Magellan Midstream Partners (MMP) is a master limited partnership that engages in the transportation, storage, and distribution of refined petroleum products in the United States, notes income expert Ben Reynolds, editor of Sure Retirement.
The partnership operates through three segments: Refined Products, Crude Oil, and Marine Storage. Magellan operates refined products pipelines that transport gasoline, aviation fuels, liquefied petroleum gases, and distillates for a wide variety of customers. In addition, it owns and operates crude oil pipelines and storage facilities.
Magellan’s model is fee-based, meaning it has very small exposure to commodity prices, making it attractive during commodity bear markets. Magellan was founded in 2000, produces about $2.5 billion in annual revenue, and is valued at a market capitalization of $9.2 billion after recent weakness.
The partnership reported Q4 and full fiscal 2021 earnings on February 2nd. Results came in weaker than expected. Demand for refined products was low due to COVID-19 restrictions, and as a result, distributable cash flow was down 25% year-over-year during the quarter.
For the year, distributable cash flow was down 18% to $4.66 per share. Importantly, the distribution was covered by this cash flow despite the decline.
Magellan noted it expects to maintain its current distribution level for 2021, and that it expects a coverage ratio of ~1.1. It is instead focusing its excess capital on share repurchases of $750 million through 2022, as Magellan sees value in the current share price.
We see distributable cash flow of $4.70 for this year, which would be roughly congruent with 2017 results, highlighting the impact that COVID has had on Magellan’s business.
Magellan did note that it expects distributable cash flow to increase over the coming years but declined to provide more specific guidance. Still, with 2021 likely being the bottom of the cycle for Magellan, shares are attractively priced, as is the yield. We also see share repurchases as a vote of confidence from management.
Magellan’s competitive advantage is its fee-based model, which means it is far less exposed to commodity prices than some other commodity partnerships.
In addition, Magellan has sizable scale in an industry where scale means better margins. However, as was made clear in 2020, Magellan’s model is not immune to recessions as lower demand for crude oil and petroleum products can significantly impact results.
We do not see Magellan as fully recession safe despite its fee-based model as it is still beholden to demand for commodities, rather than pricing for commodities.
We see growth for Magellan coming from new projects, which increase supply to meet higher demand levels, while also building scale.
The partnership should see rising demand for crude and petroleum products once the headwinds from COVID-19 subside, and we project 4% annual growth in distributable cash flow for Magellan over the next five years, slightly under historical growth rates.
We see outstanding projected total returns of 17.1% annually over the next five years, the result of cash flow growth, the 10% dividend yield, and a 6.6% tailwind from valuation gains. We estimate fair value at 12 times cash flow per unit, but valuation is currently only at 8.7 times this year’s cash flow.