Pipeline Billionaires Cling to Partnership Model Others Shun

(Bloomberg) -- Pipeline owners that ditched a partnership structure in favor of becoming corporations are performing better than their tax-shielded peers. But that isn’t convincing everyone to convert.

Even though the number of publicly traded master-limited partnerships dwindled by more than one-third in the past four years as enthusiasm for the model waned, a few stalwarts are keeping the structure, saying any possible benefits are overshadowed by the tax hit investors would incur.

With the tax burden -- and additional governance measures -- that come from converting, even the promise of a higher market value and lower borrowing costs might not be enough to change minds. The giants of the pipeline partnership space -- Energy Transfer LP and Enterprise Products Partners LP -- aren’t signaling any imminent plans to ditch the MLP model.

“It doesn’t look like something Energy Transfer or Enterprise would want to do,” said Simon Lack, a managing partner at SL Advisors LLC, which advises family offices and institutional investors. Being a partnership “isn’t impeding them from growing because they’re just funding their growth projects internally and with a little bit of debt.”

Master limited partnerships, or MLPs, that once dominated the U.S. pipeline sector have become an endangered species since the crude-market crash of 2014-2016 diminished access to capital markets and investors frowned on dilutive new equity issuances that historically powered the sector’s growth planes.

Pipeline corporations traded at 11.4 times earnings during the second quarter, excluding taxes and other expenses, according to Bloomberg Intelligence. That compared to 10 times earnings for their MLP counterparts. And while the corporations are trading at multiples in line with the five-year average, the big MLPs are about 17% below the trendline.

Moreover, for the past year corporations like Kinder Morgan Inc., Oneok Inc. and Enbridge Inc. have beaten the units of Energy Transfer and Enterprise.

For the billionaire founding families behind Energy Transfer and Enterprise, the biggest deterrent to conversion may be the multimillion-dollar tax obligations they would invite by abandoning the MLP haven, Lack said.

The Duncan family, whose late patriarch Dan Duncan founded Enterprise, owns roughly a third of the Houston-based pipeline operator. Kelcy Warren, founder and chief executive officer of Energy Transfer, holds a 9.4% in the limited partner and controls the general partner.

Tax Burdens

The tax bill that would come with being a corporation would come in around $340 million a year for the Duncans, according to Lack’s calculations. For Warren, the bill would be about $65 million annually, based on last year’s net income, but “that figure will increase over the next few years,” Lack said.

Enterprise spokesman Rick Rainey declined to comment on “such rank and uninformed speculation.” Energy Transfer also declined to comment.

“We don’t like paying tax. We don’t think our unitholders like us to subject them to tax,” Warren said on a conference call last year. “However, if we find that there’s compelling reason that if we have the c-corp currency that would help us fund our growth, help all of our unitholders, then we are certainly open to that, and we’ll continually look at it.”

The pipeline-partnership structure, pioneered by Texas billionaire Rich Kinder in the 1990s, flourished during the first decade-and-a-half of the century, when the number publicly-traded MLPs reached about 90. But Kinder was among the first to abandon the model when the tax benefits began to be eroded by higher borrowing costs.

$54 Billion Enterprise

In a sweeping $44 billion, 2014 consolidation, Kinder rolled MLPs he controlled into a single corporation: Kinder Morgan Inc. Although the makeover lowered investor payouts, it left the company holding more cash to fund new projects or acquire rivals, Kinder said at the time.

In the latest swipe at the MLP model, Elliott Management Corp. on Wednesday urged Marathon Petroleum Corp. to pursue a breakup that would include converting its pipeline MLP to a corporation and spinning off some of the shares to Marathon Petroleum investors.

Elliott estimated Marathon Petroleum’s pipeline business has an enterprise value of about $54 billion, on par with that of Kinder, according to a 45-page presentation published Wednesday.

For more on the activist advance on Marathon Petroleum, click here.

Aside from the tax implications, though, any MLP mulling a conversion to a corporation would have to comply with governance standards their billionaire backers may be loathe to entertain, said Jeff Jorgensen, portfolio manager and director of research at Brookfield Asset Management Inc.’s Public Securities Group.

“They would have to change their board, they would have to change the way they operate from a corporate governance standpoint,” Jorgensen said. “In doing so, they open themselves up to activism. If you think about an Energy Transfer, does Kelcy Warren just invite activism tomorrow?”

To contact the reporter on this story: Rachel Adams-Heard in Houston at radamsheard@bloomberg.net

To contact the editors responsible for this story: Simon Casey at scasey4@bloomberg.net, Joe Carroll

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