MLPs

It's a rare MLP that can pay its large dividend without a significant sell-off afterward, and that means good things for this energy company previously recommended by MoneyShow's Jim Jubak, also of Jubak's Picks.

Not surprisingly, Targa Resources Partners (NGLS) has shown a little weakness recently, after the February 14 date (record date January 28) for paying the master limited partnership’s fourth-quarter dividend.

What’s surprising is how small the retreat has been. I suspect that this strength in a dividend-paying stock after the dividend payout is a sign that investors are feeling a little less aggressive and a little more conservative at current highs.

The retreat wasn’t very large—from $41.88 on February 14 to $41.04 on February 20—but a decline is normal for stocks and MLPs that pay hefty dividends. (Targa showed a projected dividend yield of 6.5% at the February 14 price.) Some holders of the stock, having collected the quarterly dividend, sell with the idea of buying something else about to pay a dividend, and maybe return to hold Targa closer to its next dividend payout.

The dividend for the fourth quarter of 68 cents per unit ($2.72 per unit on an annual basis) is a 3% increase from the third quarter and a 13% increase from the dividend in the fourth quarter of 2011. The partnership continues to project a 10% to 12% increase in distributions for 2013.

If you believe those projections, and I think they’re reasonable, then that $2.72 in dividends turns into $2.99 to $3.05 a share at the end of 2013. And that would equate to a $45 unit price and a 6.8% yield at the end of the year. (Which is—$45 by December 2013—what I’m going to set as my new target price for Targa in my Jubak’s Picks portfolio.)

On February 14, Targa Resources Partners reported financial results for the fourth quarter of 2012 and for the full 2012 year. (The results of the acquisition of assets in the Bakken oil shale play aren’t included in these numbers, since that deal didn’t close until December 31.)

EBITDA (earning before interest taxes, depreciation, and amortization) came to $131 million in the quarter, against $146 million in the fourth quarter of 2011. Transaction costs for the Bakken deal came to about $6 million in the period. The partnership also wrote off $15.4 million in damage from Hurricane Isaac and recorded a $12.8 million loss on debt redemption.

For the fourth quarter, the partnership had distributable cash flow of $86.4 million. That's roughly equal to the $90.9 million in distributions paid on February 14.

In a period when money is cheap, one of the most important things to look for in an MLP is a pipeline of attractive investment opportunities. (An MLP borrows money to invest in new projects and makes its money on the spread between the cost of money and the returns on new investments.)

Targa’s pipeline of organic investment opportunities adds up to $1.7 billion in announced projects scheduled to come online in 2013 and 2014, with $1.1 billion of that front-loaded to go into service in 2013.

In addition, the Bakken acquisition opens up new opportunities for the company in a new production area that is more weighted to oil than to the company’s current focus on natural gas liquids. The company expects the Bakken acquisition to be accretive to EBITDA in 2014.

But the size of a partnership’s project pipeline isn’t the only important criteria for judging an MLP in an era of cheap money. There’s also the question of how a partnership’s revenue stream is structured.

Targa transports, mostly, natural gas liquids. Where its revenues are linked to commodity prices, weak prices for natural gas liquids (because of fast growing supply) hurt Targa’s revenues. Where its revenues come from fee-based services such as logistics, then Targa’s revenues hold up rather well, even if commodity prices are under pressure.

On this front, Targa has been moving in the right direction. Revenue over the last 12 months was only 37% fee-based, but the partnership’s newer projects have been fee-based. That should result in 55% of Targa’s revenues coming from fee-based projects by the end of 2013, and 60% by the end of 2014. That gives Targa’s cash flow and distribution growth good predictability in an uncertain commodity market.

My December 2013 target price of $45 and the current yield of 6.5% add up to a projected total return of 18.9% from the February 20 closing price.

Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. When in 2010 I started the mutual fund I manage, Jubak Global Equity Fund, I liquidated all my individual stock holdings and put the money into the fund. The fund may or may not now own positions in any stock mentioned in this post. For a full list of the stocks in the fund as of the end of September, see the fund’s portfolio here.

Tickers Mentioned: NGLS

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