Enbridge Energy Partners Headline Earnings Don't Tell the Whole Story

Traditional metrics like revenue and net income suggest that Enbridge Energy Partners had a miserable quarter, but that wasn't necessarily the case.

Tyler Crowe
Tyler Crowe
Aug 18, 2015 at 1:09PM
Energy, Materials, and Utilities

Pipeline company earnings reports are a rather dull affair but, as investors, that's exactly what we are looking for.

Enbridge Energy Partners' (NYSE:EEP) second-quarter earnings were just that despite the 30% decline in revenue. Let's take a quick look at some of the important earnings numbers in Enbridge Energy Partner's recent quarterly report, why that big drop in revenue is not a huge deal, and what you should expect in the next couple of quarters.

By the numbers
One of the common themes among pipeline companies this past quarter is that revenue numbers have not necessarily been indicative of performance, and Enbridge Energy Partners was no exception. Total revenue for the company declined close to 30% from the same quarter last year, but its commodity costs declined by 46%, so gross operating margin -- revenue minus commodity costs -- actually increased by $30 million to $642 million compared to the same quarter last year. 

Much of the gain in gross margins for the quarter was attributed to an increase in liquids transported across its system, most notably from the expansion of its line 61 pipieline from Superior, Wisc., to Flanagan, Ill., and the Alberta Clipper Pipeline. Both pipes now have total takeaway capacity of 800,000 barrels per day. This 8% increase in liquids volume helped to offset the 5% decline in natural gas volumes and the 2.9% decline in NGL production. 

The other number that can be a little misleading is Enbridge's net income, which for the quarter was a loss of $97.1 million. However, this is slightly skewed by the fact that the company did a $246 million goodwill impairment in the quarter related to its natural gas pipeline system and its estimated declines from lower anticipated natural gas volumes. If we strip away this and other non-cash obligations, Enbridge Energy Partners generated total distributable cash flow of $231 million, a 19% increase compared to the same quarter last year.

The one element of this quarter's earnings and something that we should pay close attention to is the fact that the company's current distribution exceeds total cash available for distribution. According to management, it expects to have a distribution coverage ratio for the year in the 0.9-.095 times range, which means total distributions are planned to be more than what's being generated from operations. This is, of course, not something that can be sustained over the long term. However, new capital projects worth another $1.3 billion are coming online this year. As these facilities come online, it should help close the distribution funding gap, or at least that is the expectation.

Slower growth on the horizon?
One thing that was rather noticeable in management's comments about this quarter was that it doesn't plan to receive any dropdowns from parent company Enbridge between now and 2016 because of what it describes as market conditions. One of the most likely reasons that the market isn't suitable for dropdowns today is because the company's debt-to-EBITDA ratio is now pushing 4.4 times. This is an important metric because it is one thing that credit ratings agencies look at when rating companies and their debts. A general rule of thumb to maintain an investment grade rating is that pipeline companies must maintain a debt-to-EBITDA ratio of less than 4.5 times. If Enbridge Energy Partners were to do a dropdown today, chances are that it would need to tap the debt market to do so, and it could push it above that threshold. 

This isn't the end of the world, though, because Enbridge Energy Partners also has about $5 billion in organic growth projects that it intends to complete by 2018. Also, there are plans for Enbridge Energy Partners to drop down some of its natural gas and NGL assets to its subsidiary master limited partnership Midcoast Energy Partners. These dropdowns will help to raise some cash, clean up the balance sheet, and give it some fuel for its other capital projects. 

Investor takeaway
Aside from Enbridge Energy Partners not meeting its distribution with cash from operations this quarter -- nor intending to meet it for the rest of the year -- its quarterly earnings didn't seem to show any glaring weaknesses. The revenue and net income numbers are a little deceiving, but that is more a product of the pipeline business and not something that suggests uniquely wrong at Enbridge. Going forward, it will be worth watching to see how its new growth projects can close that distribution gap and how it juggles the fine balancing act between funding new projects, maintaining its investment grade credit rating, and dropping down assets to Midcoast Energy Partners. 

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