Infrastructure solid for energy investors
Oil prices are down, but production is up ... and that’s good for business
It should come as little surprise that energy infrastructure stocks have outperformed energy producers in the past year given the dramatic pullback in oil prices.
But the infrastructure space has also done much better — with lower volatility — than the energy sector over longer periods as well ( five, 10 and 20 years), in large part because of rising spending and production levels.
Between 2000 and 2007, oil prices averaged about $ 40 US per barrel. Yet capital expenditures in Canadian energy infrastructure rose tenfold, with spending driven by production growth rather than commodity prices.
Spending on energy- related infrastructure such as pipelines, storage, transportation, marketing and processing hit an all- time high in 2013, and should do so again when 2014 numbers are reported.
“We think production growth is going to continue, just not at the pace it has over the past five years, because price declines are not incentivizing as much drilling activity,” said Genevieve Roch- Decter, who runs LDIC Inc.’ s North American Energy Infrastructure Fund with co- managers Andrew Pink and the firm’s chief executive Michael Decter.
Rising production helped drive most of the fund’s holdings to a record year in 2014 in earnings and cash flow, while dividend growth averaged 17 per cent for the top 10 positions.
The portfolio managers don’t see oil prices returning to $ 90 per barrel anytime soon, but that may not affect production. Roch- Decter noted that gas production continues to hit new highs even though prices have been cut in half over the past five years.
“We see a pretty similar scenario for oil,” she said, “We’re just going to be in a lower- cost environment, which continues to fuel revenue, EBITDA and dividend growth for all these companies.”
One big reason for the relatively lower volatility offered by energy infrastructure stocks is their cashflow stability.
Some companies have take- or-pay contracts that require producers to pay them regardless of whether any volume moves through their pipelines or processing facilities, while others are paid on volume.
“Investors presume that when the oil price gets cut in half, the pipelines are going to suffer,” Decter said, pointing out that they are not directly tied to the price of oil.
Their stability also allows them to have low costs of capital, so they’ve been able to raise debt at rates near three to 3.5 per cent, while generating rates of return for their overall operations of 15 to 17 per cent.
As a result, some players are buying plants and gathering systems from energy producers, who are now more strapped for cash.
For example, Keyera Corp. bought a stake in a Bellatrix Exploration Ltd. gas plant and its related pipelines late in 2014. Around the same time, Encana Corp. and Mitsubishi Corp. sold gas pipeline and processing assets to Veresen Inc. and KKR & Co.
Fund- holding Secure Energy
Spending on energy- related infrastructure such as pipelines, storage, transportation, marketing and processing hit an all- time high in 2013.
Services Inc., which treats and disposes oilfield by- products, recently raised nearly $ 200 million and it’s looking for acquisitions as many producers still handle their own wastewater.
“Producers are starting to outsource more to companies like Secure,” Roch- Decter said. “You’re going see more deals of this nature as producers get more and more desperate.”
She also noted companies such as Secure that serve producers that have already drilled wells stand to benefit as the wells age and produce more fluid. This is particularly true given how quickly production has grown in the past five years.
Another name the managers like is Parkland Fuel Corp., one of the fastest- growing independent fuel and petroleum products marketers in North America.
The company has grown very aggressively through acquisitions ( 22 since 2006), and recently bought Pioneer Energy LP’s assets. Roch- Decter noted the deal will boost Parkland’s EBITDA by 30 per cent and gives it the highest retail presence for Esso gas stations across Canada.
The company subsequently announced it was buying Chevron’s locations, giving Parkland more than 1,000 new locations because of the two deals.
Parkland’s fuel margins remained steady when oil prices crashed in 2008- 09 and “they are showing that same stability now,” Roch- Decter said.
“They are sort of insulated from this oil price correction, and still growing through acquisitions.”
A less obvious name in this space is Macquarie Infrastructure Co. LLC. It’s one of the biggest operators of airports catering to corporate and private jets, which means a third of its business benefits from a recovering economy and lower fuel prices.
About half of the company’s business is also in the storage of petroleum and bulk liquids all over the U. S. and it’s been making some sizable acquisitions in this area.
The company has grown its dividend as a result of its larger cash flows, and LDIC’s managers expect more big acquisitions are coming.
It’s also converting to a corporation from an income fund, which means the stock will be included in some indexes and that could create a lot of buying volume.