February 11, 2019 [Seeking Alpha] - Buckeye Partners had to make some tough decisions in 2018 to protect its credit rating; the ratings agencies have been appeased. Investors should expect a sharp contraction in EBITDA guidance in 2019 due to divestitures; coverage on the new distribution will be healthy.
My thesis has played out and I view the shares as a neutral/hold today. I like a few storage plays incrementally more, including some diversified midstreams. This idea was discussed in more depth with members of my private investing community, Industrial Insights.
Most know that I’ve been a long-running bear on Buckeye Partners (BPL), critiquing their investment in VTTI and calling for a distribution cut. In my opinion, this was going to be necessary due to an out-of-control leverage profile that risked their investment grade credit rating.
Less than one year after that initial note and management has cut the cash payout by 40%, sold its equity interests in VTTI, and divested some non-core domestic pipeline and terminal assets. I view every single one of these moves as a major positive for the long run health of the business. In a nutshell, my thesis has run its course.
Ratings agencies have responded in kind. With lower implied capital expenditure needs and more retained cash for the projects that remain, leverage is on the way back down and Moody’s has loosened the screws, changing its rating outlook to stable:
“Buckeye Partner’s anticipated leverage of 4.5x and distribution coverage above 1.2x will be better supportive of an investment grade rating and stable outlook. The meaningful debt reduction will strengthen its balance sheet while the company’s organic growth projects come online in 2019-2020.“
What is necessarily good for the company, its balance sheet, and its bonds is not often aligned with what is in the best interest of the common equity. I agree wholly with the Moody’s view above; the end of the strategic review rids the company of its largest major negative overhang. While the VTTI asset sale clearly caused economic losses for shareholders and was sold at a loss – something I spoke towards back in November – I am much more comfortable with Buckeye Partners engaging in organic growth projects or tuck-in acquisitions.
This is something that this management team has historically executed much better with versus large purchases where it has historically overpaid. While I would prefer a changing of the guard and see an executive shuffle, it looks unlikely that will happen. Rather than beat on that (somewhat dead) horse today, I wanted to take a look at my view on 2019 EBITDA given all of the moving pieces, look at the distribution coverage and growth plans, and then give my view on whether the shares are a buy or sell.
Buckeye Partners will release Q4 2018 earnings on February 8, 2019. While how the company wraps up 2018 will be important, all eyes will be on 2019 guidance. Unwinding assets and delevering inevitably tends to impact margins and DCF in a negative way: retiring debt at 4-5% rates by selling assets earnings double that is dilutive. Going forward, EBITDA is set to fall dramatically due to the impact of the divestiture of VTTI ($180mm) and the non-core asset sales ($34mm).
So while last twelve month EBITDA has been roughly $1,100mm, the firm is set to lose more than $200mm from these sales. Cost will have to be taken out of the general and administrative line to keep margin stable. Making matters worse, organic growth will be hard fought, particularly in the first half of the year, given continued weakness in segregated storage business. In my opinion, investors should expect to see EBITDA guidance somewhere within the above range.
On today’s market cap, those results would point to a 13.1% DCF yield. While that seems hefty and looks like a massive buying opportunity, all of the major storage players – Macquarie Infrastructure (MIC), SemGroup (SEMG), Blueknight Energy Partners (BKEP) – trade at substantially similar valuations. This is, unfortunately, also not too major of a discount compared to its recent trading averages.
Investors have to ask themselves: What does Buckeye Partners offer that other players do not? Other than perhaps a more diversified base and a slightly better leverage profile, there isn’t too much there. I view the shares as having some upside to the $38.00/share range, but I largely see that as a move that will be sector driven and not specific to Buckeye Partners.
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