Subscribe for email updates on new posts

Analyzing Cash Flows of Master Limited Partnerships

Stock Quotes

BPL79.00  chart+0.72
BWP19.95  chart+0.10
EPB41.56  chart+0.51
EPD40.63  chart+0.25
ETP57.45  chart-0.02
KMP96.38  chart+1.29
MMP83.93  chart+0.48
NGLS74.40  chart+1.00
CEQP12.75  chart-0.19
RGP32.98  chart+0.25
PAA59.93  chart+0.43
SPH44.47  chart-0.28
WPZ53.01  chart+0.44
NLY11.90  chart+0.05
AGNC23.65  chart+0.14
2014-08-29 16:00

AGNC - Does American Capital Agency's business model support a dividend increase?

REIT logos-AGNC

Author: Ron Hiram

Published: August 28, 2014

Summary:

  • AGNC’s sustainable coverage of dividends turned positive in 4Q13 and has remained so for the last 3 consecutive quarters.
  • The improved performance was primarily driven by dividend reductions.
  • The improved performance was achieved while decreasing leverage.
  • The 5-year trend of declining or flat dividends may finally break if net interest rate spreads hold.

The bulk of the assets owned by American Capital Agency Corp. (AGNC) consist of mortgage-backed securities (“MBS”) and debentures issued by Fannie Mae, Freddie Mac, Ginnie Mae and the Federal Home Loan Bank (together, “Agency Securities”). These securities account for 80% of AGNC’s asset portfolio as of 6/30/14 (86% as of 12/31/13). AGNC relies primarily on short-term borrowings to acquire Agency Securities with long-term maturities. The shape of yield curve, the spread between returns on assets owned and the interest paid on amounts borrowed to purchase these assets, and amount of leverage (the bulk of which is generated via the repurchase markets) are the key drivers of profitability.

AGNC’s Agency Securities are typically classified for accounting purposes as “available-for-sale”.  They appear on the balance sheet at fair value, but unrealized gains and losses on these securities do not appear on the income statement. Instead, such gains and losses and are reported on the balance sheet as a separate component of stockholders’ equity. In addition, net interest income as measured by GAAP does not include all the expenses of interest rate swaps.

AGNC also engages in a form of off-balance sheet financing of agency MBS on a generic pool, or to-be-announced (“TBA”), basis. In TBA dollar roll transactions AGNC purchases agency MBS paper for a forward settlement date. The difference between the price paid and the price of the same paper for settlement in the current month is referred to as the “price drop”. The price drop is the economic equivalent of the net interest carry (interest income less implied financing cost). AGNC accounts for these positions as derivative instruments and recognizes dollar roll income in “other income (loss)” on its financial statements (i.e., not as interest expense).

Management therefore uses a non-GAAP measures to evaluate its performance, of which “economic return for the period” appears to be the most important. Economic return (loss) on common equity represents the sum of the change in net asset value per common share (“book value”) and dividends declared on common stock during the period, over beginning book value per common share. Management recently reported economic return of 39.6% and 30.6% (on an annualized basis) for the 3 and 6 months ended 6/30/14, respectively.

Economic return does not, in my opinion, provide a good enough indication as to whether the dividends paid are sustainable in light of AGNC’s leverage and interest rate spreads. To perform that evaluation I use a simple analysis (also non-GAAP based) that models AGNC’s bread and butter business of using short-term borrowings to acquire Agency Securities. The model can be used to assess whether AGNC’s dividends are sustainable and whether there is reason to be optimistic about a prospective dividend increase. Applying this model to AGNC’s recent quarterly and trailing twelve months (“TTM”) results generates the following output:

 
Period:
2Q14
1Q14
4Q13
3Q13
2Q13
TTM
TTM
6/30/146/30/13
1Debt per $1 of book value (BV)7.037.317.477.978.227.457.9
2BV of Equity1111111
3Interest bearing assets per $1 BV8.038.318.478.979.228.458.9
4Net Interest Income (spread)1.26%1.19%1.57%1.20%1.49%1.31%1.52%
5Yield on avg. int. earning assets2.71%2.54%2.82%2.59%2.92%2.66%2.75%
6Earnings- debt financed assets (1x4)8.85%8.70%11.73%9.57%12.24%9.77%11.98%
7Earnings- equity financed assets (2x5)2.71%2.54%2.82%2.59%2.92%2.66%2.75%
8Management fee on int. bearing assets-0.20%-0.17%-0.14%-0.15%-0.17%-1.25%-1.25%
9Earnings- int. bearing assets (6+7+8)11.36%11.07%14.41%12.01%14.99%11.18%13.48%
10BV per share (end of period)26.2624.4923.9325.2725.5126.2625.51
11BV x sustainable div. yield (9x10)2.982.713.453.043.822.943.44
12Sustainable dividend in period0.750.680.860.760.962.943.44
13Actual dividend in period0.650.650.650.81.052.754.8
14Sustainable coverage of div. (12/13)1.151.041.330.950.911.070.72

Table 1: Dividend sustainability model

AGNC’s sustainable coverage of dividends turned positive (i.e., above the 1x threshold) in 4Q13 after 5 consecutive quarters of below 1x coverage. It has remained so for the last 3 consecutive quarters as well as the latest TTM period.

The improved performance seems to have primarily driven by dividend reductions (line 13) in these quarters and was achieved without increasing leverage. In fact, leverage decreased somewhat.The current dividend now seems to be aligned with what AGNC’s basic business model can produce under 2Q14 levels of interest rate spreads and leverage.  I believe it is prudent for management to see if this continues for another 1 or 2 quarters. If it does, the long trend of declining or flat dividends (the last increase was over 5 years ago, in 2Q09) may finally be broken. The model also provides investors an order of magnitude with respect to the amount of a possible dividend increase.

NLY - Does Annaly's business model support a dividend increase?

REIT logos-NLY

Author: Ron Hiram

Published: August 27, 2014

Summary:

  • The current dividend again seems to be aligned with what NLY’s basic business model can produce.
  • Return to positive coverage in 2Q14 was achieved without increasing leverage.
  • The 3-year trend of declining or flat dividends may finally break if net interest rate spreads hold.

Continue reading NLY – Does Annaly’s business model support a dividend increase?

BWP - A Closer Look at Boardwalk Pipeline Partners’ Distributable Cash Flow as of 2Q 2014

master limited partnership logos-BWP

Author: Ron Hiram

Published: August 25, 2014

Summary:

  • The 2014 DCF forecast is likely to be met or exceeded.
  • The leverage target (4x debt to EBITDA) is unlikely to be reached by year-end.
  • Operating income and EBITDA trends in recent quarters and TTM period are not encouraging.
  • Valuation multiple lower than peers, but so is current yield. The likelihood of significant distribution growth in next 2-3 years is low.
  • BWP well positioned to benefit from increased demand to transport gas and NGLs from north to south (vs. south to north). But this will require significant capital investments and time.

Continue reading BWP – A Closer Look at Boardwalk Pipeline Partners’ Distributable Cash Flow as of 2Q 2014

SPH - A Closer Look at Suburban Propane Partners' Distributable Cash Flow as of 3Q FY 2014

master limited partnership logos-SPH Author: Ron Hiram

Published: August 24, 2014

Summary:

  • Gross margins as a percent of revenues declined for the 3 recent consecutive quarters and latest 12 months.
  • Adjusted EBITDA per unit, net cash from operations and DCF also declined in the latest 12-month period.
  • Cash reserves have been used to fund distributions.
  • Despite its lower valuation multiple and significantly higher current distribution yield, SPH has underperformed its peers.

Continue reading SPH – A Closer Look at Suburban Propane Partners’ Distributable Cash Flow as of 3Q FY 2014

RGP - A Closer Look at Regency Energy Partners' Distributable Cash Flow as of 2Q 2014

master limited partnership logos-RGP

Author: Ron Hiram

Published: August 21, 2014

Summary:

  • There are significant differences between EBITDA and Adjusted EBITDA because investments in unconsolidated affiliates are treated as if they were fully consolidated.
  • Even on an adjusted basis, EV/EBITDA multiple is high vs. other MLPs.
  • RGP has not been generating excess cash that could help fund its capital expenditures and reduce reliance on raising debt and equity.
  • Transformative acquisitions plus large backlog of approved organic growth projects underpin expected volume growth, earnings growth, and distribution growth.

===================================================================================

Continue reading RGP – A Closer Look at Regency Energy Partners’ Distributable Cash Flow as of 2Q 2014