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Analyzing Cash Flows of Master Limited Partnerships

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2014-04-16 16:00

Distributable Cash Flow (DCF)

By: Ron Hiram

Published: Jan 23, 2012

Distributable cash flow (DCF) is a quantitative standard viewed by master limited partnerships (MLP) investors and analysts as an indicator of the MLP’s ability to generate cash flow at a level that can sustain or support an increase in quarterly distribution rates. Since DCF is a non-GAAP measure, its definition is not standardized. In fact, each master limited partnerships may define DCF differently. Investors face two challenges in this regard: first, how do you to compare different MLPs based on their DCF; second, how does the MLPs definition of DCF compare with the investor’s own definition of what can sustain current levels of, or support increases, in quarterly distribution rates.

Below are several examples of DCF definitions, illustrating the fact that each MLP defines DCF somewhat differently:

BPL: Using the 9 months ended 9/30/11 as an example, distributable cash flow is derived as follows:

 
2006
2007
2008
2009
2010
9M 9/30/11
Net income attributable to BPL8,73422,92126,47749,59443,08057,176
Depreciation and amortization39,62940,23650,83454,69959,590102,558
Net income attributable to noncontrolling interests affected by BGH merger (Nov 2010)107,091131,941153,54690,381157,46727,262
Gain on sale of equity investment------34,112
Non-cash deferred lease expense--4,5984,5004,2354,150
Non-cash unit-based compensation expense3299681,9094,4088,9609,894
Equity plan modification expense----21,05821,058
Asset impairment expense---59,724--
Reorganization expense---32,057--
Non-cash senior administrative charge-9501,900475--
Amortization of unfavorable storage contracts------4,813
Write-off of deferred financing costs-----3,331
Amortization of deferred financing costs and debt discounts3,3471,4481,7373,1344,4114,386
Goodwill impairment expense-----169,560
Maintenance capital expenditures-30,234-33,803-28,936-23,496-31,244-41,815
Distributable Cash Flow128,896164,661212,065275,746267,557311,150
Cash Distributions for Coverage ratio (see note below)147,979173,689209,412237,687259,315332,441
Cash Coverage Ratio0.870.951.011.161.030.94

Figures in $ Millions

BWP: Using the 12 months ended 12/31/11 as an example, distributable cash flow is derived as follows:

12 months ended:
12/31/2011
12/31/2010
Net Income220.0289.4
Income taxes0.40.5
Depreciation and amortization225.2217.9
Interest expense159.3151.0
Interest income(0.4)(0.6)
Loss on debt extinguishment13.2-
EBITDA617.7658.2
Less:
Cash paid for interest, net of capitalized interest171.7146.3
Maintenance capital expenditures94.663.0
Other0.60.4
Add:
Cash received for settlements9.6-
Asset impairment and net loss on disposal30.55.8
Distributable Cash Flow390.9454.3

 

Figures in $ Millions

EPB: “We use the non-GAAP financial measure Distributable Cash Flow as it provides important information relating our financial operating performance to our cash distribution capability.

We define Distributable Cash Flow as Adjusted EBITDA less cash interest expense, maintenance capital expenditures, and other income and expenses, net, which primarily includes deferred revenue, a non-cash allowance for equity funds used during construction and other non-cash items”.

In May 2012 Kinder Morgan, Inc. (KMI) acquired El Paso Coprporation (EP), EPB’s parent, and thus became EPB’s general partner. EPB now determines DCF as follows:

“We use the non-GAAP financial measure Distributable Cash Flow (DCF) as it provides important information relating our financial operating performance to our cash distribution capability. Subsequent to El Paso’s and KMI’s merger, our DCF calculation has changed. We now define DCF before certain items to be limited partners’ income before certain items and depreciation and amortization (DD&A), less sustaining capital expenditures for EPB, plus DD&A less sustaining capital expenditures for Bear Creek Storage Company, L.L.C., (Bear Creek) and WYCO Development L.L.C. (WYCO), our equity method investees, plus other income and expenses, net (which primarily includes deferred revenue, allowance for funds used during construction (AFUDC) equity and other non-cash items)”.

EPD: “We define distributable cash flow as net income or loss attributable to partners adjusted for: (1) the addition of depreciation, amortization and accretion expense; (2) the addition of operating lease expenses for which we do not have the payment obligation; (3) the addition of cash distributions received from unconsolidated affiliates less equity earnings from unconsolidated affiliates; (4) the subtraction of sustaining capital expenditures and cash payments to settle asset retirement obligations; (5) the addition of losses or subtraction of gains from asset sales and related transactions; (6) the addition of cash proceeds from asset sales or related transactions; (7) the return of an investment in an unconsolidated affiliate or related transactions (if any); (8) the addition of losses or subtraction of gains on the monetization of derivative instruments recorded in accumulated other comprehensive income (loss), if any, less related amortization of such amounts to earnings; (9) the addition of net income attributable to the noncontrolling interest associated with the public unitholders of DEP, less related cash distributions to be paid to such unitholders with respect to the period of calculation; and (10) the addition or subtraction of other miscellaneous non-cash amounts (as applicable) that affect net income or loss for the period”.

ETP: “The Partnership defines Distributable Cash Flow as net income, adjusted for certain non-cash items, less maintenance capital expenditures. Non-cash items include depreciation and amortization, deferred income taxes, non-cash compensation expense, gains and losses on disposals of assets, the allowance for equity funds used during construction, unrealized gains and losses on commodity risk management activities, and non-cash impairment charges. Unrealized gains and losses on commodity risk management activities include unrealized gains and losses on commodity derivatives and inventory fair value adjustments (excluding lower of cost or market adjustments). Distributable Cash Flow reflects amounts for less than wholly owned subsidiaries based on the Partnership’s proportionate ownership and also reflects earnings from unconsolidated affiliates on a cash basis”.

KMP: “We define distributable cash flow before certain items to be limited partners’ pretax income before certain items and DD&A, less cash taxes paid and sustaining capital expenditures for KMP, plus DD&A less sustaining capital expenditures for Rockies Express, Midcontinent Express, Fayetteville Express, KinderHawk and Cypress, our equity method investees, less equity earnings plus cash distributions received for Express and Endeavor, two additional equity investees. Distributable cash flow before certain items per unit is distributable cash flow before certain items divided by average outstanding units. Segment distributable cash flow before certain items is segment earnings before certain items and DD&A less sustaining capital expenditures. In certain instances to calculate segment distributable cash flow, we also add DD&A less sustaining capital expenditures for Rockies Express, Midcontinent Express, Fayetteville Express, KinderHawk and Cypress, our equity method investees. We define EBITDA before certain items as pretax income before certain items, plus interest expense and DD&A, including the DD&A of REX, MEP, FEP, KinderHawk and Cypress, our equity method investees.

“Certain items” are items that are required by GAAP to be reflected in net income, but typically either (1) do not have a cash impact, for example, goodwill impairments, allocated compensation for which we will never be responsible, and results from assets prior to our ownership that are required to be reflected in our results due to accounting rules regarding entities under common control, or (2) by their nature are separately identifiable from our normal business operations and in our view are likely to occur only sporadically, for example legal settlements, hurricane impacts and casualty losses. Management uses this measure and believes it is important to users of our financial statements because it believes the measure more effectively reflects our business’ ongoing cash generation capacity than a similar measure with the certain items included. For similar reasons, management uses segment earnings before DD&A and certain items and segment distributable cash flow before certain items in its analysis of segment performance and managing our business. We believe segment earnings before DD&A and certain items and segment distributable cash flow before certain items are significant performance metrics because they enable us and external users of our financial statements to better understand the ability of our segments to generate cash on an ongoing basis. We believe they are useful metrics to investors because they are measures that management believes are important and that our chief operating decision makers use for purposes of making decisions about allocating resources to our segments and assessing the segments’ respective performance”.

MMP: Using the 12 months ended 12/31/11 as an example, cash available for distribution is derived as follows:

 
2007
2008
2009
2010
2011
Distributable cash flow:
Net income 230,754 330,103 226,475 311,580 413,566
Depreciation and amortization expense 80,694 87,268 98,328 110,069 123,010
Equity-based incentive compensation expense 6,213 931 6,123 15,499 10,243
Asset retirements and impairments 8,548 7,180 5,529 1,062 8,599
Commodity-related adjustments:
NYMEX losses (gains) recognized in the period associated with products that will be sold in future periods- (20,200) 10,475 14,945 (5,909)
NYMEX losses (gains) recognized in previous periods associated with products that were sold in the period-- 20,200 (7,675) (15,162)
Lower-of-cost-or-market adjustments .....- 6,413 (6,413)3 1,017
Houston-to-El Paso cost of sales adjustment---478 (2,316)
Maintenance capital (31,243) (43,232) (37,999) (44,620) (70,002)
Expenses paid by (credited to) a former affiliate 10,617 (4,344) 5,144 --
Product supply agreement gains (2,563) (26,919)---
Other (4,876) 1,013 541 (1,582) (2,504)
Distributable cash flow 298,144 338,213 328,403 399,759 460,542

 

Figures in $ Millions

NGLS: “We define distributable cash flow as net income attributable to Targa Resources Partners LP plus depreciation and amortization, deferred taxes and amortization of debt issue costs included in interest expense, adjusted for non-cash losses (gains) on mark-to-market derivative contracts and debt repurchases, less maintenance capital expenditures (net of any reimbursements of project costs). The impact of noncontrolling interests is included in this measure. Distributable cash flow is a significant performance metric used by us and by external users of our financial statements, such as investors, commercial banks and research analysts, to compare basic cash flows generated by us (prior to the establishment of any retained cash reserves by the board of directors of our general partner) to the cash distributions we expect to pay our unitholders. Using this metric, management and external users of our financial statements can quickly compute the coverage ratio of estimated cash flows to planned cash distributions. Distributable cash flow is also an important financial measure for our unitholders since it serves as an indicator of our success in providing a cash return on investment. Specifically, this financial measure indicates to investors  whether or not we are generating cash flow at a level that can sustain or support an increase in our quarterly distribution rates. Distributable cash flow is also a quantitative standard used throughout the investment community with respect to publicly-traded partnerships and limited liability companies because the value of a unit of such an entity is generally determined by the unit’s yield (which in turn is based on the amount of cash distributions the entity pays to a unitholder)”.

NRGY: “Adjusted EBITDA is defined as income (loss) before taxes, plus net interest expense and depreciation and amortization and excludes (i) non-cash gains or losses on derivatives associated with fixed price sales to retail propane customers, (ii) long-term incentive and equity compensation charges, (iii) gains or losses on disposals of assets, and (iv) transaction costs, as disclosed in Inergy, L.P.’s SEC filings… Distributable cash flow is defined as Adjusted EBITDA, less cash interest expense, maintenance capital expenditures and income taxes. Distributable cash flow should not be considered an alternative to cash flows from operating activities or any other measure of financial performance calculated in accordance with generally accepted accounting principles as those items are used to measure operating performance, liquidity, or the ability to service debt obligations. We believe that distributable cash flow provides additional information for evaluating our ability to declare and pay distributions to unitholders. Distributable cash flow, as we define it, may not be comparable to distributable cash flow or similarly titled measures used by other corporations and partnerships. Subsequent to the Inergy Midstream, L.P. initial public offering, this amount includes the distributable cash flow of Inergy Midstream except that which has been paid or declared payable to the public unitholders of Inergy Midstream.”

PAA: Using the 9 months ended 9/30/11 as an example, distributable cash flow (“Implied DCF”) is derived as  follows:

9 months ended:
9/30/2011
Net income706
Add:
Depreciation and amortization191
Income tax (benefit)/expense28
Interest expense190
EBITDA 1,115
Less:
Gains/(losses) from other derivative activities72
Equity compensation expense(40)
Significant acquisition-related expenses
Net loss on early repayment of senior notes(23)
Net gain/(loss) on foreign currency revaluation (17)
Other(5)
Selected Items Impacting Comparability(13)
EBITDA 1,115
Selected Items Impacting Comparability13
Adjusted EBITDA 1,128
Adjusted EBITDA 1,128
Interest expense(190)
Maintenance capital(77)
Current income tax (expense)/benefit(25)
Equity earnings in unconsolidated entities, net of distributions7
Distributions to noncontrolling interests (6)(35)
Insurance deductible related to property damage(1)
Distributable Cash Flow ("Implied DCF")807

 

Figures in $ Millions

RGP: We define EBITDA as net income (loss) plus interest expense, net, income tax expense, net and depreciation and amortization expense. We define adjusted EBITDA as EBITDA plus or minus non-cash loss (gain) from commodity and embedded derivatives, non-cash unit-based compensation, loss (gain) on asset sales, net, loss on debt refinancing, other non-cash (income) expense, net; net income attributable to noncontrolling interest; and our interest in adjusted EBITDA from unconsolidated affiliates less income from unconsolidated affiliates.

We define cash available for distribution as adjusted EBITDA:

-              Minus interest expense, excluding capitalized interest;

-              Minus maintenance capital expenditures;

+             Plus cash proceeds from asset sales, if any; and

-              Joint venture adjustments, which mainly include interest expense and maintenance capital expenditures.

Using the 9 months ended 9/30/11 as an example, cash available for distribution is derived as follows:

 

9 months ended:
 
9/30/2011
Net (loss) income59,991
Add (deduct):-
Interest expense, net73,548
Depreciation and amortization122,695
Income tax expense (benefit)-19
EBITDA256,215
Add (deduct):-
Non-cash loss (gain) from commodity and embedded derivatives-20,149
Non-cash unit-based compensation2,687
Gain (loss) on assets sales, net50
Income from unconsolidated subsidiaries-86,921
Partnership's ownership interest in HPC's adjusted EBITDA55,660
Partnership's ownership interest in MEP's adjusted EBITDA76,604
Partnership's ownership interest in Lone Star Joint Venture's adjusted EBITDA23,736
Loss on debt refinancing, net-
Other expense, net-413
Adjusted EBITDA307,469
Less:-
Interest expense, net (cash)-78,262
Maintenance capital expenditures-12,445
Income Tax expense deferred-
Proceeds from asset sales10,236
Convertible preferred distribution (Series A Preferred Units)-5,835
Joint venture adjustments-17,137
Non-cash compensation-
Other cash adjustements-1,254
Other-
Distributable Cash Flow202,772

 

Figures in $ Millions

WPZ: “We define Distributable Cash Flow as net income plus depreciation and amortization and cash distributions from our equity investments less our earnings from equity investments, distributions to noncontrolling interests and maintenance capital expenditures. We also adjust for payments and/or reimbursements under omnibus agreements with Williams and certain non-cash adjustments. Total Distributable Cash Flow is reduced by any amounts associated with operations, which occurred prior to our ownership of the underlying assets to arrive at Distributable Cash Flow attributable to partnership operations”.

 

5 comments to Distributable Cash Flow (DCF)

  • [...] Principles (“GAAP”) measure, its definition is not standardized. In fact, as shown in a prior article, each MLP may define DCF [...]

  • Hi! I am wondering . . . If I buy into an MLP, how do I receive income payouts? Am I sent a check quarterly, yearly, etc? Also, how do or what do I look at to be able to figure out what that amount of money will be per share? And how and when does this “90%” paid to share holders happen? This “90% payout” sounds like each share should be seeing quite a bit of money per share than a stock which lots of times pays $0.27 a share. Would it be possible that an MLP would pay out $5.00 a share due to them paying out the “90%”? I will be retiring in approx. 6 yrs and I want to practice a portfolio to see if MLP’s would pay better than stocks. I don’t ever want to have to sell shares to support myself. Thank you so much for your help on understanding this!!

    • Ron Hiram Ron Hiram

      Distributions are made quarterly. When you enter an MLP’s stock symbol to get a price quote on Yahoo Finance, Google Finance, WSJ, Barron, etc you will also receive data on what the quarterly distribution amount is. 90% referes to the portion of total distributable cash flow (DCF) that MLPs generate from their operations in a calendar quarter. They are typically required to pay to unitholders 90% of that amount. The definition of what consttiutes “DCF” is in the Partnership Agreement of each MLP. The definitions are not identical across MLPs.

  • JB

    Ron,

    Two Questions.

    1) What is the rationale given from MLP’s that changes in working capital should be excluded from the DCF Calculation?

    2) Why is it accepted that DCF is an appropriate measure. When I look at the GAAP Cash Flow from operating activities less total capex (Maintenance and Growth), most companies do no generate enough cash flow to make their distribution. Only after making these various adjustments do they get there. I understand DCF is a Non-GAAP measure, but why are their auditors uncomfortable with signing off on what is in a lot of cases a very deceiving and unsustainable distribution.

    • Ron Hiram Ron Hiram

      1) If included, WC changes can cause substantial fluctuations in reported DCF. I think that is why most MLPs exclude them. My approach, as you know, differs.
      2) Auditors do not sign off on non-GAAP measures. They do not appear in the MLP’s financial statements, but only in accompanying materials provided to investors (such as MD&A sections of 10-K and 10-Q reports, press releases, and investor presentations).

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