It was more than two years ago that analysts at Robert W. Baird & Co. wrote a report outlining a set of guidelines that the MLP sector should follow going forward. The report, titled “Three Rules for the New MLP Playbook,” focused on key issues for MLPs to keep in sight as their goals for the future: simplification, consolidation and self-reliance.

Undoubtedly, progress has been made in this direction—but there’s still a lot of room to improve.
Today, for example, some of the top-rated MLPs may still be part of a “family” of MLP securities. For now, this obviously runs counter to a longer-term goal of simplification, under which fewer securities would exist and incentive fees would be eliminated. If adopted at some point, this would create an investment structure in which investors, managements and sponsors are all pari passu, or side-by-side in interest.

For better or worse, today’s reality is that structures remain varied and the path forward can be complex for individual MLPs. Analysts weigh risks and rewards, even as outcomes are uncertain. Given the recent wide-ranging circumstances in the sector, which names came to the top of the MLP list as the fourth quarter reporting season got underway?

Ethan Bellamy, senior research analyst at Baird, favored Antero Midstream GP (AMGP) coming into 2018, especially after management confirmed it would be the leading beneficiary in the sector from a reduction in the federal tax rate to 21% from 35%. The tax-driven increase had the effect of raising its annual distribution for 2018 up 23% to 54 cents per unit. For 2019-2020, Bellamy projected further distribution growth to 89 cents and $1.34, respectively, representing growth of 65% and 51%.
Bellamy described AMGP as a “pure pass-through entity,” offering “the best tax play in energy.”

As part of the Antero family of securities, AMGP benefits from the well-recognized, long-term growth story of its related E&P Antero Resources Corp., which is also said to hold the largest hedge book among U.S. E&Ps. At the Antero analyst day in mid-January, which included Antero Midstream Partners LP, the visibility of the three entities’ high quality growth was clear. Management extended payout guidance for AMGP to 2022, with distribution growth expectations set at 29%-31% in 2021 and 27%-29% in 2022. This translates into distribution estimates by Baird of $1.76 and $2.27 per unit in 2021-2022.

Bellamy’s target price on AMGP is $35 per unit vs. a closing price on Feb. 15 of $20.63, offering about 70% upside. In terms of further upside, Bellamy believes the skew is positive for AMGP as related to possible merger and acquisition activity involving Antero Midstream. Holding the second-largest position in Antero Resources, the related E&P, shareholder SailingStone Capital Partners LLC is a “wild card,” having pressed management to evaluate strategic alternatives, according to Bellamy.

Another MLP favored by Bellamy is Tallgrass Energy Partners (TEP), with a target price of $56 per unit vs. a Feb. 15 closing price of $41.28, offering about 35% upside.

As indicated earlier, simplification is a goal that is increasingly sought, although the market may not always guess correctly as to timing. Moreover, there may be multiple possible permutations.

Tallgrass announced in early February several moves, including the early stages of a plan for removing its incentive distribution rights (IDRs) and general partner (GP) economic interest. The Tallgrass schedule is to accomplish the plan by the end of this year or possibly earlier.

Tallgrass should “reap a substantial cost of equity capital benefit through a change in its structure,” according to a MUFG Securities America report. MUFG calculates a GP and IDR burden of about 5.8%, and assumes a mid-teens multiple needed to eliminate the GP and IDRs, with Tallgrass issuing units up to Tallgrass Energy GP (TEGP). Its Tallgrass target price is $51.

“Whether this will be the ultimate transaction is unknown, but it does give us a view into what a post-simplification world looks like for Tallgrass,” the report said. “With Tallgrass’s acquisitive approach to growth, a meaningful reduction in the cost of capital becomes more important as it looks to add new assets from which it can expand its footprint and organic project backlog.”

Chris Sheehan can be reached at csheehan@hartenergy.com or 303-800-4702.

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