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Favorable fundamentals, especially robust fuel demand, have kept margins healthy for the wider Zacks Oil and Gas - Refining & Marketing MLP industry even as the space grapples with volatility. This, combined with attributes to combat the value destruction from inflation, should drive certain stocks to perform better than peers and allow for share appreciation. For those interested in the space, we have earmarked four stocks — Targa Resources (TRGP - Free Report) , Sunoco LP (SUN - Free Report) , Calumet Specialty Products Partners (CLMT - Free Report) and NGL Energy Partners LP (NGL - Free Report) . While the underlying rationale for owning midstream companies during periods of rising consumer prices cannot be stressed enough, the defensive nature of the stocks and their fee-based business models bode well in an unpredictable market.
Industry Overview
Master limited partnerships (or MLPs) differ from regular stocks since interests in them are referred to as units, and unitholders (not shareholders) are partners in the business. Importantly, these low-risk hybrid entities bring together the tax benefits of a limited partnership with the liquidity of publicly traded securities that earn a stable income. The assets owned by these partnerships are typically oil and natural gas pipelines and storage/infrastructure facilities. The Zacks Oil and Gas - Refining & Marketing MLP industry is a sub-sector of this business model. These firms operate refined products' terminals, storage facilities and transportation services. They are involved in selling refined petroleum products (including heating oil, gasoline, residual oil, jet fuel, etc.) and a plethora of non-energy materials (like asphalt, road salt, clay and gypsum).
4 Trends Defining the Oil and Gas - Refining & Marketing MLP Industry's Future
Sustainable Cash Flows: Considering the volatility in oil right now — especially the jitters associated with a looming economic slowdown (posing a risk to consumption) — a safer way of playing the sector would be to utilize MLPs, which offer considerable returns at a significantly lower risk. The assets that these partnerships own — oil and natural gas pipelines and storage facilities — typically bring in stable fee-based revenues under long-term contracts and have limited, if any, direct commodity-price exposure. In the longer term, these agreements result in steady cash flow through the boom-and-bust cycle. Even within fee-based contracts, a significant portion is of a take-or-pay type, meaning that the MLPs get paid irrespective of the volume of commodities that get transported.
Healthy Margins: The industry’s improved fundamentals in the form of constrained supply and robust demand have led to rising refining profitability for the players involved. With product inventories running low and no near-term solution to replenish them, margins (especially for diesel and jet fuel) have remained reasonably high. Overall, elevated consumption paired with considerably lower refining capacity in the OECD countries should provide a tailwind for refinery profits throughout the year.
Offsetting Inflation Impact Through Distribution Growth: The major refining and marketing midstream players — being largely insulated to fluctuations in commodity prices — maintained their distribution levels through the crisis-stricken 2020. Now, adjusting costs with the prevailing business activity, the partnerships have focused on free cash flow (post-distribution payment) generation to lower debt and strengthen their financial position. The growing free cash flows could be used to boost investor returns through buybacks and distribution hikes. Finally, distribution growth can also help investors to offset some of the value destruction of the prevailing high inflationary environment.
Supply-Chain Vulnerabilities: Despite the relatively bullish energy landscape and improved demand environment, the industry has not been immune to supply-chain disruptions and cost inflation. Macro issues like higher transportation expenses, driver scarcity and labor shortages have limited MLPs’ (or the energy infrastructure providers, also called the midstream group) ability to ship packaged volumes to their customers. What’s worse is that these headwinds across the system and the subsequent hit to profitability (due to difficulty in passing through the increased costs to clients) are expected to continue in the near future.
Zacks Industry Rank Indicates Positive Outlook
The Zacks Oil and Gas – Refining & Marketing MLP is a 7-stock group within the broader Zacks Oil – Energy sector. The industry currently carries a Zacks Industry Rank #93, which places it in the top 37% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
Considering the encouraging near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.
Industry Outperforms Sector & S&P 500
The Zacks Oil and Gas – Refining & Marketing MLP industry has fared better than the broader Zacks Oil - Energy Sector as well as the Zacks S&P 500 composite over the past year.
The industry has gained 15.8% over this period compared with the broader sector’s increase of 8.1% and the S&P 500’s rise of 15%.
One-Year Price Performance
Industry's Current Valuation
Since midstream-focused oil and gas partnerships use fixed-rate debt for most of their borrowings, it makes sense to value them based on the EV/EBITDA (enterprise value/ earnings before interest tax depreciation and amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of non-cash expenses.
On the basis of the trailing 12-month enterprise value-to-EBITDA (EV/EBITDA) ratio, the industry is currently trading at 8.85X, lower than the S&P 500’s 13.87X. It is, however, well above the sector’s trailing-12-month EV/EBITDA of 2.92X.
Over the past five years, the industry has traded as high as 14.93X, as low as 5.76X, with a median of 9.16X, as the chart below shows.
Trailing 12-Month Enterprise Value-to-EBITDA (EV/EBITDA) Ratio (Past Five Years)
4 Oil and Gas - Refining & Marketing MLP Stocks to Watch For
NGL Energy Partners LP: It is an MLP that owns water disposal wells, the Grand Mesa oil pipeline, and a wholesale propane/butane business. NGL Energy Partners has done a fairly admirable job of reducing costs. Its cash capital expenditure continue to fall as it keeps spending levels in check. Apart from significant capital cuts, the partnership should realize sizeable savings from headcount reduction and automation.
The fiscal 2024 Zacks Consensus Estimate for NGL Energy Partners indicates 866.7% earnings per unit growth over fiscal 2023. The midstream operator, whose stock is up 162.1% in a year, carries a Zacks Rank #2 (Buy).
Targa Resources: A leading provider of integrated midstream services in North America, Targa Resources’ fractionation ownership position in Mont Belvieu is among the company’s best midstream assets. The facility has connectivity to supply, storage, terminalling infrastructure, as well as to end markets through petrochemical complexes and exports. The company also has state-of-the-art LPG export facilities on the Gulf Coast at its Galena Park Marine Terminal, which is interconnected to Mont Belvieu.
The 2023 Zacks Consensus Estimate for Houston, TX-based Targa Resources, indicates 41% year-over-year earnings per share growth. TRGP pays out 50 cents quarterly dividend, which yields 2.5% at the prevailing share price. The Zacks Rank #3 (Hold) stock has gained 25.6% in a year.
Price and Consensus: TRGP
Sunoco LP: Sunoco participates in the transportation and supply phase of the U.S. petroleum market across a number of states. It also focuses on motor fuel distribution to convenience stores, independent dealers and commercial customers. SUN pays out 84.20 cents quarterly distribution ($3.368 per unit annually), which gives it a 7.5% yield at the current unit price.
The gasoline station and convenience store operator beat the Zacks Consensus Estimate for earnings twice in the trailing four quarters and missed in the other two. Over the past 60 days, SUN saw the Zacks Consensus Estimate for 2023 move up 2.5%. Valued at around $4.5 billion, the #3 Ranked SUN has gained 15.4% in a year.
Price and Consensus: SUN
Calumet Specialty Products Partners, L.P.: This downstream operator focuses on specialty products (oil, waxes, white oils etc.) and solutions, in addition to renewable diesel (or refining). CLMT targets high-performance markets for lubricants and engineered fuels, which provide ample growth opportunities for the partnership.
The 2023 Zacks Consensus Estimate for Indianapolis, IN-based Calumet indicates 157.4% year-over-year earnings per share growth. The firm beat the Zacks Consensus Estimate for earnings thrice in the trailing four quarters and missed in the other. Valued at around $1.3 billion, the Zacks Rank #3 CLMT has gone up 52.2% in a year.
Price and Consensus: CLMT
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4 Refining & Marketing MLP Stocks on Solid Ground
Favorable fundamentals, especially robust fuel demand, have kept margins healthy for the wider Zacks Oil and Gas - Refining & Marketing MLP industry even as the space grapples with volatility. This, combined with attributes to combat the value destruction from inflation, should drive certain stocks to perform better than peers and allow for share appreciation. For those interested in the space, we have earmarked four stocks — Targa Resources (TRGP - Free Report) , Sunoco LP (SUN - Free Report) , Calumet Specialty Products Partners (CLMT - Free Report) and NGL Energy Partners LP (NGL - Free Report) . While the underlying rationale for owning midstream companies during periods of rising consumer prices cannot be stressed enough, the defensive nature of the stocks and their fee-based business models bode well in an unpredictable market.
Industry Overview
Master limited partnerships (or MLPs) differ from regular stocks since interests in them are referred to as units, and unitholders (not shareholders) are partners in the business. Importantly, these low-risk hybrid entities bring together the tax benefits of a limited partnership with the liquidity of publicly traded securities that earn a stable income. The assets owned by these partnerships are typically oil and natural gas pipelines and storage/infrastructure facilities. The Zacks Oil and Gas - Refining & Marketing MLP industry is a sub-sector of this business model. These firms operate refined products' terminals, storage facilities and transportation services. They are involved in selling refined petroleum products (including heating oil, gasoline, residual oil, jet fuel, etc.) and a plethora of non-energy materials (like asphalt, road salt, clay and gypsum).
4 Trends Defining the Oil and Gas - Refining & Marketing MLP Industry's Future
Sustainable Cash Flows: Considering the volatility in oil right now — especially the jitters associated with a looming economic slowdown (posing a risk to consumption) — a safer way of playing the sector would be to utilize MLPs, which offer considerable returns at a significantly lower risk. The assets that these partnerships own — oil and natural gas pipelines and storage facilities — typically bring in stable fee-based revenues under long-term contracts and have limited, if any, direct commodity-price exposure. In the longer term, these agreements result in steady cash flow through the boom-and-bust cycle. Even within fee-based contracts, a significant portion is of a take-or-pay type, meaning that the MLPs get paid irrespective of the volume of commodities that get transported.
Healthy Margins: The industry’s improved fundamentals in the form of constrained supply and robust demand have led to rising refining profitability for the players involved. With product inventories running low and no near-term solution to replenish them, margins (especially for diesel and jet fuel) have remained reasonably high. Overall, elevated consumption paired with considerably lower refining capacity in the OECD countries should provide a tailwind for refinery profits throughout the year.
Offsetting Inflation Impact Through Distribution Growth: The major refining and marketing midstream players — being largely insulated to fluctuations in commodity prices — maintained their distribution levels through the crisis-stricken 2020. Now, adjusting costs with the prevailing business activity, the partnerships have focused on free cash flow (post-distribution payment) generation to lower debt and strengthen their financial position. The growing free cash flows could be used to boost investor returns through buybacks and distribution hikes. Finally, distribution growth can also help investors to offset some of the value destruction of the prevailing high inflationary environment.
Supply-Chain Vulnerabilities: Despite the relatively bullish energy landscape and improved demand environment, the industry has not been immune to supply-chain disruptions and cost inflation. Macro issues like higher transportation expenses, driver scarcity and labor shortages have limited MLPs’ (or the energy infrastructure providers, also called the midstream group) ability to ship packaged volumes to their customers. What’s worse is that these headwinds across the system and the subsequent hit to profitability (due to difficulty in passing through the increased costs to clients) are expected to continue in the near future.
Zacks Industry Rank Indicates Positive Outlook
The Zacks Oil and Gas – Refining & Marketing MLP is a 7-stock group within the broader Zacks Oil – Energy sector. The industry currently carries a Zacks Industry Rank #93, which places it in the top 37% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
Considering the encouraging near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.
Industry Outperforms Sector & S&P 500
The Zacks Oil and Gas – Refining & Marketing MLP industry has fared better than the broader Zacks Oil - Energy Sector as well as the Zacks S&P 500 composite over the past year.
The industry has gained 15.8% over this period compared with the broader sector’s increase of 8.1% and the S&P 500’s rise of 15%.
One-Year Price Performance
Industry's Current Valuation
Since midstream-focused oil and gas partnerships use fixed-rate debt for most of their borrowings, it makes sense to value them based on the EV/EBITDA (enterprise value/ earnings before interest tax depreciation and amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of non-cash expenses.
On the basis of the trailing 12-month enterprise value-to-EBITDA (EV/EBITDA) ratio, the industry is currently trading at 8.85X, lower than the S&P 500’s 13.87X. It is, however, well above the sector’s trailing-12-month EV/EBITDA of 2.92X.
Over the past five years, the industry has traded as high as 14.93X, as low as 5.76X, with a median of 9.16X, as the chart below shows.
Trailing 12-Month Enterprise Value-to-EBITDA (EV/EBITDA) Ratio (Past Five Years)
4 Oil and Gas - Refining & Marketing MLP Stocks to Watch For
NGL Energy Partners LP: It is an MLP that owns water disposal wells, the Grand Mesa oil pipeline, and a wholesale propane/butane business. NGL Energy Partners has done a fairly admirable job of reducing costs. Its cash capital expenditure continue to fall as it keeps spending levels in check. Apart from significant capital cuts, the partnership should realize sizeable savings from headcount reduction and automation.
The fiscal 2024 Zacks Consensus Estimate for NGL Energy Partners indicates 866.7% earnings per unit growth over fiscal 2023. The midstream operator, whose stock is up 162.1% in a year, carries a Zacks Rank #2 (Buy).
You can see the complete list of today’s Zacks #1 Rank stocks here.
Price and Consensus: NGL
Targa Resources: A leading provider of integrated midstream services in North America, Targa Resources’ fractionation ownership position in Mont Belvieu is among the company’s best midstream assets. The facility has connectivity to supply, storage, terminalling infrastructure, as well as to end markets through petrochemical complexes and exports. The company also has state-of-the-art LPG export facilities on the Gulf Coast at its Galena Park Marine Terminal, which is interconnected to Mont Belvieu.
The 2023 Zacks Consensus Estimate for Houston, TX-based Targa Resources, indicates 41% year-over-year earnings per share growth. TRGP pays out 50 cents quarterly dividend, which yields 2.5% at the prevailing share price. The Zacks Rank #3 (Hold) stock has gained 25.6% in a year.
Price and Consensus: TRGP
Sunoco LP: Sunoco participates in the transportation and supply phase of the U.S. petroleum market across a number of states. It also focuses on motor fuel distribution to convenience stores, independent dealers and commercial customers. SUN pays out 84.20 cents quarterly distribution ($3.368 per unit annually), which gives it a 7.5% yield at the current unit price.
The gasoline station and convenience store operator beat the Zacks Consensus Estimate for earnings twice in the trailing four quarters and missed in the other two. Over the past 60 days, SUN saw the Zacks Consensus Estimate for 2023 move up 2.5%. Valued at around $4.5 billion, the #3 Ranked SUN has gained 15.4% in a year.
Price and Consensus: SUN
Calumet Specialty Products Partners, L.P.: This downstream operator focuses on specialty products (oil, waxes, white oils etc.) and solutions, in addition to renewable diesel (or refining). CLMT targets high-performance markets for lubricants and engineered fuels, which provide ample growth opportunities for the partnership.
The 2023 Zacks Consensus Estimate for Indianapolis, IN-based Calumet indicates 157.4% year-over-year earnings per share growth. The firm beat the Zacks Consensus Estimate for earnings thrice in the trailing four quarters and missed in the other. Valued at around $1.3 billion, the Zacks Rank #3 CLMT has gone up 52.2% in a year.
Price and Consensus: CLMT