It’s hard to imagine how the massive build out of pipelines and processing plants required to deliver shale hydrocarbon production to end use markets in the past 5 years could ever have occurred without the corporate structures known as Master Limited Partnerships (MLP’s). These tax-efficient vehicles financed shale infrastructure by selling partnership units to investors that offered income in the form of cash distributions as well as growth from increasing unit prices. But the leading Alerian AMZ Index of MLP market capitalization fell 46% from August 2014 to December 31, 2015 in the wake of the oil price crash. Today we begin a series looking at past success and future prospects for MLPs.
Before we start – a big disclaimer. RBN Energy does not advocate investment in MLPs. We are not an investment advisor. The purpose of this blog is not investment advice or endorsement.
What Are MLP’s?
We posted a two part educational blog series on Master Limited Partnerships (MLP’s) back in October 2012 (see Masters of The Midstream). The following paragraph recaps our explanation of what makes these companies different from regular corporations.
MLPs are a particular type of US corporate structure established by Federal tax reform legislation in the 1980s with the primary intention to encourage investment in certain qualified investments. Mostly the MLP rules ended up encouraging their use for energy infrastructure investment, particularly in oil and gas midstream companies. MLPs are partnerships that trade on public exchanges. A partnership differs from a corporation because it is considered to be the aggregate of its partners rather than a separate entity. Instead of individual stockholders owning stock that is issued by a company as just one of a number of ways to raise money, partners in an MLP own distinct pieces of the partnership called units. These units are like individual fractions of the partnership and their attractiveness lies in their favorable tax treatment. Because the partnership is not an entity, it pays no corporate taxes on its profits. Tax liabilities are instead “passed through” to individual unit holders who pay tax on their share of MLP profits at their individual tax rate. Unit holders typically receive cash distributions from their MLP every quarter based on earnings but are also allocated a share of depreciation on MLP assets intended to offset the tax liability on cash distributions. Bottom line – MLPs avoid corporate tax and that reduces their cost of capital. Like a lot of tax law this is pretty complex stuff and we are only scratching the surface. There are plenty of other resources out there to learn more from – for example here is a link to a glossary of terms. Additional useful information is available from the Master Limited Partnership Association (MLPA) website.
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