Plains All American Pipeline's 4Q15 Results - Key Facts And Trends For Investors To Consider

| About: Plains All (PAA)

Summary

Operating profit and Adjusted EBITDA declined 28% in 4Q15 vs. 4Q14 mainly due to lower margins at the commodity price sensitive Supply & Logistics segment.

Actual results for 2015 fell just short of guidance ($2,168 million Adjusted EBITDA, 1.5% less than projected). Oil price forecasts used in the 2016 guidance appear overly optimistic.

Growth in distributions has been outpacing DCF growth since 2Q13; halting further distribution increases was prudent. Even so, 2016 coverage is forecast to average an unhealthy 0.87x.

Eliminating the need to access capital markets in 2016 by issuing $1.6 billion in preferred stock was also a prudent decision.

This article analyses some of the key facts and trends revealed by 4Q15 results reported by Plains All American Pipeline L.P. (NYSE:PAA).

PAA transports, stores and markets crude oil and refined products; it also transports, processes, stores and markets natural gas liquids ("NGL") and owns and operates natural gas storage facilities. PAA's operations are managed through three operating segments:

  1. Transportation Segment: fee-based activities associated with transporting crude oil and NGL on pipelines, gathering systems, trucks and barges;
  2. Facilities Segment: fee-based activities associated with providing storage, terminal and throughput services for crude oil, refined products, natural gas and NGL, NGL fractionation and isomerization services and natural gas and condensate processing services; and
  3. Supply & Logistics Segment: margin-based activities associated with sale of gathered and bulk-purchased crude oil, sales of NGL volumes purchased from suppliers, and natural gas sales associated with natural gas storage operations.

Segment profits for recent quarters are presented in Table 1 below. Segment profit is one of the key metrics used by management to evaluate performance of its business segments. It is defined as revenues plus equity earnings in unconsolidated entities less: a) purchases and related costs, b) field operating costs and c) segment general and administrative expenses. It excludes depreciation and amortization.

Table 1: Segment Profit, excluding "Selected Items Impacting Profitability"; figures in $ Millions (except per unit amounts and % change). Source: company 10-Q, 10-K, 8-K filings and author estimates.

Segment operating profit declined 28% in 4Q15 vs. 4Q14 mainly due to lower Supply & Logistics margins (as was the case in as in the prior three quarters). Unlike the Facilities and Transportation segments that are predominantly fee-based businesses, a substantial portion of Supply & Logistics is margin based and hence, as seen in Table 1, results are far more volatile.

Sharply lower operating profits at the Facilities segment also mean sharply lower earnings before interest, depreciation & amortization and income taxes ((EBITDA)), as shown in Table 2, as the two metrics are roughly equivalent. PAA applies some adjustments to get from the former to the latter. However, Adjusted EBITDA, a key metric used by management to evaluate PAA's results, can differ materially from EBITDA because significant items (such as equity-based compensation, inventory and foreign currency revaluations, acquisition related expenses, and derivative losses on commodity transactions) are added back. PAA refers to these adjustments as "selected items impacting comparability" and has wide latitude in deciding what to include (for example, items it deems not indicative of core operating results and business outlook).

Table 2: Figures in $ Millions (except % change). Source: company 10-Q, 10-K, 8-K filings and author estimates.

Overall, the operational parameters (segment profit, EBITDA) declined at a far lower pace than did the price per unit in 4Q15.

As part of its 3Q15 earnings announcement on November 3, PAA decreased its Adjusted EBITDA guidance for 2015 to $2,200 million citing adverse effects on PAA's margins and volumes of production declines (or, in certain areas, reduced volume growth), aggressive competition due excess crude oil and refined products takeaway capacity, low prices for oil, gas & NGLs, as well as regional market differentials and credit risks associated with ship-or-pay commitments. Actual results for 2015 fell just short of guidance ($2,168 million, 1.5% less than projected).

As promised, the 4Q15 earnings announcement provided preliminary guidance for 1Q16 and the full year. Table 2 presents the midpoint of selected guidance numbers and shows how PAA calculates distributable cash flow ("DCF"):

Table 3: Figures in $ Millions (except units outstanding). Source: company 10-Q, 10-K, 8-K filings and author estimates

Built into the guidance (among numerous other variables) are assumptions of oil prices at $35, $45, $55 and $60 per barrel in 1Q16, 2Q16, 3Q16 and 4Q16, respectively. One wonders why management with a history of being conservative did not use lower prices. Regarding risk to the guidance associated with non-investment-grade producer contracts, management's assessment is that it is relatively modest and, in a worst case scenario, would reduce 2016 adjusted EBITDA guidance by ~2%. Given market volatility, PAA expects to adjust its guidance as the year unfolds.

Table 4 shows growth of total distributions far outpaced that of distributions to limited partners. This benefited PAA's general partner, Plains GP Holdings (NYSE:PAGP). The table also shows the pace of quarterly growth in total dollars distributed vs. the comparable prior year period far outpaced similar period growth in DCF. This trend goes back as far as 2Q13.

Table 4: Figures in $ Millions (except % change). Source: company 10-Q, 10-K, 8-K filings and author estimates.

In light of this trend, the diminished prospects for accelerated DCF growth in the current economic environment and the decline in coverage ratios shown in Table 5 below, the decision not to increase distributions announced on January 12, 2016, appears prudent and was anticipated in my prior article.

Table 5: $ millions, except ratios. Source: company 10-Q, 10-K, 8-K filings and author estimates.

PAA's 2016 distribution coverage guidance is 0.87x based on flat distributions at the current rate of $0.70 per unit per quarter. NGL volumes and margins are typically highest in the first and fourth quarters of each year due to weather-driven demand in the winter months. Coverage in the first and fourth quarters is therefore expected to be higher than 0.87x but lower for the second and third quarters.

DCF is one of the primary measures typically used by a midstream energy master limited partnership ("MLP") to evaluate its operating results. Because there is no standard definition of DCF, each MLP can derive this metric as it sees fit; and because the definitions used vary considerably, it is exceedingly difficult to compare across entities using this metric. Additionally, because the DCF definitions are usually complex, and because some of the items they typically include are non-sustainable, it is important (albeit quite difficult) to qualitatively assess DCF numbers reported by MLPs. I will do so with respect to PAA once it provides additional data as part of its Form 10-K.

Table 6 provides selected metrics comparing the MLPs I follow based on the latest available TTM results. Of course, investment decisions should be take into consideration other parameters as well as qualitative factors. Though not structured as an MLP, I include KMI as its business and operations make it comparable to midstream energy MLPs.

As of 2/10/16:

Price

Current Yield

TTM

EBITDA

EV / TTM EBITDA

IDR- Adjusted EV/

EBITDA

LT Debt to TTM

EBITDA

1-Year

Total

Return

Buckeye Partners (NYSE:BPL)

$52.47

8.96%

847

12.3

12.3

4.3

-25.23%

Boardwalk Pipeline Partners (NYSE:BWP)

$11.40

3.51%

692

9.1

9.2

5.0

-26.20%

Enterprise Products Partners (NYSE:EPD)

$20.74

7.52%

5,267

12.2

12.2

4.3

-36.89%

Energy Transfer Partners (NYSE:ETP)

$21.63

19.51%

5,636

6.6

8.1

4.7

-57.01%

Kinder Morgan Inc. (NYSE:KMI)

$14.60

3.42%

7,372

10.2

10.2

5.8

-60.87%

Magellan Midstream (NYSE:MMP)

$59.31

5.29%

1,172

14.5

14.5

2.9

-24.93%

Targa Resources Partners (NYSE:NGLS)

$11.11

29.70%

1,124

6.5

7.7

4.7

-68.80%

Plains All American Pipeline

$16.51

16.96%

2,199

7.7

10.2

4.7

-62.68%

Suburban Propane Partners (NYSE:SPH)

$21.15

16.78%

334

7.1

7.1

3.3

-45.12%

Williams Partners (NYSE:WPZ)

$14.04

24.22%

3,795

6.8

8.6

4.6

-63.00%

Alerian MLP Index (AMZX)

10.17%

-53.18%

Table 6: Enterprise Value ("EV") and TTM EBITDA figures are in $ Millions. Source: company 10-Q, 10-K, 8-K filings and author estimates.

Note that BPL, EPD, KMI, MMP and SPH are not burdened by general partner incentive distribution rights ("IDRs") that siphon off a significant portion of cash available for distribution to limited partners (typically 48%). Hence multiples of MLPs without IDRs can be expected to be much higher (see Table 5, column 5). In order to make the multiples somewhat more comparable, I added column 6, a second EV/EBITDA column. I derived this column by subtracting IDR payments from EBITDA for the TTM period. Other approaches can also be used to adjust for the IDRs of the relevant MLPs.

The burdens imposed by PAA's leverage (long-term debt currently at 4.8x EBITDA) and the IDRs have increased significantly as a result of the huge drop in unit price. As stated in the previously mentioned article, I would not be surprised to see a merger between PAA and PAGP.

The significant drop in unit price drives up PAA's cost of capital and this is exacerbated by the IDR burden. In light of that and the deterioration in the business environment, growth capital expenditures in 2016 are expected to total ~$1.5 billion. Instead of funding that requirement by the customary mix of roughly 50/50 debt and issuance of units, PAA raised ~$1.6 billion by issuing, in January 2016, ~61 million 8% Perpetual Series A Convertible Preferred units at $26.25 (convertible after 2 years on a 1:1 basis into common units). PAA removed the need to access the capital markets by pre-funding its 2016 capital requirement (or equity requirements for 2016 and 2017), enhanced its credit metrics and positioned it to withstand the unfavorable market conditions. On the other hand, the credit agency surprised management by announcing that a smaller than expected portion of the preferred will be considered equity, and a larger than expected portion will be considered debt. This may have an adverse effect on PAA's credit rating if conditions deteriorate.

PAA also expects to sell non-core assets totaling ~$400-$500 million in 2016. In light of further deterioration in market conditions and even greater volatility, the decisions to pre-fund and sell assets also appear prudent.

Early in 2015, I substantially reduced my position in PAA and explained why in an article covering 1Q15 results. Clearly I should have sold more. Belatedly, I did so and exited the position in November 2015. I would consider reinvesting if PAA and PAGP were combined with coverage restored to >1x.

Disclosure: I am/we are long EPD, MMP, ETE, ETP.

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.

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