By: Ron Hiram
Published: Feb 6, 2012
In an article titled “Distributable Cash Flow (“DCF)” I present the definition of DCF used by Regency Energy Partners LP (RGP) and provide a comparison to definitions used by other master limited partnerships (MLPs). Using RGP’s definition, DCF for the 9 month period ending 9/30/11 was $1.43, down from $1.53 in the comparable prior year period. How do these figures compare with what I call sustainable DCF for these periods?
The generic reasons why DCF as reported by the MLP may differs from call sustainable DCF are reviewed in an article titled “Estimating sustainable DCF-why and how”. Applying the method described there to RGP results through September 30, 2011 generates the comparison outlined in the table below:
| 9 months ending: | 9/30/2011 | 9/30/2010 |
|---|---|---|
| Net cash provided by operating activities | 204.4 | 127.9 |
| Less: Maintenance capital expenditures | (12.4) | (10.7) |
| Less: Working capital (generated) | (32.2) | - |
| Adjustments attributable to noncontrolling interests | (1.1) | (0.5) |
| Sustainable DCF | 158.7 | 116.7 |
| Add: Net income attributable to noncontrolling interests | 1.1 | 0.5 |
| Working capital used | - | 1.5 |
| Risk management activities | 1.5 | (3.2) |
| Proceeds from sale of assets / disposal of liabilities | 10.2 | 12.6 |
| Other | 31.2 | 36.6 |
| DCF as reported | 202.8 | 164.6 |
Figures in $ Millions
The principal difference between reported DCF and sustainable DCF relates to RGP’s substantial, but non-controlling, stakes in other pipelines (a 49.99% general partner interest in HPC; a 50% membership interest in MEP; and a 30% membership interest in Lone Star). Pursuant to Generally Accepted Accounting Principles (GAAP), the Partnership records its share of the net income in HPC, MEP and Lone Star as income from unconsolidated affiliates in accordance with the equity method of accounting. However, for purposes of calculating DCF, RGP treats these as if they were fully consolidated by deducting its share of net income, adding its share of the earnings before interest, taxes, depreciation & amortization (EBITDA), and further adjusting to take into account its share of interest expense and maintenance capital expenditures.
On the one hand, I can accept classifying RGP’s share of cash flows generated from these entities in the sustainable category despite the fact that RGP does not control them (i.e., cannot determine what to do with the cash they generate). This is because they are similar in every other respect to RGP’s other pipeline assets and because RGP and/or Energy Transfer Equity, L.P. (ETE), RGP’s general partner, do exercise a significant degree of influence over them. On the other hand, RGP’s share of cash flows generated from these entities (which accounts for the bulk of the $31.2 million and the $36.6 million in the “Other” line item) does not, as of the date of the report, appear on RGP’s balance sheet and does not increase master limited partnership’s end-of-period cash balance.
Coverage ratios, with and without this line item, are as indicated in the table below:
| 9 months ending: | 9/30/2011 | 9/30/2010 |
|---|---|---|
| Distributions to unitholders ($ Millions) | $199.60 | $141.30 |
| Coverage ratio based on reported DCF | 1.02 | 1.16 |
| Coverage ratio based on sustainable DCF (including non-consolidated entities) | 1.03 | 1.02 |
| Coverage ratio based on sustainable DCF | 0.95 | 1.08 |
Whichever way you look at it, these are thin coverage ratios. Moreover, they are calculated based on distributions actually made during the relevant period. RGP recently increased its distributions by ~3.4% (from $1.78 to $1.84 per unit on an annual basis), so coverage ratios could fall further unless there is an increase in cash from operating activities.
I find it helpful to look at a simplified cash flow statement by netting certain items (e.g., acquisitions against dispositions) and by separating cash generation from cash consumption.
Here is what I see for RGP:
Simplified Sources and Uses of Funds:
| 9 months ending: | 9/30/2011 | 9/30/2010 |
|---|---|---|
| Net cash from operations, less maintenance capex, less net income from non-controlling interests, less distributions | (7.7) | (24.2) |
| Capital expenditures ex maintenance, net of proceeds from sale of PP&E | (268.2) | (60.3) |
| Acquisitions, investments (net of sale proceeds) | (593.8) | (253.6) |
| Cash contributions/distributions related to affiliates & noncontrolling interests | - | (8.9) |
| Debt incurred (repaid) | - | (35.8) |
| Other CF from financing activities, net | (15.1) | (42.6) |
| (884.8) | (425.3) | |
| Cash contributions/distributions related to affiliates & noncontrolling interests | 16.7 | - |
| Debt incurred (repaid) | 660.0 | - |
| Partnership units issued | 203.9 | 419.5 |
| 880.6 | 419.5 | |
| Net change in cash | (4.2) | (5.8) |
Figures in $ Millions
Net cash from operations, less maintenance capital expenditures, less net income from non-controlling interests did not cover distributions in both periods, although the shortfall was reduced to $7.7 million for the 9 months ended 9/30/11 from $24.2 million in the prior year period. These shortfalls exist despite the fact that RGP’s reported DCF exceeded the amount distributed. The reason, as previously noted is that reported DCF included items that never make it into the cash flow statement (i.e., cash flows from the non-consolidated pipelines and some other adjustments). Note also that absent the $32.2 million of cash generated from working capital in the 9 months ended 9/30/11, the shortfall would have increased vs. the prior year period.
For a further drill-down that reviews the breakdown by quarter of the 9 month numbers in this report, see “RGP: Regency Energy Partners LP – Quarterly DCF Data“.
Coverage of the 7.3% current yield (distribution of $0.46 per unit per quarter) is quite thin. An increase in cash from operating activities is expected from prospective drop-downs resulting from the merger of ETE with Southern Union Gas which was completed on January 12, 2012. When and to what extent this will materialize remains to be seen.
I will update the numbers after RGP issues its 2011 report on Form 10-K.