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Spotlight on the Pipeline Industry |
Published: April 10, 2005
Pipeline companies operate one
of the simplest and most stable business models around. These firms
simply own expansive pipeline networks that are connected to refineries
or storage and seaport terminals. Companies wishing to send oil, natural
gas or refined products through these pipelines pay a per unit price to
the pipeline owner in exchange for transporting their oil/gas.
The prices that pipeline
operators charge for the use of their lines are often fixed due to
government regulations. These prices are therefore not affected by
changes in the price of natural gas or oil -- pipeline owners simply get
paid per unit of energy product shipped through their lines. The
pipelines exact a regulated toll for in exchange for use of their
pipeline assets. (It's important to note that some pipeline firms also
receive payments based on the dollar value of oil and gas delivered
through their networks, so in this sense they have a certain degree of
exposure to commodity prices. However, for most firms that
exposure doesn't lead to extremely volatile financial results.)
What’s more, the construction
of new pipelines is also regulated. When a company wants to build a new
pipeline, the project always requires large, expensive environmental
studies and a lengthy approval process before construction even begins.
That means that pipeline supply can only rise slowly as demand
increases. It also leads to extremely high barriers to entry in this
market.
| The
good news for investors is that pipeline demand is very strong
right now. Refineries must have plenty of crude oil on hand to
convert into useful commodities like gasoline and jet fuel. And
many utility power plants require a steady supply of natural gas
to keep their plants running. |
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As you can see in our chart of
oil imports, the U.S. has been importing an increasingly large quantity
of oil and natural gas every year, much of it carried on tanker ships to
seaport terminals. All of that oil and gas must then be shipped to
refineries and utilities where it’s desperately needed. That’s where
the pipeline companies fit in.
The combination of strong
demand, regulated pricing and limited scope for supply growth makes the
pipeline business both stable and extremely lucrative. Typically, these
companies earn plenty of free cash flow and are capable of paying out
large dividends.
To reduce taxation on those
huge cash earnings, many publicly traded pipeline companies are
structured as master limited partnerships (MLPs). Limited partnerships
aren’t subject to corporate taxation as long as the company
distributes the overwhelming majority of its cash flows to shareholders
in the form of dividends. Although shareholders must pay taxes on those
dividends at regular income tax rates, this structure tends to reduce
overall tax burdens. This structure also means that shareholders tend to
receive large annual distributions -- high yields -- on their
investments in MLPs.
The table below shows some of
the largest companies in the pipeline business, as well as some basic
fundamental data on each stock. In the report that follows, my staff and
I will examine two of our favorite plays from this industry.
| Company
(Symbol) |
Mkt.
Cap. |
D/E |
Yield |
| Enbridge
Energy Part. (EEP) |
$3.2B |
116% |
7.2% |
| Northern
Border (NBP) |
$2.3B |
173% |
6.5% |
| Kinder
Morgan (KMP) |
$9.6B |
136% |
6.4% |
| Plains
All American (PAA) |
$2.8B |
92% |
6.3% |
| Teppco
Energy (TPP) |
$2.7B |
136% |
6.1% |
| Magellan
Midstream (MMP) |
$2.1B |
89% |
5.7% |
| Valero
LP (VLI) |
$1.4B |
90% |
5.3% |
| TransCanada
Pipe. (TRP) |
$11.7B |
180% |
4.1% |
| El
Paso (EP) |
$6.8B |
477% |
1.5% |
| Energen
(EGN) |
$2.3B |
100% |
1.2% |
| Williams
Co's (WMB) |
$10.4B |
223% |
1.1% |
| Western
Gas Res. (WGR) |
$2.5B |
50% |
0.6% |
Company #1
Our first pick in the pipeline business operates a 25,000-mile pipeline
network that spans across the United States and Canada. The firm
has used a host of acquisitions in recent years to aggressively expand
its market presence and fuel strong earnings growth. In
2004, for example, Company #1 completed $600 million in acquisitions and
spent over $650 million on capital improvements.
Going forward, we expect
Company #1 to deliver continued growth via acquisitions as well as
through efficiency improvements on its existing pipelines. And with a
dividend yield of over 6% and steady long-term projected earnings growth
of +8%, the stock looks like a solid play for income-oriented
investors.
To
find out the name of Company #1 and learn more about why it should make
a great investment in the coming years, please visit one of the links
below.
Company #2
Our second favorite stock in the pipeline business operates a near 7,000
mile network of pipelines designed to carry mainly refined petroleum
products. The firm also operates a number of terminals, some near major
seaports, designed to store and gather petroleum products.
Last year this firm completed a
$500 million deal that increased the size of its pipeline network by
+40%. And going forward, new pipeline construction and acquisitions
should lead to strong growth for Company #2 in the years ahead. With a
dividend yield of over 6% and a solid track record of boosting its
dividend distributions in every one of the past 15 quarters, Company #2
looks like a steady performer.
To
find out the name of Company #2 and learn more about why it should make
a great investment in the coming years, please visit one of the links
below.
Important:
To view the remainder of this article, in which StreetAuthority.com
founder Paul Tracy and his staff provide company names and in-depth
profiles for both Company #1 and Company #2 above, you'll need to subscribe to
our premium Market Advisor newsletter. Please visit one
of the following links to continue...
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