Consisting mostly of publicly traded master limited partnerships (MLPs), oil and gas midstream suppliers, for better or worse, are beholden to a breed of investors as interested in the return of their capital (i.e., distribution yield) as they are the return on their capital (i.e., unit-price appreciation and/or distribution growth).
With oil and gas prices currently weak, the attractiveness of MLPs as income + growth investments is waning. Midstream customers, consisting mostly of E&P companies, are officially hunkered down. Development and drilling budgets have been slashed, and suppliers of all stripes are being asked to lower costs till it hurts.
The midstream has done what it can. It has cut overhead and operating expenses, while keeping a close watch on counter-party risk. Some firms have even reduced their distributions, a step once considered verboten in the space. Investors have responded in kind, bidding down the Alerian MLP Index by a third over the last year.
To help navigate the troubled waters, midstream suppliers are also turning to more arcane-sounding tactics: asset drop-downs, general partner consolidations, elimination of incentive distribution rights (IDRs), etc. Other more familiar financial moves, including mergers and acquisitions, are being pursued as well.
While we won’t quibble with the notion that such financial engineering can benefit investors, it’s clearly a strategy only investment bankers could love (and many do). It also obscures other more fundamental steps midstream suppliers can take to improve their plights.
Based on analysis of a recently completed study conducted by EnergyPoint Research, we know customers of midstream suppliers prefer suppliers that excel in three areas: service and professionalism, operations and project development. We also know how a supplier performs in these types of attributes can have considerable impact on its financial performance.
MarkWest Energy Partners, Plains All American and Sunoco Logistics currently hold the top three survey spots in terms of overall customer satisfaction. So, it’s not particularly surprising each also enjoys strong ratings in these key attributes.
Obviously, performance leadership like this doesn’t happen by chance. It requires organizations and leaders that emphasize the right things. For example, hiring and training practices and retention of key personnel is directly tied to service and professionalism. Operational excellence turns on productivity, efficiency and reliability (not on the newest assets or technologies). Project development is about being both aggressive and capable as a supplier.
These aren’t the only areas of opportunity worth noting. There exist disparities in customer ratings across low-rated service segments as well. The data suggest the suppliers best positioned in these lowest-rated areas include:
Plains All American, Energy Transfer and Kinder Morgan in
crude transportation and crude storage & terminaling;
MarkWest, Kinder Morgan and Enable Midstream in onshore gas
MarkWest, Enterprise Products and EnLink Midstream in NGL
Similarly, there are geographic regions that hold additional opportunity for suppliers, including:
MarkWest and Sunoco Logistics in the Appalachian Basin & Marcellus region;
Williams Midstream and Kinder Morgan in the U.S. Rockies & San Juan Basin, and;
Sunoco Logistics, Energy Transfer and MarkWest in the Texas
As it looks now, the slowdown in U.S. drilling and development will dampen midstream prospects though mid-2016. In the meantime, the hectic nature of the last few years has left areas of opportunity in its wake. Higher-rated suppliers that leverage their position with customers (and lower-rated suppliers that change their ways) to help address these gaps stand to outperform their peers.