Around the Portfolios

Growth Portfolio

DCP Midstream Partners LP (NYSE: DPM) in the first quarter benefited from robust production of natural gas liquids (NGL) in its service areas and the ongoing expansion of its fee-generating midstream infrastructure. In April, the MLP purchased a 10 percent interest in the Texas Express NGL Pipeline from Conservative Portfolio holding Enterprise Products Partners LP (NYSE: EPD), joining Enbridge Energy Partners LP (NYSE: EEP) and Anadarko Petroleum Corp (NYSE: APC) in the joint venture.

DCP Midstream Partners increased its distribution for the sixth consecutive quarter, hiking its payout by a penny to $0.66 per unit. Even better, the firm generated $0.98 in distributable cash flow (DCF) per unit, up 18.5 percent from year-ago levels and enough to cover the distribution by 1.29 times. Moody’s rewarded the MLP for its strong performance, granting the firm an investment-grade credit rating.

At the recent NAPTP conference, management disclosed that organic growth projects servicing the Eagle Ford Shale and the expansion of the Discovery gathering system are “on plan,” which bodes well for future distribution growth.

The stock price has tumbled in recent weeks, reflecting weakness in the broader market and rising concerns about the decline in NGL prices, a product of elevated propane inventories and feedstock substitution. Most management teams at the NAPTP conference expect NGL prices to recover in the back half of the year, as petrochemical capacity that’s closed for routine maintenance comes back onstream. A colder winter would also help to alleviate the propane glut.

The unit price of DCP Midstream Partners could pull back even further, especially if commodity prices remain weak and concerns about the EU sovereign-debt crisis intensify. Nevertheless, we remain bullish on the MLP’s long-term growth prospects and exposure to robust drilling activity in the Eagle Ford Shale. DCP Midstream Partners has also hedged about 60 percent of its exposure to NGL prices, a move that should cushion the blow if conditions deteriorate further in the near term. Yielding 6.7 percent and trading below our buy target for the first time in months, DCP Midstream Partners LP rates a buy under 40. Investors should consider easing into this position, as more downside could be in store.

Unlike most energy-related MLPs, Eagle Rock Energy Partners LP (NSDQ: EROC) operates in both the upstream and midstream segments of the energy business. Roughly 60 percent of the partnership’s total operating income comes from oil, gas and NGL production, while its gathering pipelines and processing facilities account for the remaining 40 percent.

Eagle Rock Energy Partners is a far stronger company than it was two years ago. The MLP went public in late 2006, and the bull market for energy commodities enabled the firm to boost its quarterly payout steadily throughout 2007. But two obstacles tripped up the MLP in 2008: significant exposure to oil and gas prices, and a heavy reliance on short-term lines of credit with banks.

By their very nature, upstream operations have some exposure to commodity prices. Some partnerships such as Aggressive Portfolio holding Linn Energy LLC (NSDQ: LINE) limit their exposure to fluctuations in oil, gas and NGL prices by hedging future production. Eagle Rock Energy Partners doesn’t fully hedge its expect output, a strategic decision that decimated the firm’s cash flow when oil and gas prices collapsed in later 2008 and early 2009.

Eagle Rock Energy Partners’ midstream business also has some built-in exposure to commodity prices, as a slowdown in drilling activity reduces the number of wells hooked up to the MLP’s gathering system and weighs on throughput. In 2008-09, the firm’s processing margins also suffered because of the collapse in energy prices.

The MLP’s debt structure compounded these problems. At the beginning of 2010, Eagle Rock Energy Partners’ outstanding credit facility accounted for 60 percent of the firm’s $1.2 billion enterprise value. This outsized debt amounted to more than 4.5 times the MLP’s earnings before interest, taxation, depreciation and amortization (EBITDA).

Credit facilities are subject to periodic evaluations and potential redetermination. At the height of the financial crisis, Eagle Rock Energy Partners faced an unwelcome liquidity crisis, as the MLP’s lenders slashed its credit facility.  

To conserve cash, the firm in early 2009 cut its quarterly $0.021136 per unit from almost $0.35 per unit. This news sent the stock plummeting to a low of $2.24 per unit from a high of about $23 per unit.

In 2010 Eagle Rock Energy Partners completed a series of transactions that drastically altered the MLP’s risk profile. The firm sold off its volatile minerals business for $174.5 million, raised another $53.9 million by issuing common units and warrants, and eliminated its incentive distribution rights–fees an MLP pays to its general partner for managing daily operations.

Today, Eagle Rock Energy Partners’ credit facility is only 24 percent of the firm’s enterprise value. The partnership’s leverage ratio has declined to less than 3.5 times EBITDA.

As market conditions improved, Eagle Rock Energy Partners has returned to growth mode, expanding its midstream and upstream businesses via acquisitions and organic projects. The MLP now disburses a quarterly payout of $0.22 per unit, and management aims to growth the distribution to $0.25 per unit by early 2012.

Although Eagle Rock Energy Partners has reduced its business and financial risks, the stock’s valuation continues to suffer from the stigma of the MLP’s troubles in 2008-09.

Upstream

Eagle Rock Energy Partners’ upstream segment comprises 591 operated oil and natural gas wells and the equivalent of 371 billion cubic feet of natural gas reserves. Gas accounts for about 63 percent of the MLP’s total reserves, while oil accounts for 19 percent of this resource base and NGLs represent 18 percent. Daily production in 2011 averaged 85 million cubic feet of natural gas equivalent.

As we explained in Too Much Gas, US natural gas prices will likely remain depressed for at least the next few years, thanks to reduced demand during the unseasonably warm 2011-12 winter and rising production from the nation’s prolific shale plays. Based on our outlook for natural gas prices, Eagle Rock Energy Partners’ significant exposure to this out-of-favor commodity is a red flag.

Fortunately, the MLP has hedged 81 percent of its estimated natural gas and ethane output at an average price of $5.82 per million British thermal units–more than double the current price of natural gas. The firm has hedged about 70 percent of the firm’s estimated gas and ethane production in 2013, 43 percent in 2014 and 24 percent in 2015. Eagle Rock Energy Partners has also hedged about 87 percent of its expected oil and NGL production in 2012.

More important, Eagle Rock Energy Partners has a significant inventory of drilling prospects in the Cana Shale and the Golden Trend in Oklahoma, two liquids-rich plays that offer superior wellhead economics.

Continental Resources (NYSE: CLR), Devon Energy Corp (NYSE: DVN) and other independent exploration and production firms are spearheading development in the Cana Shale, a subsection of the larger Woodford Shale. Forty-seven rigs are currently drilling horizontal wells in the region.

Eagle Rock Energy Partners has amassed a leasehold of 14,600 acres of in the region, with four operated wells and 59 non-operated wells that are in production. The majority of the MLP’s acreage in the Cana Shale is located in the wet-gas window, the portion that produces significant volumes of NGLs and condensate. Because of this favorable production mix, Eagle Rock Energy Partners in 2011 earned about $4 per thousand cubic feet of output in the Cana Shale.

Eagle Rock Energy Partners and other upstream operators continue to drill test wells in the southeast of the play, a peripheral region where the productive formation is about 2,000 feet deeper than in the Cana Shale’s fairway. The MLP owns 1,636 net acres in the region and is participating in two wells: the Continental Resources-operated Olson 1-22H and the 100 percent-owned Beckham 1-27H, which is scheduled to be spudded in the second quarter of 2012

Other wells in the vicinity have yielded initial production rates of 7 million cubic feet of natural gas per day, 300 barrels of oil per day and volumes of NGLs. Additional drilling results in the region could be an upside catalyst for the stock.

The Golden Trend already accounts for about one-quarter of Eagle Rock Energy Partners’ production and contains multiple productive formations.

In the first quarter, the MLP’s overall production declined slightly from the final three months of 2011. Management also cut its planned capital spending by $20 million and reduced its 2012 production guidance by 2 million cubic feet equivalent of natural gas per day, to 90 million cubic feet of natural gas equivalent per day. This revised target still represents production growth of roughly 12 percent.

Management’s cuts to upstream spending and production guidance are part of a plan to focus drilling activity in liquids-rich plays. Eagle Rock Energy Partners’ current forecast calls for oil output to grow by 8 percent in 2012, while NGL production is expected to surge by more than 50 percent. By year-end, liquid hydrocarbons will account for 46 percent of the MLP’s output.

Eagle Rock Energy Partners will operate a total of three to four rigs this in the Cana Shale, the Golden Trend and the Permian Basin.

Management told analysts at the NAPTP conference that the pipeline of potential upstream acquisitions remains robust, as exploration and production companies divest mature assets to fund drilling activity in emerging shale plays. The firm is also eyeing opportunities to pick up gas-focused acreage at bargain prices that guarantee solid returns even in the current pricing environment. Closing an upstream acquisition that’s immediately accretive to cash flow would be welcome news for the hard-hit stock.

Midstream

Eagle Rock Energy Partners’ midstream business comprises 5,500 miles of gathering pipelines in the Texas Panhandle, east Texas and Louisiana, south Texas, the Gulf of Mexico and west Texas. These small-diameter pipelines connect individual wells to processing facilities and, ultimately, the US interstate pipeline network. The firm also owns 19 gas-processing plants that separate NGLs such as propane and ethane from raw natural gas.

In the first quarter of 2012, Eagle Rock Energy Partners transported an average of 453 million cubic feet of natural gas equivalent per day through its gathering systems.

The partnership’s gathering pipelines in the Texas Panhandle should benefit from rising liquids-rich production in the Granite Wash and Brown Dolomite play, a mature formation that yields more than 8 gallons of liquids for every 1,000 cubic feet of natural gas produced. Drilling activity in the Granite Wash has driven most of the system’s throughput growth in recent quarters.

The Granite Wash yields 4 gallons to 6 gallons of liquid hydrocarbons for every 1,000 feet of natural gas. About 55 rigs currently operate in the play’s Texas portion, with four rigs dedicated to acreage served by Eagle Rock Energy Partners’ midstream assets. Management expects the number of rigs targeting acreage in the MLP’s service area to at least hold steady, implying flat-to-increasing demand gathering and processing.

The MLP’s processing plant in its East Panhandle system ran at more than 90 percent of headline capacity in the first quarter.

With producers drilling test wells in nearby plays such as the Tonkawa, Hogshooter and Cleveland, as well as the Atoka and Morrow zones located beneath the Granite Wash, demand for midstream capacity could increase. Operators have reported solid liquids production from all these pay zones, suggesting that drilling activity in these basins will only increase.

To accommodate demand, Eagle Rock Energy Partners plans a number of expansion projects in the Texas Panhandle, including the construction of the Woodall processing plant, a facility capable of handling 60 million cubic feet of natural gas per day. This $72 million facility should come onstream in early June. The Wheeler processing plant, which will also serve the eastern portion of the Texas Panhandle, will boast a nameplate capacity of 60 million cubic feet per day once it’s completed in April 2013.

Although throughput on Eagle Rock Energy Partners’ gathering and processing assets in east Texas has suffered from declining activity in the dry-gas Haynesville Shale, drilling activity in the Austin Chalk play could offset some of this weakness. The MLP’s management team is contemplating the construction of another processing facility in Louisiana that will handle volumes from this basin.

Recent drilling results in the Tuscaloosa Marine Shale–sometimes called the Louisiana Eagle Ford Shale–should spur additional development. Goodrich Petroleum Corp (NYSE: GDP) in late May announced a three-day initial production rate of 1,082 barrels of oil equivalent per day from a test well in this emerging play.

In the first quarter of 2012, gathered volumes on Eagle Rock Energy Partners’ east Texas assets increased by 2 percent from year-ago levels, but NGL and condensate throughput tumbled by 12 percent. This decline, which stemmed primarily from downtime at a third-party processing plant on the Gulf Coast, should prove temporary. The MLP’s processing facilities in east Texas operated at a utilization rate of 70 percent to 75 percent in the first three months of the year.

Cash flow from Eagle Rock Energy Partners’ processing assets can fluctuate with commodity prices. About one-quarter of the MLP’s contracts guarantee the MLP a fixed fee for processing services. However, percent-of-proceeds (POP) agreements account for more than half the firm’s contract base and percent-of-index (POI) deals account for another 15 percent.

Under a POP arrangement, Eagle Rock Energy Partners receives a predetermined percentage of the total sales proceeds as compensation. Although the MLP hedges its exposure to NGL and gas volumes, declining commodity prices would weigh on the profitability of POP and POI processing contracts.

First-Quarter Results

Eagle Rock Energy Partners boosted its distribution by 5 percent sequentially and 47 percent from a year ago in the first quarter. The MLP’s DCF covered this higher payout by almost 1.4 times–a healthy margin that should enable the firm’s payout to withstand any further downside to energy prices.

Analysts continue to question whether Eagle Rock Energy Partners will be able to reach management’s targeted fourth-quarter distribution of $0.25 per unit (payable in February 2013). The emerging consensus suggests that the MLP will hit this goal–albeit a quarter or two later because of weakening energy prices.

An explosion at Eagle Rock Energy Partners’ Phoenix processing plant in the Texas Panhandle will keep the facility offline for up to 60 days. The MLP has rerouted about 80 percent to 85 percent of these volumes to the newly opened Woodall Plant, and insurance eventually will offset some of the direct financial impact from the explosion.

With a yield of 11.5 percent, units of Eagle Rock Energy Partners offer ample compensation for the risks to the firm’s distribution growth. Investors simply aren’t giving the MLP enough credit for its lower-risk financial structure, rising liquids production and its midstream segment’s organic growth potential. Eagle Rock Energy Partners LP continues to rate a buy up to 12. 

Energy Transfer Partners LP’s (NYSE: ETP) $5.3 billion bid for Sunoco (NYSE: SUN) is the latest in a series of accretive deals that will fuel distribution growth for years to come. In late March, the MLP finally completed its acquisition of a 50 percent stake in Citrus Corp, which operates the Florida Gas Transmission pipeline. Management has also added to the company via subtraction, selling the firm’s ailing propane-distribution assets to AmeriGas Partners LP (NYSE: APU).

Although the sharp drop in prices knocked down natural gas-related revenue by almost 30 percent in the first quarter, lower costs for gas transported and stored over the company’s system helped to blunt the pain. Meanwhile, Energy Transfer Partners’ NGL sales more than doubled from year-ago levels. Rising fee-based income from gathering and transportation projects also provided a boost.

Nevertheless, first-quarter DCF slipped 4.9 percent year over year, hit by the aforementioned headwinds and higher maintenance-related capital spending. But the MLP’s cash flow still covered the quarterly payout by a comfortable margin.

We continue to rate units of Energy Transfer Partners, which yield 8.4 percent at the current quote, a buy up to 50. However, investors should ease in to this position, as the stock could pull back if the market correction deepens.

Inergy Midstream LP’s (NYSE: NRGM) first-quarter results and management’s presentation at the NAPTP conference provided little encouraging news for investors. As you might recall, Inergy Partners LP (NYSE: NRGY) spun off its midstream energy assets in an initial public offering to raise capital after the unseasonably warm winter devastated its propane business.

In April, Inergy announced the sale of its retail propane assets to Suburban Propane Partners LP (NYSE: SPH) for roughly $1.8 billion in total considerations.

Although this move makes strategic sense–management has focused on growing the midstream business rather than building scale in propane distribution–the move raises an important question: What’s the value of Inergy other than its majority stake in Inergy Midstream’s common units and its general partner interest in the recently spun-off MLP?

Management failed to provide a ready answer to these concerns, instead offering vague platitudes about the need to “protect all of its stakeholders.”

That’s not to suggest that Inergy won’t be wound up at some point to lower Inergy Midstream’s coast of capital. We also continue to like Inergy Midstream’s assets, the stock’s relatively low valuation and management’s plan to grow the MLP’s distribution.

But management’s NAPTP presentation, coupled with the firm’s disappointing results in the fiscal second quarter ended March 31, 2012, did little to inspire confidence.

Excluding one-time items, the group’s midstream assets generated 35 percent more cash flow than in the first three months of 2011–an impressive tally at a time when natural gas prices tanked and producers are scaling back drilling activity in gas-focused basins.

This strength in the face of adversity and the Inergy Midstream’s organic growth projects suggest that the firm’s cash flow eventually will catch up with the distribution and enable the firm to hike its payout.

As long as Inergy Midstream’s cash flow moves in the right direction, we’ll stand by this inexpensive MLP. However, we’re downgrading Inergy Midstream LP to a hold because of questions about the value of the relationship between the MLP and its general partner.

Conservative Portfolio

Units of Buckeye Partners LP (NYSE: BPL) have given up 19.2 percent since the beginning of March, when we added the stock to the Portfolio. The unit price has tumbled from the upper $50s to the mid-$40s, after a disappointing quarter in which DCF covered only 80 percent of disbursements to unitholders. This shortfall prompted management to temporarily suspend distribution hikes after a string of 31 consecutive quarterly increases.

Despite these setbacks, continue to stick with Buckeye Partners through these lean times for one reason: It’s only a matter of time before the oil pipeline and related assets that the MLP has acquired add meaningfully to cash flow.

A mild winter weighed heavily on the MLP’s first-quarter results, as heating oil volumes plummeted by 32 percent from a year ago. Meanwhile, the uptick in maintenance-related spending should pay off in the summer.

Buckeye Partners continues to dicker with the Federal Energy Regulatory Commission about rates for its New York City assets (25 percent of revenue). The MLP also faces questions about how quickly cash flow from the recently acquired BORCO and Perth Amboy oil terminals will ramp up after expansion projects are completed.  

In our opinion, the selloff afflicting units of Buckeye Partners is overdone; even in the worst-case scenario, the MLP’s distribution coverage should improve in coming quarters. Nevertheless, we’re cutting Buckeye Partners LP to a buy up to 60 from a buy up to 65 to reflect the MLP’s near-term challenges.

Units of El Paso Pipeline Partners LP (NYSE: EPB) rallied after the midstream MLP earned an investment-grade credit rating from Standard & Poor’s and Kinder Morgan Inc. (NYSE: KMI) dropped down two valuable assets from its May 24 acquisition of El Paso Corp.

Kinder Morgan Inc.’s management team repeatedly insisted that drop-down transactions from the new general partner would enable El Paso Pipeline Partners to grow its distribution at an average annual rate of 9 percent. But investors expressed skepticism about these claims, assuming that Kinder Morgan Inc. would prefer to transfer assets to fellow Conservative Portfolio holding Kinder Morgan Energy Partners LP (NYSE: KMP).

The new general partner on May 18 announced the sale of the Cheyenne Plains Pipeline and an interest in Colorado Interstate Gas, effectively alleviating investors’ concerns and laying a foundation for distribution growth.

El Paso Pipeline Partners grew its first-quarter DCF by 12 percent from a year ago, enabling the MLP to raise its distribution for the 16th consecutive quarter. On a year-over-year basis, the firm’s payout increased by 11 percent. Buy El Paso Pipeline Partners LP up to 38.

At the NAPTP conference, Enterprise Products Partners LP’s CEO Michael Creel laid out a compelling game plan to grow the blue-chip MLP’s DCF and quarterly payout, primarily through investments in ethane and propane handling capabilities. The firm currently has about $7.5 billion worth of projects under way.

In the first quarter, the MLP generated record DCF of $1.6 billion, bolstered in part by the sale of an equity stake in Energy Transfer Equity LP (NYSE: ETE) for about $900 million. Excluding this one-time contribution, Enterprise Products Partners generated enough cash flow to cover its quarterly distribution by 1.4 times. Record throughput from the Eagle Ford Shale boosted gas-processing margins and fueled an 11 percent uptick in operating revenue.

Units of Enterprise Products Partners have traded above our buy target for some time, but have pulled back during the recent correction; investors should add exposure to this foundational stock on any weakness. Enterprise Products Partners LP now rates a buy up to 50.

Genesis Energy LP’s (NYSE: GEL) CEO Grant Sims made a solid case for the MLP continuing to grow its distribution at a double-digit rate in coming quarters, citing a number of undertakings that will be accretive to cash flow. These fee-generating assets should complement the firm’s existing portfolio without increasing its exposure to fluctuations in commodity prices.

But the best news for investors is that units of Genesis Energy have pulled below our buy target. With a distribution yield of more than 6 percent and a plan to grow its distribution at an annual rate of at least 10 percent, Genesis Energy LP rates a buy up to 30.

Our sanguine outlook for Kinder Morgan Energy Partners hasn’t changed since we analyzed the blue-chip MLP’s first-quarter results in last month’s issue. However, the stock has dipped below our long-standing buy target for the first time in months. Take advantage of this pullback and buy Kinder Morgan Energy Partners LP up to 82.

Magellan Midstream Partners LP’s (NYSE: MMP) CEO Michael Mears outlined the MLP’s plan to grow its current asset base of 9,600 miles of pipelines and 50 terminals capable of storing up to 40 billion barrels of liquid hydrocarbons and refined products. This strategic focus on liquids has insulated the firm against the historic crack-up in natural gas prices, while a conservative business mix that generates 85 percent of the MLP’s cash flow ensures that the distribution remains safe in even the most challenging environments.

The conservatively run MLP grew its first-quarter cash flow by 6.4 percent from year-ago levels, as infrastructure additions offset weak demand for gasoline. These results prompted Magellan Midstream Partners to raise its full-year DCF guidance and reaffirm its goal of growing the distribution by 9 percent in 2012.

With $500 million allocated to growth projects in 2012 and another $500 million in additional opportunities in management’s sights, Magellan Midstream Partners has a bright future. Buy Magellan Midstream Partners LP hand over fist if the stock price dips to less than 60.

Sunoco Logistics Partners LP (NYSE: SXL) turned in a strong first quarter, more than doubling its DCF from year-ago levels. The company’s in-demand oil transportation assets led the way, while growth projects in the Marcellus Shale remain on track to come onstream in mid-2013.

In April, Energy Transfer Partners announced a deal to acquire Sunoco, which serves as Sunoco Logistics Partners’ general partner. Sunoco also owns a 32.4 percent equity stake in the MLP. As part of the transaction, Energy Transfer Partners plans to divest Sunoco’s non-energy midstream assets, including all its refineries and gas stations.

The acquirer will retain Sunoco’s interest in Sunoco Logistics Partners and the company’s liquids-focused midstream assets. Energy Transfer Partners hasn’t addressed its strategy for future drop-down transactions or whether it will simply subsume Sunoco Logistics Partners.

We expect the majority of Sunoco Logistics Partners’ growth to come from organic opportunities. With a secure distribution, Sunoco Logistics Partners LP is a buy if the unit price dips below our buy target of 32.

Aggressive Portfolio

Upstream MLP Legacy Reserves LP (NSDQ: LGCY) enjoyed a solid first quarter, growing production by about 5 percent sequentially, to 14,400 barrels of oil equivalent per day. Much of this uptick in production stemmed from elevated initial production rates on recently completed wells and a full quarter of output from $28 million in acreage acquired in November 2011. Improved takeaway capacity also bolstered natural gas output from the MLP’s acreage in New Mexico.

Legacy Reserves in the first quarter realized an average of $70.51 per barrel of oil equivalent per day, compared to $68.10 per barrel of oil equivalent per day in the fourth quarter of 2011. The firm’s outsized exposure to oil and higher price realizations for this commodity offset a 14 percent decline in the price of natural gas and a 13 percent drop in the price of NGLs.  

Higher production and average price realizations, coupled with management’s decision to limit capital expenditures in the first quarter, enabled Legacy Reserves to generate record-high DCF in the quarter and cover its distribution by 1.37 times. This coverage ratio is even more impressive when you consider that the MLP’s secondary offering in November 2011 increased the number of outstanding units.

The MLP’s conservative approach to calculating distributable cash flow–management doesn’t distinguish between capital expenditures for maintenance and those for growth–suggests that the publicly traded partnership should have no problem sustaining its distribution. Moreover, Legacy Reserves has hedged about 67 percent of its expected production in 2012, providing a buffer against the recent decline in oil prices.

Although management warned that second-quarter production would likely fall slightly short of the MLP’s output in the first three months of the year, the firm’s largest acquisition since December 2010 should prove accretive to cash flow in the third quarter.

The $88 million in acquisitions that the firm announced in the first quarter consisted of acreage in two distinct regions: the Rockies and Legacy Reserves’ traditional stronghold, the Permian Basin in west Texas.

The MLP paid $70.8 million to an undisclosed seller for oil-producing properties in Montana and North Dakota that have a current net output of 776 barrels of oil equivalent per day. All the acreage is proved, developed and producing, and management estimates the reserve life at about 11 years.

Not only does the deal diversify Legacy Reserves’ geographic footprint, but the acquisition also reflects the rising cost of acreage in the Permian Basin, the MLP’s traditional area of operations. CEO Cary Brown alluded to this challenge during a recent conference call to discuss first-quarter results:

One of the things that feels good is the Permian Basin right now is really hot and being able to buy in the Rockies because of the outstanding group we have up there and in some of these other basins really opens up the opportunities. As I’ve told guys around here, it’s nice to have multiple places to shop when you’re looking for acquisitions.

During the quarter, Legacy Reserves also announced $17.3 billion in bolt-on acquisitions, 74 percent of which are in Wyoming and 26 percent of which were in the Permian Basin. Management estimated production from these fields at 157 barrels of oil equivalent per day.

Finally, Cary and his team indicated that the MLP will drill its first horizontal wells in the Bone Springs and Yeso areas of the Permian Basin. Other operators in this vicinity have delivered impressive well results.

With plenty of opportunity to increase production in coming years and an oil-weighted production profile, Legacy Reserves is a solid bet to continue growing its distribution. Offering a distribution yield of almost 9 percent after the recent pullback, units of Legacy Reserves LP are a buy up to 32 and a bargain at current prices. With the market likely to remain volatile in the coming months, investors should consider easing into this position to take advantage of any further correction in the stock price.

We added Mid-Con Energy Partners LP (NSDQ: MCEP) to the Aggressive Portfolio on Feb. 2, 2012, about two months after its initial public offering. With a market capitalization of only $362.9 million and an average daily trading volume of about 66,000 units, the stock has endured significant volatility over the past few months but has still returned 0.17 percent.

With the EU sovereign-debt crisis roiling the stock market and another growth scare weighing on oil prices, investors should expect the unit price of Mid-Con Energy Partners to fluctuate in coming months. That being said, results from Mid-Con Energy Partners’ first full quarter as a publicly traded firm reaffirmed our confidence in the upstream MLP’s growth story and suggest that the stock will reward investors who stick it out for the long term.

Mid-Con Energy Partners LP owns about 10 million barrels of oil-equivalent reserves in the Midcontinent region, 69 percent of which are proved and developed. Crude oil accounts for about 96 percent of the firm’s reserves, a favorable mix in the current price environment. Like many upstream MLPs, the firm operates in established plays that feature limited drilling risk and predictable decline rates.

In fact, management estimates that about 90 percent of the outfit’s wells have been in production since 1982 or earlier. Mid-Con Energy Partners specializes in water-flooding, an enhanced recovery technique that involves injecting large volumes of water into a mature field to restore well pressure and bolster output. So-called primary production recovers only 10 percent to 25 percent of the hydrocarbons in a field, while water-flooding and other secondary techniques can extract another 10 percent to 20 percent of resources in place.

More than 90 percent of Mid-Con Energy Partners’ producing wells employ water flooding to improve production rates. Six to 18 months of water injections are required to increase production, but the technique works. The MLP’s acreage in southern Oklahoma (about 55 percent of total reserves), which is still in the early stages of water-flooding, flowed about 220 barrels of oil equivalent per day in September 2006 and in December 2011 yielded 2,492 barrels of oil equivalent per day.

During the first quarter, Mid-Con Energy Partners extracted 1,703 barrels of oil equivalent per day–150,000 barrels of oil and 31 million cubic feet of natural gas–up 15 percent sequentially. Excluding derivatives related to hedging, the MLP’s hydrocarbon sales totaled $15.5 million, while the firm’s adjusted earnings before interest, taxes, depreciation and amortization came in at $11.8 million. More important, Mid-Con Energy Partners generated distributable cash flow of $0.556 per unit, enough to cover the quarterly payout by 1.17 times. Over the long term, the MLP targets a payout ratio of between 1.15 and 1.20 times.

With management expecting daily production to average 1,850 barrels of oil equivalent per in 2012 and 75 percent of this output hedged at favorable prices, we expect the recent weakness in oil prices to have only a modest effect on the MLP’s near-term fortunes.

Moreover, Mid-Con Energy Pargrowth story remains intact. In April, the company increased its borrowing base to $100 million, an amount that management told analysts would “cover any potential acquisitions for the year, but not [include] any unused availability that [the firm] wouldn’t need.”

CEO Jeffrey Olmstead also indicated that the pipeline of potential acquisitions and joint ventures appears strong, with many exploration and production companies seeking to divest mature assets to fund drilling in shale basins and other emerging plays:

As far as opportunities arise, our deal flow really in the last six months has been as good as it has ever been. We’ve looked at more water-flood opportunities–…from grass roots [opportunities] that our people have put together themselves and gone out and found, to companies that maybe have come across some water-floods and some acquisitions they had that [weren’t] their core competency…[Some companies] have talked about divesting [these properties] and that other people talk to us about joint venturing with them. So, we’re very positive on the outlook in the deal flow that we’ve seen and hope to continue to grow with it.

Even if Mid-Con Energy Partners doesn’t close an acquisition in 2012, management reaffirmed that 2013 will likely bring a drop-down transaction from the firm’s general partner, private-equity outfit Yorkville Partners.

Mid-Con Energy Partners’ parent, which has about $3 billion in assets under management, has invested in a number of oil- and gas-producing properties that might be a good fit for Mid-Con Energy Partners. Private affiliate Mid-Con Energy III focuses on water-flood opportunities that fit the MLP’s business model, while Mid-Con Energy IV targets primary production opportunities over a broader geographic range. Management indicated that any drop-down transactions in the near-term would likely come from Mid-Con Energy III.

By dropping down a new water-flooding project to Mid-Con Energy Partners, Yorktown Partners would monetize this asset and shield ongoing revenue from the field from corporate taxation. Meanwhile, rising production and cash flow from the dropped-down asset would enable Mid-Con Energy Partners to grow its distribution. With an almost 50 percent stake in Mid-Con Energy Partners’ outstanding units, Yorktown Partners has ample incentive to pursue strategies that will foster the MLP’s growth.

Prospective investors should also note that management reviews Mid-Con Energy Partners’ distribution policy every third quarter, so the payout will likely increase once annually rather than in incrementally in each quarter.

Yielding more than 9.5 percent, Mid-Con Energy Partners’ oil-weighted production mix and solid pipeline of growth opportunities makes the stock a buy under 26.50. Investors who can stomach the volatility should jump at any chance to acquire the stock for less than $19 per unit.

In his presentation at the NAPTP conference, Navios Maritime Partners LP’s (NYSE: NMM) CFO Stratos Desypris hinted that a distribution increase may be imminent at the dry-bulk shipping company. Despite this welcome news, the unit price has pulled back in recent weeks, presumably because of renewed concern about Greece’s fiscal health and potential exit from the EU.

Although Navios Maritime Partners is headquartered in Athens, the shipper does zero business in Greece and its contracts are effectively insured by an AA-rated governmental agency.

Depressed day-rates for dry-bulk vessels remain the biggest threat to this segment of the seaborne shipping industry, particularly for ship owners with outsized exposure to the spot market. However, Navios Maritime Partners, which is insulated from near-term weakness in prevailing day-rates by long-term contracts, continues to generate relatively stable cash flow.

Moreover, the MLP is in prime position to take advantage of its competitors’ misery by scooping up high-quality assets at bargain prices.

The big question for investors is whether supply-demand conditions in the dry-bulk tanker market will improve by 2014, when Navios Maritime Partners’ charter coverage declines to less than 50 percent.

Despite this uncertainty, the company’s long-term growth story remains intact; the ongoing process of urbanization and modernization under way in Asia and India will continue to drive demand for iron ore, coal and other vital resources. Buy Navios Maritime Partners LP up to 20.

We covered Penn Virginia Resource Partners LP’s (NYSE: PVR) first-quarter earnings in last month’s issue. CEO William Shea was on hand for the NAPTP conference and highlighted the firm’s transformational acquisition of midstream energy assets in the Marcellus shale, as opposed to the coal royalties that have historically generated the bulk of the MLP’s cash flows.

Management estimates that midstream assets will account for 70 percent of Penn Virginia Resource Partners’ cash flow by 2013, compared to 45 percent at the end of the first quarter.

The stock price has fluctuated considerably this year, owing primarily to concerns about declining coal prices. The unseasonably warm winter that reduced heating demand and elevated the volume of natural gas in storage also led to a supply overhang of coal at electric utilities. Meanwhile, depressed natural gas prices have prompted utilities with the flexibility to do so to switch to gas from coal.

However, rumors of King Coal’s death have been greatly exaggerated. A cold winter would help to alleviate utilities’ glutted coal stockpiles, while natural gas prices above $4 per million British thermal units would prompt some utilities to revert to coal.

Investors seeking a relatively low-risk bet on an eventual recovery in coal prices should buy Penn Virginia Resource Partners LP up to 29.

Regency Energy Partners LP (NYSE: RGP) continues to increase its asset base in the Eagle Ford Shale, last month announcing a plan to expand its Edwards Lime Gathering joint venture, a  project that will expand its NGL takeaway capacity in the region.

The midstream MLP’s first-quarter DCF surged 46 percent from year-ago levels, bolstered by rising margins and the contribution of its 30 percent stake in the Lone Star system. This joint venture with Energy Transfer Partners provides NGL storage, fractionation and transportation services to producers in the Eagle Ford Shale and the Permian Basin.

Management allocated $138 million to organic growth projects in the first three months of the year and expects to spend another $775 million to $825 million over the remaining nine months. These investments should enable the firm to grow its cash flow while reducing its sensitivity to swings in commodity prices. Buy Regency Energy Partners LP up to 29.

Vanguard Natural Resources LLC (NYSE: VNR) has pursued two strategies to limit its exposure to falling natural gas prices: hedging future output and tilting development and acquisitions toward greater production of liquids.

These efforts have paid off. The limited liability company grew its first-quarter production by 2.2 percent from a year ago, but revenue climbed by 14.8 percent because of the improved production mix and higher price realizations. DCF surged by 57.1 percent, though cash flow per unit slipped to $0.86 because of dilution related to the acquisition of Encore Energy Partners.

Liquid hydrocarbons now account for 73 percent of the firm’s proved reserves. Take advantage of the recent selloff and lock in a double-digit yield on the units. Buy Vanguard Natural Resources LLC up to 30.

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