The energy sector is currently in the midst of a major consolidation wave. Oil giants Chevron and Exxon have both made multi-billion-dollar deals. The wave has flowed down into the midstream sector, where leading players Energy Transfer (NYSE:ET) and Oneok (NYSE:OKE) have made headline-grabbing acquisitions.
More industry consolidation seems likely. One potential target is MPLX (NYSE:MPLX). Here's a look at some of the recent deals in the midstream sector and why that suggests MPLX could be next.
Midstream merger mania
The pipeline sector has faced its share of headwinds in recent years. Growth has slowed because of volatile oil and gas prices. That caused upstream companies to slow production growth, reducing the need to invest in new midstream infrastructure. In addition, growing climate change concerns have made it tougher to build new infrastructure because of increased opposition. These issues have weighed on the growth prospects and valuations of energy midstream companies.
The industry's headwinds are leading more companies to turn to acquisitions to drive growth. One of the biggest deals this year is Oneok's acquisition of Magellan Midstream Partners. Oneok is paying $18.8 billion in cash and stock (a 22% premium) to acquire a master limited partnership (MLP) focused on refined petroleum products and crude oil. The deal will help diversify its natural gas liquids-focused infrastructure. Oneok expects that the acquisition will increase its earnings per share by 3% to 7% annually from 2025 to 2027 while boosting its free cash flow by more than 20% annually in 2024 through 2027, driven largely by its ability to capture at least $200 million in cost savings.
Meanwhile, Energy Transfer recently announced its second acquisition of the year. It's buying fellow MLP Crestwood Equity Partners in an all-equity deal valued at $7.1 billion. The acquisition of Crestwood will enhance Energy Transfer's position in two key regions while expanding its operations into a third area. It expects the deal will be immediately accretive to its distributable cash flow, driven in part by its ability to capture $40 million in cost savings. That follows an earlier $1.5 billion cash-and-equity acquisition of privately held Lotus Midstream. That purchase will also bolster its existing operations while enhancing its cash flow.
There have also been a few smaller deals. Refining company HF Sinclair recently agreed to acquire its midstream MLP Holly Energy Partners in a cash-and-stock deal that will simplify its corporate structure and reduce costs. Meanwhile, refining and logistics giant Phillips 66 has agreed to acquire both of its MLPs (Phillips 66 Partners and DCP Midstream) over the past year and a half. Those deals simplified its corporate structure and enabled it to capture cost savings.
Next in line?
A common theme of the midstream sector's consolidation is that it involves MLPs. These entities have fallen out of favor with investors in recent years, causing their valuations to decline. That makes them more attractive acquisition targets because the purchaser can make a highly accretive deal.
Another common thread is that refining companies are acquiring their MLPs to simplify their corporate structure and save money. That drives the view that MPLX could be the next MLP to get caught up in the M&A wave. Refining giant Marathon Petroleum (NYSE:MPC) formed that entity over a decade ago to operate its logistics infrastructure. MPLX has since grown into a large-scale and diversified midstream company.
Marathon has explored its strategic options for MPLX in the past. It opted to maintain the status quo of keeping its ownership stake in the publicly traded entity. That's because the current relationship works well. The company noted on its second-quarter conference call that MPLX is an important strategic part of its portfolio. The MLP pays a hefty cash distribution to investors (it currently yields 8.9%). Marathon alone collects over $2 billion in cash distributions from that entity each year. That's enough money to cover Marathon's current dividend and half its capital program.
Given the importance of MPLX to Marathon's cash flows, it likely won't sell its stake to another company. However, it could acquire its MLP. That would enable the refiner to keep 100% of the cash flows that the entity produces. It could use that money to fund even more of its capital program since MPLX generates free cash flow after paying distributions and funding its capital projects. A merger would also simplify its corporate structure and save it some money.
A merger makes sense
The energy midstream industry will likely see more consolidation in the coming years as companies seek to combine their operations to save money and boost their earnings. Given the current industry trends, one combination that makes the most sense is a merger between Marathon Petroleum and its high-yielding MLP MPLX. If that happens, income-focused investors would have one less high-quality, high-yielding investment option.
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Matthew DiLallo has positions in Crestwood Equity Partners, Energy Transfer, and Phillips 66. The Motley Fool recommends Chevron, Magellan Midstream Partners, and ONEOK. The Motley Fool has a disclosure policy.
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