Pixabay, Robson Machado
By Bryce Bingham for IRIS.xyz
- The vast majority of AMZ and AMZI constituents have eliminated their incentive distribution rights since 2016.
- IDR buyouts have been numerous so far in 4Q19 and have mostly been attractive to unit-holders.
- Most of the remaining IDR holdouts in the AMZ Index are expected to eliminate their IDRs in time as the general partner’s take becomes more of a burden.
Incentive distribution rights (IDRs) were once a staple of the MLP space. In recent years, however, midstream MLPs have widely moved to eliminate their IDRs, simplifying their structures and greatly improving corporate governance in the process. Today, we will discuss some of the more recent IDR buyouts, who still has them, and our expectations for the future.
Most MLPs have eliminated their IDRs in recent years.
Although they were arguably beneficial to unit-holders in the early days for an MLP, IDRs have fallen out of favor with investors over the last several years. The structure was intended to better align the interests of the general partner (GP) and limited partners (LP) by incentivizing the GP to grow distributions to unitholders. However, IDRs become unsustainable in the long run as distributions to the GP grow and become a significant burden on the MLP’s cost of capital. As a result, the vast majority of MLPs in the Alerian MLP Index [
In addition to existing MLPs shedding IDRs, new MLPs are foregoing GP payments from the start. Rattler Midstream [
Multiple simplification transactions have been announced this quarter.
IDR buyouts have been frequent in 2019, with the GPs of EQM Midstream [
Alongside the benefits of a lower cost of capital for the MLP and improved corporate governance, the IDR transactions themselves have also been mostly attractive to unitholders. In the case of NBLX, the acquisition of NBL’s midstream assets and IDRs is expected to be ~5% accretive to distributable cash flow (DCF) per unit in 2020, reduces pro-forma leverage, and removes the need for equity financing. Combining the expected IDR payments and 2020 EBITDA from the acquired assets implies a combined transaction multiple of 8x. Along with DCP’s IDR elimination, which represented a multiple of 9x to current IDR payments per management, these recent transactions have been attractive relative to multiples upwards of 15x seen in the past.
With the majority of IDR eliminations behind us, what can MLP investors expect going forward? There are currently twelve AMZ constituents who still have IDRs, but we would expect most of them to remove incentive payments to the GP in time. Those names in the high splits, including CNX Midstream Partners [
The table below shows the twelve AMZ constituents who maintain IDRs in their structure. The fifth column represents the point at which each MLP will reach the high splits. Typically, the highest tier of marginal GP interest in distributions is 48% or 50%. TC PipeLines [
Alongside strengthening balance sheets, the shift to self-funding equity capital expenditures, and improving distribution profiles, IDR eliminations have been one of the most notable positive steps that midstream MLPs have made in the last few years. Given the benefits that an IDR simplification can bring to corporate governance and cost of capital, investors can expect that, in time, many of the remaining IDR holdouts will join the majority in removing their IDRs.
Bryce Bingham is an energy research analyst at Alerian, creator of the first real-time MLP index—the Alerian MLP Index—the most widely used benchmark for midstream MLP energy.
Equities Contributor: IRIS.xyz
Source: Equities News