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We have a positive stance on Targa Resources Partners L.P (NYSE:NGLS) due to the stock offering cheaper valuations and having one of the highest dividend yields (6.3%) as compared to its peers.

The company's profitability is expected to improve in the future, as prices of natural gas and natural gas liquids increase. Also, the company, along with the rest of the sector, will benefit from the boom in crude oil production in North America.

Introduction

Targa Resources Partners L.P , a subsidiary of Targa Resources Corporation (NYSE:TRGP), is headquartered in Houston, and has a market cap of $3.6 billion. NGLS is involved in providing midstream natural gas and natural gas liquid services in the United States. The company operates through two business segments, namely Natural Gas Gathering and Processing, and Logistics and Marketing.

Industry Overview

 

24/8/12

26/8/11

% change

WTI Crude $/bbl

96.15

85.37

12.6%

Natural Gas (Henry Hub, $/MMBtu)

2.79

3.96

-29.5%

NGL Composite $/bbl

38.98

58.57

-33.4%

NGL Composite $/Gal

0.93

1.39

-33.1%

NGL Prices (Mont Belvieu, $/Gal)

   

Ethane (C2)

0.32

0.71

-54.9%

Propane (C3)

0.8

1.54

-48.1%

Butane (N-C4)

1.61

1.82

-11.5%

Isobutane (I-C4)

1.69

2.08

-18.8%

Natural Gasoline (C5)

2.15

2.33

-7.7%

Gross Processing Spread ($/Gal)

0.68

1.04

-34.6%

Gross Processing Spread ($/bbl)

28.56

43.77

-34.7%

As can be seen in the table given above, with the exception of WTI oil, the prices of all commodities have witnessed a decrease from the prices witnessed at the same period last year.

The gross processing spread has also witnessed a decreasing trend, which is due to the declining prices of NGLs.

Yield Spread

As per the report of Credit Suisse analysts, the Alerian MLP Index Trust (AMZX) yields appear cheap as compared to the yields offered by other income-oriented indexes. The spread between AMZX and the 10-year U.S. Treasury bond is around 460bps, which is 39% higher than its average spread since 1999. The spread between the AMZX and investment grade bonds is currently 257bps, which is 111% higher than its average spread; this shows that MLPs are trading at cheap prices.

Hurricane Isaac's Impact on Gas Production and MLPs

Isaac, which is a Category 1 hurricane, reached the U.S. Gulf Coast in the early hours of August 22. The region produces 7% of the country's natural gas, and is home to 30% of the gas processing capacity in the U.S.

MLPs in the region, like Targa Resources Partners (NGLS) and Enterprise Products Partners L.P. (NYSE:EPD), had taken precautionary measures by shutting down pipelines and processing facilities, and had evacuated their staff.

Oil and gas production is slowly ramping up in the aftermath of Isaac, and offshore drilling, refineries and gas processing plants have all witnessed their activities returning to normal.

NGLS had shut down three of its natural gas processing plants in Louisiana, including Stingray, Venice and Yscloskey, due to Isaac. NGLS has announced that its Stingray natural gas processing plant will probably be the first of its plants to restart operations.

Earnings Review

NGLS reported revenues of $1.3 billion, showing a decrease of 24% as compared to the same period last year. EPS followed a similar fate, as the company reported 2Q2012 EPS of $0.35, showing a decrease of 36% as compared to EPS of $0.55 in 2Q2011; the company missed consensus EPS estimates of $0.4.

NGLS reported distributable cash flows of $84.5 million in the second quarter of 2012 as compared to $90 million in the same period last year. The decrease in the distributable cash flow is due to lower earnings and higher capital expenditures incurred during the outgoing quarter. The company paid out dividends of $73.2 million for the quarter on August 12, 2012, which brings the distribution coverage ratio to 1.15x.

The declines in the company's revenue and profitability were due to the lower prices of natural gas and natural gas liquids in the United States, which more than offset the increased sales volume of natural gas and natural gas liquids, as shown in the table below.

 

2Q2012

2Q2011

% change

Plant natural gas inlet, MMcf/d

2,083.0

2,203.6

-5.50%

Gross NGL production, MBbl/d

124.0

126.1

-1.70%

Natural gas sales, BBtu/d

930.3

756.3

23%

NGL sales, MBbl/d

270.3

261.0

3.50%

Condensate sales, MBbl/d

3.7

3.7

0%

Natural gas, $/MMBtu

2.02

4.04

-50%

NGL, $/gal

0.86

1.24

-31%

Condensate, $/Bbl

86.51

98.13

-12%

Source: 10Q and Qineqt calculations

Outlook

We are of the opinion that the MLP sector is poised for growth going forward, due to the boom in crude oil production in the United States. NGLS will be among the beneficiaries of the crude oil production boom, since the increased oil production will generate revenues, as the oil is transported through pipelines operated by the company. However, the depressed natural gas and natural gas liquid prices will adversely affect the profitability of the company. Going forward, we believe that the low natural gas prices and increased export of liquid natural gas ((NYSEMKT:LNG)) will increase the demand for the commodity, thereby increasing the prices of natural gas in the U.S.

Trading at cheaper forward P/E, EV/EBITDA, P/B and P/S ratios, and offering one of the highest dividend yields in the MLP sector, we have a positive stance on NGLS.

Name

P/E

EV/EBITDA

Dividend Yield

PEG

P/B

P/S

Targa Resources Partners

21.2x

8.9x

6.3%

1.8

2.5x

0.5x

ONEOK Partners, L.P (NYSE:OKS)

21.4x

13x

4.6%

3.8

2.9x

1.2x

Kinder Morgan Energy Partners L.P (NYSE:KMP)

32.2x

13.7x

5.9%

1.6

4x

3.6x

For a detailed analysis of Kinder Morgan Energy Partners L.P , please review our report, "Buy Kinder Morgan: Stable Business Model, High Dividend Yield".

Source: Buy Targa: Dividend Yield Of 6.3%, Cheap Valuations