OPEC's recent decision to effectively end production quotas has sent oil prices into a tailspin (again) and is challenging the business models of even large blue-chip midstream MLPs. Yet despite the worst oil crash in generations, Shell Midstream Partners (NYSE:SHLX) could potentially become a strong dividend growth company over the next decade.
Let's look at three key management quotes from the company's most recent earnings call to understand why Shell Midstream's growth is likely to continue at a torrid pace for many years to come; oil crash be darned.
Giant sponsor whose interests are aligned with investors
I want to reiterate the alignment between Shell Midstream Partners and our sponsorship. Shell Midstream Partners delivers on the priorities of our sponsor by allowing Shell to monetize infrastructure assets, while retaining strategic control, directly contributing to a portion of the divestment target set by Shell for 2016 to 2018 ... like the acquisitions completed in 2015, these transactions will be immediately accretive to the unitholders and demonstrates Shell's commitment to dropping down high quality infrastructure assets into Shell Midstream Partners. -- John Hollowell, President and CEO
This quote highlights the reason I consider Shell Midstream Partners to be one of the best long-term growth opportunities in the midstream MLP industry. Royal Dutch Shell (NYSE:RDS-A) (NYSE:RDS-B) is the world's third largest publicly traded oil company and thus owns a massive amount of international midstream assets -- think pipelines, storage facilities, and terminals. all of which could eventually be dropped down to its MLP.
In fact, Shell's North American midstream assets alone are enough to potentially boost Shell Midstream's annual EBITDA from its current rate of $150 million to $3.65 billion. However, given that between 2010 and 2014, Shell invested $18.9 billion in global midstream assets, the eventual drop down pipeline for Shell Midstream is most likely far larger, and likely to drive growth for at least the next decade or two.
Fantastic payout profile
The Board approved a $0.2050 distribution per limited partner unit for the third quarter, and this represents a 7.9% increase over the previous quarter distribution, and a total increase of 26.2% since our first distribution and we intend to maintain regular distribution growth into 2016. -- John Hollowell
Midstream MLPs are mainly owned for their consistent and growing yields, courtesy of a toll-road like business model built around long-term, fixed-fee, and often volume ensured contracts. This creates a highly predictable distributable cash flow stream from which to fund the payout -- one that can be largely immune from volatile energy prices.
While Shell Midstream's 2% yield is among the lowest in the industry, its payout growth potential is arguably one of the best. Analysts are projecting almost 32% CAGR growth over the next five years --
In addition, keep in mind that long-term income investors need to look at the overall payout profile, which includes the yield, long-term growth potential, and sustainability. With a distribution coverage ratio of 1.5, not only is Shell Midstream throwing off $93 million per year of excess cash flow -- which can be reinvested into further growth -- but its distribution is among the more secure in its industry.
Ridiculously great access to growth capital
Today we priced an equity offering with gross proceeds of $260 million. We will fund this latest acquisition with a combination of $50 million of cash generated from operations, proceeds from the public equity offering and borrowing under our upsized credit facility. Interest rates on our affiliate bank revolving credit facilities remain attractive at a rate of about 1.5%... Following the acquisition, total debt will be approximately $500 million, bringing our debt to EBITDA on a run rate basis to 2.3 times. -- Susan Ward, VP and CFO
Given the enormous scale of Shell Midstream's drop down pipeline, it needs strong access to capital markets to reach its full growth potential. Luckily for investors, the MLP's balance sheet is rock solid. In fact, Shell Midstream's debt to EBITDA ratio of 2.3 times is much lower than the industry average of 6.54x.
This grants Shell Midstream access to debt that is both plentiful and cheap. In addition, since the MLP is able to fund some of its growth internally excess cash from operations, that cheap debt can be stretched further to buy even more growth assets.
Finally, that low 2% yield means it can sell new units at a favorable market rate -- even during an oil crash. This makes further accretive acquisitions (meaning distributable cash flow per unit increases despite a higher unit count) even easier and more profitable.
Few midstream MLPs currently offer long-term investors payout security and growth potential as great as Shell Midstream Partners. With the largest sponsor in the midstream sector providing a massive drop down pipeline, and some of the lowest growth capital costs in the industry,long-term investors should expect both stupendous income and market-crushing total returns over the coming years.