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MLPs: A Tale of Two Insiders

By Ari Charney on October 12, 2012

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Corporate insiders are generally considered among the savviest investors because they presumably know their companies’ future prospects best. And this week, Genesis Energy LP (NYSE: GEL) piqued investors’ interest following a series of intriguing insider actions, part of which resulted in a change of ownership.

That activity occurred just three days after Genesis fell as much as 6 percent intraday on Oct. 2, with a spike in trading volume that was more than 14 times its trailing three-month average. Units of the midstream master limited partnership (MLP) have since partially recovered and last closed at $33.24, which is just 5.5 percent below their 52-week high.

The drama was precipitated by the Oct. 1 announcement that Quintana Capital Group LP, a Houston-based, energy-oriented private equity fund, would be cashing out of its substantial stake in Genesis. Although that transaction did not lead to any change to the MLP’s units outstanding, it ultimately led to a change of ownership.

Quintana first acquired its interest in Genesis two years ago from Denbury Resources (NYSE: DNR) in an $85 million all-cash deal for units of the LP’s general partner (GP). That acquisition effectively gave Quintana control of the GP, which it used in late 2010 to subsequently restructure the two entities by eliminating the GP’s incentive distribution rights (IDR) and converting the GP into a wholly owned subsidiary of the LP.

The IDR had previously entitled the GP to receive 50 percent of any increase in distributions to common unitholders. The LP’s CEO Grant Sims later characterized the restructuring as having aligned the interests of the common unitholders with the equity owners of the GP.

With Quintana’s sale of its shares, a group of minority shareholders led by the Davison family have acquired a controlling stake in the MLP. The Davisons founded a transportation services company in Louisiana back in 1937, and it’s operated as a subsidiary of Genesis since mid-2007.

On Oct. 5, the Davison-led investor group acquired almost 2.2 million shares of the Class A common units and nearly 35,000 shares of the Class B common units. Those transactions boosted their ownership to 17.2 percent of outstanding Class A units and 76.9 percent of outstanding Class B units.

The Davison group already held five positions on the board, and its new holdings entitled them to elect additional board members of their choosing. As such, four Quintana-appointed directors resigned the board, with two of them each liquidating 1.5 million units of the MLP, or nearly all of their holdings.

That same day, Sims increased his already substantial holdings in the LP by 8.1 percent, with his purchase of almost $6.5 million worth of units. That brings his total stake in the MLP to roughly 3.6 percent of units outstanding. Shortly thereafter, it was announced that in addition to his role as CEO, Sims had also been appointed as chairman of the board.

Of course, one naturally wonders what to make of all this activity. On the one hand, Quintana is selling its stake in Genesis, at a point in time when MLPs have been bid up by income-hungry investors. Indeed, units of the LP are trading near a 10-year high last seen near the market’s peak in late 2007.

Though Quintana specializes in the energy sector, its involvement with Genesis has been relatively short term. By contrast, the Davisons have been operating segments of the firm for over five years, while Sims has been at the helm for over six years.

Of course, Quintana’s sale may not signify a decline in the MLP’s fortune. As a private equity investor, it’s likely fixated more on short-term capital appreciation than a long-term stream of income. With its already heady gains in Genesis, it may simply be ready to reallocate its capital to its next major play.

Units of Genesis may be trading near their peak, but both Sims and the Davisons are likely taking a far longer-term perspective than Quintana, particularly when it comes to the LP’s steady stream of distributions.

For instance, Genesis recently announced that it’s raised its distribution for the 29th consecutive quarter, with a 2.7 percent increase sequentially and a 10.5 percent increase over the prior year. Its units currently yield an enticing 5.7 percent.

Genesis owns a diverse portfolio of midstream assets, including refinery-related plants, pipelines, storage tanks and terminals, marine operations and trucks and truck terminals. The MLP operates three business lines: pipeline transportation, refinery services and supply and logistics.

The pipeline transportation business includes crude oil pipelines and carbon dioxide pipelines in Texas and the Gulf Coast. Over the past few years, management has focused on increasing the MLP’s exposure to two of the premier oil plays in this region: the Permian Basin and the Gulf of Mexico.

The Davisons’ involvement in the MLP’s supply and logistics division could be part of their long-term bullishness. Management expects this operating segment to generate much of the firm’s near-term distribution growth.

Genesis generates about 90 percent of its revenue from fee income and has no debt maturities until 2017.

Of course, insiders don’t always get it right over the short term. But over the long term, they tend to outperform the market. In this case, we have one group of short-term insiders selling out their stake to another group of long-term insiders. The odds favor the latter.

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