There's an unmistakable trend in the energy sector this year. Energy companies are acquiring or merging with their affiliates to create one stronger, stand-alone entity. It seems as though more deals are announced each week.
That wave continued this week as frack sand producer Hi-Crush Partners (HCRS.Q) bought out its general partner while midstream company EnLink Midstream (ENLC 0.82%) agreed to acquire its master limited partnership, EnLink Partners (NYSE: ENLK). These transactions will help improve the financial profiles of the remaining entities, putting them in a stronger position to grow as the energy market continues to rebound after a deep downturn over the past few years.
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Hastening toward conversion
Hi-Crush Partners acquired its privately held general partner in exchange for 11 million of its common units, valuing the transaction at $96.25 million. The deal will simplify the frack sand producing company's corporate structure by eliminating the costly incentive distribution rights (IDRs) that required Hi-Crush to pay out a large percentage of its cash flow to its parent. In addition, Hi-Crush slashed its distribution to investors nearly 70% to preserve cash.
This deal, however, is just the next step in Hi-Crush's transformation from an MLP to a corporation. This move will enable the company to complete that conversion "sooner than alternative paths," according to CEO Robert Rasmus, which he now anticipates occurring in the first half of next year. That change in structure will increase the company's financial flexibility so that it can more easily fund its growth initiatives, which will enable it to better compete against its frack sand-producing peers.
No surprise here
EnLink Midstream, meanwhile, is acquiring all the outstanding units of EnLink Midstream Partners that it doesn't already own in a unit-for-unit transaction that will also simplify its corporate structure. The largely anticipated deal will create a larger, financially stronger midstream company that will also eliminate the costly IDRs that EnLink Midstream Partners paid its parent.
The deal will immediately boost EnLink Midstream's cash flow while setting the combined company up to grow it at a low double-digit annual rate on a per-unit basis through 2021. That should enable the company to increase its 6.6%-yielding distribution to investors at a 5%-plus yearly pace for at least the next three years.
In the meantime, with cash flow expected to grow at a faster pace than the payout, the company's distribution coverage ratio will improve from 1.3 times to 1.5 times in the coming years. That will enable it to retain more cash to fund expansion projects, with it estimating that it will generate more than $700 million of excess cash through 2021. EnLink Midstream needs that money to help finance the increasing number of expansion projects it has in its backlog across its seven growth strategies. The company now believes it can self-fund the bulk of this planned spending, which improves its long-term sustainability while helping it better compete with rivals that are also self-funding the majority of their growth spending going forward.
Building better companies for the long haul
Energy companies continue to move away from the MLP strategy of paying out virtually all their cash flow to investors as well as their parent companies. Instead, they're turning toward a more sustainable long-term business model by eliminating the costly fees paid to parents while reducing the percentage of cash flow paid out to investors. That will enable them to have more financial flexibility going forward so that they're less reliant on outside sources to fund growth, which should create more value for investors in the long run.
