|Shares Out. (in M):||40||P/E||0||0|
|Market Cap (in $M):||75||P/FCF||0||0|
|Net Debt (in $M):||272||EBIT||0||0|
|TEV (in $M):||630||TEV/EBIT||0||0|
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Blueknight Energy Partners (NYSE: BKEPP)
Blueknight Energy Partners, L.P (“BKEP”) is a publicly traded master limited partnership formed in July 2007. Blueknight Energy Partners G.P., L.L.C., is owned by affiliates of Ergon, Inc. based in Jackson, MS. Ergon is a privately held company formed in 1954 with over 2,500 employees globally. The company has four main businesses: An asphalt terminal business, a Cushing oil storage business, an oil trucking business and a pipeline business. For all intents and purposes the asphalt business and storage businesses are the main drivers of current value with the pipeline business growing in importance. The reality of the analysis is we believe the asphalt business alone practically covers the current double digit yielding preferreds (12.25% yield) assuming that the full SG&A burden is not applicable to that business. If the market appreciates the credit of the preferreds and they trade to a 10% yield, they could provide total returns of 30%+ over the next year.
§ Blueknight has meandered/struggled for years without a solid sponsor or plan, and the sponsors it did have cared far less about the equity and their investment than the current sponsor. The current sponsor (Ergon) has a real investment in the business between the preferred stock and the equity (north of $200mm, with over 50%+ of the prefs) and seems to have a goal of growing the business into a preferred storage provider. Ergon while certainly engaging in a myriad of GP/LP transactions does seem to be playing reasonably in the sandbox in regards to the LPs but certainly is focused on protecting its preferreds.
§ The company has four main segments: Cushing storage, asphalt storage, pipelines and trucking. The Cushing oil storage business is struggling currently but is still a solid cash flow generator (and with the curve now back in contango, demand should be picking up for storage) and the strength of the business is the asphalt line where nearly 90% of the cash flow.
§ The equity is burdened by a preferred stock which, while convertible, is currently detracting significant value from the equity. Unless Ergon decides to force through a change on its own position (which they seem aggressively against doing), the company would need to more than double the underlying equity dividend in order to attempt to force conversion on the preferreds.
§ The company is currently unable to cover its equity dividend even after its current cut and while it sees a path to doing so exiting 2019, the preferred is covered and that is the majority of Ergon’s cash investment in the entity and its cash flow from the entity which should lead to a strong double digit yield going forward.
§ We do think the equity is a more interesting “flyer/cheap at these levels” and while beaten down by historically poor execution and current tax loss selling it is somewhat an orphan as a micro-cap levered MLP so we are recommending the preferreds based on a better risk/reward in our opinion plus sponsor focus.
The Asphalt Terminal business is the main business of the company, and I would anticipate that to continue as Ergon owns this within their asphalt subsidiary. Third party asphalt storage is a solid business somewhat similar to oil storage in that it is a low capex business characterized by contracts that pay for both throughput and storage volume. The main difference between the two initially that can be seen is the Asphalt business is characterized by substantially longer term contracts of 5+ years versus oil storage contracts that are typically 1-3 years. Almost 90% of the revenue is contract based as opposed to throughput contingent. It is a solid business characterized by long term contracts, great visibility and low maintenance capex which should be ideal for the MLP space however most of the players are integrated which shows that while this may be meaningful for BKEP at its current size it will most likely have to expand into another sector eventually (and personally I would rather it not be pipelines). The downside risk is an empty asphalt asset may sit empty for years but the current desire for increased infrastructure spend on both sides of the aisle and Ergon’s knowledge in the space makes large scale risk of this unlikely in the near term.
The Company owns approximately 6,600 barrels of storage in Cushing and manages another 1,000 barrels. The Oil storage business is a reasonable one albeit it is a true commodity and certainly volatile. Over the last twelve months (ending in the third quarter) the combination of low volatility, backwardation and flatness of the curve created arguably one of the worst environments imaginable for oil storage. There was little demand to pay meaningful rates to take advantage of the ability to store nor was there a desire to rush oil out of the terminal and get paid for throughput. Further approximately 30-40% of their current storage was being held by Vitol which was their old sponsor. Vitol didn’t renew which led to a meaningful near term drop in EBITDA and was one of the key drivers in having the company reduce its dividend. Management was sure Vitol was going to renew: until they didn’t. This was one of the main reasons for the dividend cut.
The company has a pipeline in the STACK play that has approximately 50% of its capacity in one line sold out to XTO. The pipeline is made up of two smaller pipes and both pipelines need to work due to one being able to handle WTI spec and the other one is a lighter crude. The company recently solved an issue with an owner that was delaying the ability to ramp up this pipeline but this pipeline should quickly add up to $5mm of EBITDA.
The latest and most interesting is an announcement of a JV with Alta Mesa to build a new STACK pipeline down to Cushing. The estimated cost of the pipeline is ~$95mm of which Ergon will pay 50% and will build it off balance sheet at a cost of around 9% to BKEP. This is a non-traditional financing and we believe is “nicer” than a traditional GP/LP where they might try and build it for 6x and sell it to the LP at 10x; frankly I think Ergon would prefer to do that but with the equity trading at low levels they do not believe they will be able to make an accretive drop down so they are getting creative. On the last call management said the pipeline was moving along well and anticipated it was a 5-6 year payback. Assuming equal EBITDA per year this would imply 8mm of EBITDA a year which is unlikely as it should ramp up. Lets assume the EBITDA is closer to $5mm. Combined with the previous pipeline this segment should run rate north of $10mm of EBITDA annually upon completion.
The management team here has frankly been sub-par. The CEO came over many years ago with high hopes from EPD to help build out the pipeline business; the pipeline business has been terrible and arguably the worst segment. The CFO recently left and while serviceable was really more of a CAO than a CFO. The management team here aren’t bad guys they just haven’t executed and I think Ergon realizes this and is cranking up both the pressure and the controls.
In terms of the preferred; the asphalt business alone should cover these assets and the rest of the businesses should be showing some level of a “turn around” soon.
Their Cushing asset as discussed has struggled due to a combination of backwardation in the curve and relative “flatness” in the first few months as well as longer dated questions around the long term importance of Cushing itself. Backwardation plus a flat curve created little demand to pay up for storage contracts or impetus to move oil out of storage. We now have a curve in contango plus volatile oil, this should bring back both the strategic demand to store oil as well as financial players back into the market. In a storage business incremental revenue has a VERY high flow through to the bottom line.
It is no secret there has been significant pain in the MLP sector this year and BKEP we believe is a logical position to “sell into year end” in terms of both size, tax losses, and poor dividend coverage. We think this is helping to “drag” down the preferreds as well. The company is keenly aware of the benefit of converting these preferreds but is unwilling to force the issue with an aggressive dividend raise (the fact that Ergon owns $175mm+ of the preferreds is probably another reason not to be too aggressive in trying to force a conversion). The company has floundered for years and does seem to have finally found a path to growth and is delevering to a point that helps combined with the dividend cut should create some internal financing options. Outside of Cushing (which is a substantial segment but can change in an instant), optionality seems to be moving in their direction with the Alta mesa pipeline and it seems like a reasonable entry point to pick up a yielding asset with a good chance for a strong total return.
Using the below analysis and our EBITDA projections (which we believe have baked in some conservatism we believe the prefs are well covered. On an asset level the asphalt biz more than covers the prefs assuming a chunk of the SG&A is tied to the more hands on/growth aspect segments of the business.
|Valuation Analysis, EBITDA Based|
|Segment||EBITDA Projections||% of Total|
|Crude Oil Terminalling & Storage||10,000||12.5%|
|Crude Oil Pipeline||10,000||12.5%|
|Crude Oil Trucking & Producer FSV||0||0.0%|
|Crude Oil Terminalling & Storage||9.00x||12.00x||6.00x|
|Crude Oil Pipeline||9.00x||10.00x||6.00x|
|EBITDA associated with SG&A||8.00x||8.00x||8.00x|
|Total Enterprise Value||$560,000||$780,000||$530,000|
|Implied overall EV/EBITDA Multiple||9.33x||13.00x||8.83x|
|Value to Prefs||$288,408||$508,408||$258,408|
|Less: Par value of Preferred||($228,314)||($228,314)||($228,314)|
|# of shares||40,380||40,380||40,380|
Purchase BKEPP. The preferreds are cheap; pay a coupon and we believe are very much the “fulcrum” in the sponsors eyes. The equity is interesting as a flyer as well. If the preferreds were to trade to a 10% yield over the next year the total return is 35%
Increased Dividend coverage to the structure
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