnership with the issuance of 20 million limited partner units. As a result of these growth initiatives, the number of units outstanding increased to over 90 million at the end of 2011, compared to 26 million at the end of 2010. Now, in July 2012, the company has completed the $260 million purchase of the Perth Amboy liquid petroleum products terminal in New York Harbor from Chevron (CVX). The Perth Amboy deal was done for cash, so should be non-dilutive to unit holders.
As a result of the rapid increase in unit issuance plus some market hiccups such as flat growth of gasoline sales in the U.S. and a terrible natural gas market for the company's $400 million gas storage facility in California, the distributable cash flow for Buckeye Partners has not kept up with the company's increasing distribution rate. Through the end of 2011 - for the dividend paid in February 2012 - Buckeye Partners had increased the payout every quarter since mid 2004 and the annual distribution amount has grown every year since 1995. The quarterly increase string was broken for the 2012 first quarter, when the $1.0375 payout was the same as for the previous quarter.
However, since the 2011 second quarter, the distribution amount has been greater than the reported distributable cash flow. Backing up the $1.0375 distributions for the 2011 fourth and 2012 first quarter were cash flows of 84 cents and 85 cents, respectively.
Over the last six quarters, Buckeye Partners has become asset rich and somewhat cash flow poor. The combination of the BORCO and New York Harbor terminals gives the company some tremendous assets to supply petroleum products to the refining capacity challenged U.S. East Coast. At this point in time the money spent and L.P. units issued have not yet produced enough per unit cash flow which could be paid out to investors. Yet the company has continued to increase the distribution in 2011 and maintain the payout at a high level so far into 2012.
In my opinion, the prudent path for Buckeye Partners would be to reduce the distribution down to a sustainable level and restart the distribution growth path. Paying out cash which has not been earned does not provide a long term benefit for investors. On the flip side, a dividend cut would hit the unit value - down 15% so far in 2012 - hard. It may be some time before the cash flow reaches a level to support the current distribution rate. If the second quarter results - to be released on August 2 - show continued low cash flow or a dividend cut is announced, the share price could drop another 10%.
The cash flow/distribution rate problems indicate BPL is overpriced even at the current 7.6% yield. Using a distributable cash flow amount of $3.40 - $0.85 times 4 - and a 7% yield on that cash flow, the shares would be an attractive value at around $48 - $6 below the current share price. I will follow up on this article following the earnings release.