EQT Midstream Partners LP (NYSE:EQM)

Investment Synopsis:

EQT Midstream Partners is a natural gas midstream services company focused on opening up the bottlenecks that keep Marcellus Shale gas from reaching gas customers and utilities. The company has stayed away from the more speculative NGL processing business and has focused storing natural gas and building FERC regulated pipelines out of the Marcellus. EQM has a strong and growing sponsor in EQT Corporation. This is a 20% per year distribution growth MLP with very strong DCF coverage of those distributions.

IPO Date: June 27, 2012

• Market Cap: $5.2 billion
• Annual adjusted EBITDA: $440 million (2015 guidance)
• GP/Sponsor: EQT GP Holdings LP (NYSE:EQGP), EQT Corporation (NYSE:EQT)

Distribution Facts

• Current yield: 3.5%
• TTM distribution growth: 23%
• Forecast annual distribution growth rate: 20%

Business Operations

EQT Midstream Partners provides natural gas gathering, transmission, and storage services under long-term firm reservation or usage fee based contracts. The EQM operations are focused in southwestern Pennsylvania and northern West Virginia, in the core of the rapidly developing Marcellus Shale natural gas play. The area of operations sits on the gas productions acreage of EQT Corporation, an $11 billion market cap natural gas exploration and production company.

Natural gas gathering operations bring in about one-half of the EQM revenues. Gathering services are currently performed exclusively for EQT Corporation. EQT has been growing its Marcellus gas production at a rapid pace, with a 25% production growth projection for 2015. EQT Corp. provides the capital spending to build out gathering infrastructure for new wells and then the gathering assets are dropped down to EQT Midstream Partners as the newly attached wells come on line. As of July 2015, EQT Corp. owned gathering assets producing $100 million of annual EBITDA that will at some point transfer to the MLP.

The EQT Midstream storage and transmission services focus on moving natural gas out of the company’s service area and onto natural gas interstate pipelines. EQM owns 14 gas storage fields and 700 miles of FERC regulated interstate pipelines. The pipeline system connects to four local natural gas utility companies and to five major interstate gas pipelines. Third party, non-EQT customers make up 45% of the storage and transmission revenues. Third party revenues on the EQM system are growing by 60% annually. EQT Midstream is currently building a $3 billion pipeline in a joint venture called Mountain Valley Pipeline with WGL Holdings Inc (NYSE:WGL), NextEra Energy Inc (NYSE:NEE), and Vega Midstream MVP LLC. This 42 inch diameter pipeline will transport Marcellus sourced gas to the Southeast U.S.

EQT Midstream is not involved in natural gas liquids (NGLs) processing or sales. This is a midstream service area that has been hit hard by the decline in energy commodity prices.

In May 2015, EQT Corp spun-off the general partner interest of EQT Midstream into a new publicly traded company, EQT GP Holdings LP (NYSE:EQGP). The corporate sponsor retained 90% of the EQGP units and control of EQT Midstream Partners. The new company does not change the operations or plans of EQT Midstream.

Investment Prospects

While the revenues of the typical natural gas focused midstream MLP are primarily from gathering and processing fees, EQT Midstream stands apart with its focus on storage and transmission out of the Marcellus Shale. Production growth in the Marcellus has been very strong and the growth has been bottlenecked by the lack of enough available transmission resources to get the gas out of the region and to the demand areas in the Northeast and Southeast. With its Mountain Valley Pipeline project and several other gas take away projects that are under construction, EQT Midstream has built-in EBITDA growth through at least 2019. In addition, as EQT Corp. adds gathering assets, those assets will be dropped to the MLP to grow EBITDA for that side of the partnership’s business.

EQM has been a top tier distribution growth MLP, increasing the unit payout by 3 cents every quarter since the 2013 third quarter. That rate increase has produced mid-20% annual distribution growth. Company management has guided to 20% ongoing distribution growth through at least 2017. The Mountain Valley Pipeline is scheduled to come online in 2018 and, annual EBITDA is forecast to more than double by 2019. Even though distribution growth has been at the top of the midstream sector, cash flow management has remained conservative with distributable cash flow generation of two times (2.0X) the actual distribution payments. With the recent MLP sector sell-off, the EQM units currently yield about 3.5%. That yield with 20% distribution growth is a hard combination to beat.

Recommendation: Buy and accumulate EQM units as long as the yield remains above 3.0%. The current unit value below $75 will look really good when the price again exceeds $90.