So much hasn’t gone according to plan this year, yet EQT Midstream Partners (NYSE: EQM) remains a bright spot for us — and a temptation.

The unit price of the fast-expanding Marcellus natural gas gatherer and shipper peaked in June the day before we urged subscribers to sell half their position, which has doubled in less than a year.

Since that downgrade, EQM has grudgingly retreated 18%, but growth has hardly let up and you’ll find few MLPs less affected by the plunge in oil prices.

I’ve been itching to reinstate a full position at a discount to the June sale price.

The trouble is that as well as EQM has performed, the bulk of future gains from its strategic location and sizeable runway for profitable growth will accrue not to EQM’s limited partners but to its sponsor EQT (NYSE: EQT) and EQT’s shareholders.

Limited partners get a modest, tax-deferred 2.8% current yield, which at the current rate of distribution increases and assuming a stagnant unit price would grow to 5.7% in 2019.

Source: EQT presentation

Meanwhile, EQT estimates that the cash flows it reaps as EQM’s general partner have a net present value of $4.6 billion. That’s only slightly less than EQM’s current $4.8 billion market cap, which includes EQT’s 36.4% limited partner stake in its midstream affiliate.

A recent EQT presentation called EQM an “ongoing source of low cost capital.” That would be the capital supplied by EQM’s limited partners. “Ongoing source of low cost capital” is the polite way of describing marks.

And it’s hard to disagree, when EQT gets to sell EQM the midstream infrastructure that EQM’s partners then pay to develop further — before sending half of the incremental cash flow from that investment back to EQT as the general partner’s incentive distribution rights.

EQM’s CEO recently said the partnership typically pays 10 times EBITDA for the assets sold (or, in the parlance of MLPs, “dropped down”) by its parent. That’s 10 times earnings overstated by excluding debt-servicing costs, as well as the non-cash but nevertheless real cost of depreciation. But since half of the incremental profits from such hand-me-downs return to EQT via the incentive distribution rights, the true price of a friendly dropdown between EQT and EQM is in fact 20 times EBITDA to EQM’s limited partners.

The LPs can hardly complain after paying a similar multiple for EQM units. But it’s a multiple that, in the long run, is unlikely to return much value beyond a mid-single-digit yield.

Meanwhile, the value to EQT of being able to skim half of EQM’s cash flow from growth projects financed by outsiders that benefit EQT’s drilling operations is, as mentioned, estimated in the billions.

At their present rate of increase, EQM’s distributions per unit to limited partners are set to roughly double over the next five years. Over the same span the tribute paid by EQM to EQT is set to increase 16-fold — from $14 million this year to $228 million in 2019.

Source: EQT presentation

EQT hopes to begin monetizing is general partner interest in EQM by spinning 20% of it out into a separate MLP by the middle of next year. Such GP plays have been valued by investors in the past at 25x EBITDA or so. In contrast, EQT itself is being valued now at less than 9x EBITDA.

For that, in addition to a thriving midstream general partner, you get the leading Marcellus driller with the lowest costs in the basin and some of the highest realized prices thanks to the liquids-rich content of its gas.    

At current natural gas and natural gas liquids prices, the company claims after-tax internal rates of return of 65% to 100% in its core development areas. Advances in drilling and hydraulic fracturing technologies have led EQT to project a production gain of approximately 25% next year even as it keeps capital spending flat.

EQT’s rapid output growth ultimately creates more business for EQM, and they’re both benefiting from nearby drilling by competitors who are also turning to EQM for midstream services.

And the best way to profit from this growth over the medium term is to own shares of EQT rather than units of EQM.

We haven’t been shy over the last 18 months at MLP Profits in recommending MLP general partners that are not themselves organized as master limited partnerships. That’s allowed us to realize significant gains on picks like Targa Resources (NYSE: TRGP), Williams (NYSE: WMB), Western Refining (NYSE: WNR) and UGI (NYSE: UGI).

Although EQT is primarily a gas drilling play, it’s one of the best ones. And EQM will be a significant contributor to its cash flow for years to come. We’re adding EQT to the Aggressive Portfolio. Buy below $100.  

EQM remains a Hold in the Growth Portfolio.