Has Boardwalk Pipeline Partners Lost its Way?

Midstream Master Limited Partnerships, which operate pipelines and terminals that treat and transport oil and gas, are extremely popular. Since their tax structures require them to distribute the vast majority of their cash flow through to investors, they often offer tantalizing yields of 6% or higher. And, thanks to the oil and gas boom in the United States, higher demand for pipelines and storage facilities means greater volumes (and consequently, cash flow) for these MLPs.

Unfortunately, not all midstream MLPs are created equal. As is the case with any investment opportunity, it's critical to analyze an MLP's underlying business to make sure its hefty yield is sustainable and covered by sufficient cash flow. A deteriorating core business is why Boardwalk Energy Partners (NYSE: BWP  ) recently slashed its distribution by 81%, and lost nearly half its market value in a single day.

Too much debt, declining cash flow
Boardwalk reported distributable cash flow fell 12% in 2013, which includes the impact of its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) collapsing 34% in the fourth quarter due to lower volumes. Boardwalk's management sought to maintain a 4-to-1 debt to EBITDA ratio. As its cash flow declined, its debt-to-EBITDA ratio rose to unhealthy levels. Management could simply no longer distribute as much cash flow through to investors to maintain proper cushioning against its debt requirements.

It's common for midstream MLPs to use that ratio as a benchmark to ensure a proper balance between a healthy balance sheet and tapping reasonable levels of debt to finance infrastructure investments. That's why Kinder Morgan Energy Partners (NYSE: KMP  ) maintains a debt-to-EBITDA ratio of 3.8-to-1. In addition, Kinder Morgan's core business is much healthier than Boardwalk's. Kinder Morgan Partners generated $22 million in cash flow above its distribution last year.

Particularly disturbing is that Boardwalk warned investors at the end of the last quarter that not all was well. Boardwalk's third-quarter 10-Q document held some concerning statements that served as a huge red flag.

Management stated that, "Transportation rates that we can charge customers we serve through interconnects with third-party pipelines are heavily influenced by current and anticipated basis differentials. Basis differentials, generally the difference in the price of natural gas at receipt and delivery points across our natural gas pipeline system, influence how much customers are willing to pay to transport gas between those points. As a result of the new sources of supply and related pipeline infrastructure, basis differentials on our pipeline systems have narrowed significantly in recent years, reducing the transportation rates we can typically negotiate with our customers on contracts due for renewal for our firm transportation services."

Put simpler, Boardwalk's assets were no longer seeing the same level of demand. The company's transportation agreements were being renewed at sharply lower rates. In addition, any remaining natural gas capacity that the company couldn't contract has been sold at severely lower rates. In some cases, remaining capacity isn't sold at all.

By contrast, Enterprise Product Partners (NYSE: EPD  ) has very positive things to say in its own most recent 10-Q. The company notes rising sales and increasing gross operating margins, which management attributes specifically to rising volumes. For example, through the nine month period ended September 30, Enterprise Product Partners reported its gross operating margin rose to $3.53 billion, from $3.23 billion generated in the same period the year prior. In percentage terms, that represents a very healthy growth rate of more than 9%.

Those are the things midstream MLP investors need to see in order to feel comfortable with the company's financial standing. This is why reading through a company's 10-Q can be so valuable. Management has no choice but to offer an unblemished view of upcoming business conditions.

Boardwalk's 10-Q held the truth
Boardwalk slashing its distribution and seeing its market value plummet is a cautionary tale to review SEC documents carefully before investing. Periodic reports from a company itself will often contain only a cursory review of its core business. SEC documents, such as the 10-Q, force a company to reveal not just what it wants to say, but what it has to say. Boardwalk notified investors that its services were seeing less demand. Management foresaw the extremely difficult market conditions up ahead, and its statements served as a major red flag.

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Read/Post Comments (4) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 18, 2014, at 1:23 PM, Jec3 wrote:

    None of this is news to anyone owning or considering BWP. This issue has been par-hashed, hashed, and rehashed to death here and elsewhere. We get it. So, what's the point here? Are you predicting bankruptcy? If so, say so. If not, stop beating the drum slowly.

    Sheesh.

  • Report this Comment On February 18, 2014, at 4:57 PM, ferdiefor wrote:

    BWP has always been mismanaged by its GP, Loews, that has too many irons in too many fires and failed to grow BWP over the past five years instead choosing to rest on their laurels... until it came crashing down. Old, slow growth markets seeing steady erosion in pipeline and G&P traffic was going to ultimately slam BWP.... why it took so long I will never understand.

    Now, BWP's best hope would be for Loews to sell its GP interest and shares to a GP that will move BWP forward. Williams might be the best choice since they already have a JV with BWP that may fall apart otherwise.

  • Report this Comment On February 21, 2014, at 10:32 PM, bigfool2013 wrote:

    The argument for reading the 10-Q was well presented.

  • Report this Comment On February 24, 2014, at 3:05 PM, LOBODINSKI wrote:

    I WAS UNDER THE IMPRESSION THAT IFTHERE WAS BAD NEWS ABOUT BWP THAT MOTLEY FOOL WOULD ALERT US.

    THEY RECOMMENDED BWP AS A BUY BUT FAILED TO TELL US TO SELL.

    I AM DISAPPOINTED WITH THEIR RECOMMENDATION AND LACK OF FOLLOW UP.STAN LOBY

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