A poor investment decision led to a deep distribution cut at Ferrellgas Partners, L.P. (FGP). The company is still trying to dig itself out of that hole today, and it won't be a simple process. But in five years this turnaround effort should be much further along. Here's what to expect from Ferrellgas Partners over the next five years.
How we got here
Ferrellgas Partners' core business is distributing propane. It's a fairly stable business; the partnership is paid for delivering propane, and largely passes the cost of the fuel on to customers. Generally speaking, propane companies make small, bolt on acquisitions in the fragmented industry to offset the steady, though slow, loss of customers to other energy sources (often electric heat).
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In early 2014 the partnership decided to try and diversify into the midstream oil and natural gas space, using acquisitions to create a midstream division. At the time it seemed like a good idea to use the stable propane operation as a foundation on which to grow the partnership into a new sector. The timing proved horrible, though, with the mid-2014 oil downturn leading to weak demand for its new assets. The loss of a key customer in the newly formed division, meanwhile, led to a huge asset write down in late 2016, the replacement of the CEO with the partnership's founder, and a massive 80% distribution cut.
Unitholders were, needless to say, displeased. Ferrellgas' price has fallen from around $20 per unit prior to the trouble to a current price of below $3 per unit. That price drop has left the yield at 13%, so income investors might still be interested -- but Ferrellgas is only appropriate for more aggressive investors willing to ride out the turnaround effort. And it's going to get worse before it gets better.
Five years from today
When the partnership announced its most recent distribution, it included a warning that it is unlikely to be able to make distributions in future quarters because it has run afoul of debt covenants. That's the bad news -- that big yield isn't going to stick around. The good news is that Ferrellgas' propane business has continued to operate reasonably well. That includes making small, bolt-on acquisitions. So the foundation remains in place, only now the partnership will be relying on that foundation to fix its misstep into midstream oil and gas assets.
To be fair, Ferrellgas has actually done some good work toward that end. It has sold much of the midstream business, with the goal of refocusing on its propane operations. The problem is that the asset sales were, as you might expect, made at fire sale prices well below what was paid for them. Although painful, this was essentially a choice to rip the bandaid off and move on as quickly as possible.
FGP Total Long Term Debt (Quarterly) data by YCharts
The issue going forward is that, even after the asset sales, Ferrellgas is still left with a debt-heavy balance sheet. Reducing leverage is going to be a key focus, and the debt covenants, while limiting distributions today, make debt reduction even more likely over the near term. In fact, at this point, most of the company's available cash will likely be put to use reducing debt until it is back in compliance with its debt covenants. That's a good thing, since long-term debt has basically been stuck at elevated levels since the midstream assets were acquired.
There's an interesting wrinkle here that should help the healing process along. James Ferrell, the founder and current CEO, is a major unitholder, directly or indirectly owning roughly 4.8 million units. Before the distribution cut Ferrell was receiving roughly $2.4 million a quarter in distributions -- but by 2018 that had fallen to a little less than $500,000. And it's slated to go to zero if the partnership doesn't reduce its leverage.
So James Ferrell is motivated to fix the debt mess -- as are the partnership's employees, since Ferrellgas Companies, the parent entity that controls Ferrellgas Partners, is 100% owned by an employee stock ownership trust. The parent entity owns roughly 23% of Ferrellgas Partners and, like the CEO, is set to see its distributions disappear.
A long road
This last few years have not been easy for Ferrellgas Partners or its unitholders. And with the risk of a total suspension of the distribution just around the corner, it is likely to get worse before it gets better.
However, at this point management has worked through the ugliest parts of the midstream fix (the fire sale of assets) and can now focus most, if not all, of its attention on debt reduction. It will take some time, but the propane business is performing reasonably well and should be able to shoulder the burden so long as lenders continue to provide Ferrellgas some leeway. So far that hasn't been an issue.
You'll want to keep an eye on the balance sheet, of course, but in five years Ferrellgas should be much further along in its debt-reduction efforts. And with motivated leadership and employees, it is likely that returning the distribution to its pre-midstream debacle levels will be a priority. That said, Ferrellgas is only appropriate for aggressive investors willing to bet that this turnaround effort is successful.
