March 12th, 2015
by Robert Rapier, Investing Daily
In last week's issue I discussed a category of master limited partnership that performs well when natural gas prices are low. The three MLPs with fertilizer production as a core business - Terra Nitrogen (NYSE: TNH), CVR Partners (NYSE: UAN), and Rentech Nitrogen Partners (NYSE: RNF) - own the top three year-to-date performances among MLPs. This is because natural gas prices are a major input in the manufacture of fertilizer (and in the case of UAN they influence the price of its primary input of petroleum coke).
Today I would like to cover another sector that should perform well in an environment of low natural gas prices: MLPs that manufacture chemicals that are derived from natural gas. There are two in this category: OCI Partners (NASDAQ: OCIP) and Westlake Chemical Partners (NYSE: WLKP).
OCI Partners actually makes nitrogen fertilizer as well, but its main business line is methanol production. The partnership owns and operates OCI Beaumont, an integrated methanol and ammonia production facility on the Texas Gulf Coast. OCI Beaumont has a methanol production capacity of 730,000 metric tons (MT) per year and an ammonia production capacity of 265,000 MT per year.
Methanol is produced from methane, which is the primary constituent of natural gas. About 30 million British thermal units (MMBtu) of natural gas is required to produce a metric ton of methanol. At present the spot price of natural gas is $2.66 per MMBtu, which means it takes about $80 of natural gas to produce 1 MT of methanol. Natural gas is the largest variable cost input, so fluctuations in the price of natural gas have the largest impact on margins from the input side. This month, the world's largest methanol producer, Methanex (NASDAQ: MEOH) shows the listed price for methanol for methanol at $416/MT. The selling price is obviously also key to the margins, but analogous to oil refiners that generally make their best margins when oil prices fall, methanol producers generally earn better margins when natural gas prices fall.
OCIP debuted on Oct. 4, 2013. The IPO priced at $18, below expectations, and right before a winter season that saw natural gas inventories seriously depleted and prices moving sharply higher. The price of natural gas remained elevated for most of 2014, and that ate into OCIP's margins.
OCIP is a variable distribution MLP. The quarterly distribution is dependent on the performance of the methanol and ammonia businesses, and higher gas prices in 2014 resulted in lower distributions.
The unit price had risen to $28 by January 2014, and then the first quarterly distribution of 2014 was a respectable $0.61/unit. But higher gas prices resulted in lowered guidance, and after the quarterly distribution fell to $0.26/unit in the fall of 2014, the unit price fell back below the IPO price (as it remains today). At the current price and based on the most recent quarterly distribution of $0.26/unit, the current annualized yield of OCIP is 5.9%. The next quarterly report is scheduled for March 16.
Westlake Chemical Partners was formed by Westlake Chemical (NYSE: WLK) to operate, acquire and develop ethylene production facilities and related assets. WLK is a manufacturer and supplier of petrochemicals, vinyls, polymers and building products produced at 16 plants across North America and one in China. Westlake Chemical Partners' business and operations are conducted through OpCo, a partnership between Westlake Chemical Corporation and Westlake Chemical Partners.
Ethane is the second most abundant constituent of natural gas, and is primarily used to produce ethylene, which is the world's most widely used petrochemical. The flood of new shale gas supplies has overwhelmed the market for ethane, sending the price plummeting. This in turn has made the economics of ethane derivatives manufacture like ethylene and polyethylene extremely attractive in the U.S. Westlake Chemical Partners is the only MLP operating solely in this niche, while others like Enterprise Products Partners (NYSE: EPD) and Sunoco Logistics (NYSE: SXL) are diversifying into petrochemicals.
Westlake Chemical Partners' assets include three production facilities that convert ethane into ethylene, with an aggregate annual capacity of approximately 3.4 billion pounds. Assets also include the Longview Pipeline, a 200-mile ethylene pipeline with a capacity of 3.5 million pounds per day that runs from Mont Belvieu, Texas to the Longview, Texas chemical complex.
Westlake Chemical Partners derives substantially all of its revenue from its ethylene production facilities. Westlake's downstream polyethylene (PE) and polyvinyl chloride (PVC) production facilities consume most of the ethylene produced by OpCo. OpCo has a 12-year ethylene sales agreement in place with Westlake, which has committed to purchase 95% of OpCo's planned ethylene production each year on a cost-plus basis that is projected to generate a fixed margin of $0.10 per pound, or $323 million annually based on the current capacity.
The IPO had initially been expected to price in a range of $19 to $21 per unit, generating estimated proceeds of $225 million. However, strong demand pushed the price up to $24 by the time the IPO priced on July 30. Units began trading at $30.28, but have since pulled back just below $28. WLKP's partnership agreement provides for a minimum quarterly distribution of $0.275 per unit for each whole quarter, or $1.10 per unit on an annualized basis. Its first full-quarter distribution came in at exactly the minimum, but the coverage was a healthy 1.15x. At the current price, this projects to an annual yield of 3.9%.
So far this year the performance of these two chemical manufacturing MLPs has not mirrored the gains of the fertilizer-only MLPs. Year-to-date OCIP is up 11.6%, while WLKP has declined 3%. I expect the fortunes of both to brighten in the months ahead assuming natural gas prices remain low, which I expect to be the case for the remainder of the year.