Seeking Alpha: From A Lower Starting Point, Magellan Midstream Looks More Interesting

About a year ago I thought that Magellan Midstream Partners, LP (NYSE:MMP) was priced a little too richly for my tastes. The units have since fallen about 10%, which is actually pretty good considering the weak overall performance of MLPs and the steeper declines of comparables like Plains All American Pipeline, LP (NYSE:PAA), Sunoco Logistics Partners, LP (NYSE:SXL), and Enterprise Products Partners, LP (NYSE:EPD).

Although MLPs have sold off as investors have backed away from almost everything related to energy, Magellan has continued to pursue growth projects predicated upon ongoing growth in U.S. crude production, transportation, and storage. I don't quite believe that Magellan is a screaming bargain today, but I believe the company is likely to deliver strong distribution growth over the next couple of years and good mid-single digit distributable cash flow growth over the next decade. Magellan's yield is lower than normal for an MLP, but the company's liquidity position looks pretty solid, the distribution coverage is good, and the cost of capital is low - all of which argues for a quality premium.

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From A Lower Starting Point, Magellan Midstream Looks More Interesting

Seeking Alpha: Can Magellan Find A Route To An Even Higher Multiple?

Magellan Midstream Partners, LP (MMP) stands out in the MLP crowd for a lot of positive reasons. The company is a large player in refined product distribution, and is expanding its crude oil transportation business. The company's fee-based business model generates consistent performance, and the company's decision years ago to acquire its GP units and unwind the incentive distribution rights gives it a simpler structure and much lower cost of capital. Add in growth-oriented capital projects and a respectable balance sheet, and there's a lot to like.

Unfortunately, I think the Street likes it a little too much. I would definitely not bet against this company, but the valuation seems to imply either a level of distributable cash flow growth that I find improbable, or a discount rate that I find unpalatable for equity investments. Other readers may not be bothered by the low discount rate given the many good qualities of this business, but I just don't see enough upside for my own investment purposes.

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Can Magellan Find A Route To An Even Higher Multiple?

Seeking Alpha: Plains All American Almost Makes It Look Easy

With crude oil production increasing across North America and differentials going both wide and volatile, these are pretty interesting times to own pipeline, storage, and terminal facilities. As one of the best in the business, Plains All American (PAA) continues to reap the benefits of the network it already has, while also putting even more money into its expansion plans.

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Plains All American Almost Makes It Look Easy

Investopedia: Can Pipelines Still Deliver The Goods?

In many respects, pipelines are great businesses for patient investors who like collect to dividends. They allow investors to leverage the growing demand for energy with far less exposure to commodity prices than is the case for integrated energy companies or exploration and production companies. Instead, they act as toll collectors with very little operating risk on a week to week basis.

The nature of the business also gives certain inherent advantage to these companies. It takes a great deal of capital to build networks of pipelines, terminals, storage facilities and the like, but once they are in place there is seldom much competition for their services. What's more, because the tax-advantaged MLP structure is so common in the space, these companies often pay substantial dividends (technically called distributions in most cases). (For more, see Power In Pipelines.)

The Downside
It is not all perfect in the industry, though. Because companies that opt for the MLP structure cannot retain any significant amount of their earnings, these companies must borrow extensively to meet their capital needs. So while these companies have clearly benefited from the low interest rate environment (which has also made the yields on these stocks quite attractive), the risk of higher rates is particularly significant here. That is all the more relevant when considering the fact that many companies are looking to expand their networks to better access areas like the Bakken and Marcellus Shales.

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