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Crosstex Energy, AŞ Message Board

  • mlpfollower mlpfollower Dec 26, 2005 11:58 AM Flag

    GP Tax and Cost of Capital

    Geo and RRB both make good points about cost of capital.

    The GP tax generally is defined as the amount of money paid to the GP from the LP distribution for each newly issued LP unit. For example, if a hypothetical LP sells for $40/unit with an annual distribution of $3 (yielding 7.5%), and the GP take for each new unit is .50, then the incremental GP tax is 16.6% (.50/$3) and the cost of new equity sold at $40 is 8.75% ($3.50/$40).

    Geo is correct that the high splits causes the cost of equity capital to increase. KMP, for example, is the highest now at 11% or thereabouts, as I recall (I have not calculated it).

    However, the cost of equity is only part of the equation. You also have to look at the cost of debt. As an MLP grows and diversifies, its credit rating generally improves and its cost of debt decreases. KMP has a very low cost of debt (I think Buckeye is the cheapest and KMP is second lowest). KMP is issuing new debt at less than 1% over Treasuries. That is incredible and it counteracts a good bit of the sting from the high cost of new equity. The end result is that KMP is not making huge new acquisitions and issuing huge amounts of new shares. Rather, it is focusing more on organic growth projects funded by cheap debt.

    Therefore, I agree with Geo that XTXI's multiple should contract somewhat as the cost of XTEX's equity increases, but it is not a night and day situation whereby one day XTEX has the opportunity to grow 30%+/yr. followed by 0 growth opportunities thereafter. It just means XTEX's growth rate likely will go down somewhat as its cost of equity increases.

    We probably could calculate a pretty good XTXI multiple by looking at the likely results of XTEX's current ongoing projects, followed by a reduced rate of growth thereafter, and then discounting that terminal rate back to the present value. That is what RRB is doing in his calculations and it makes a lot of sense to me. It may be appropriate to use a 22X multiple of end of 2006 dividend, but only if you think XTXI's dividend will pretty much stop growing at that point. I don't think the dividend will stop growing at $3 and think Geo overstates the case.

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    • It assumes only that the North LIG expansion project with Kinder Morgan is completed (both phases) it assumes that the S. LIG project gets done (150 million dollar project at a 6x multiple) and it assumes that the Barnett Shale pipeline expansion project is completed. It does not take into account any acquisitions. The Barnett Shale acquisition project is the gem as it comes online at about a 1x multiple. While a organic expansion project with a multiple of 1 or 2 is not uncommon, one of that magnitude is. Typically you would see projects that are sub 1 million dollars with those 1x and 2x multiples but a 17 million dollar project is gravy. I suspect we will see numerous small projects associated with the El Paso deal as they seek to optimize the assets. I think some of the cash flow they project may already reflect some of the changes they anticipate making.

    • I agree. The potential is there. Does your $5 to $6 dividend assume any acquisitions or do you believe that the LIG projects and Barnett Shale expansion will support it alone? If the former, that is good enough but if the latter, any accretive acquisitions could push the number higher or make it arrive more quickly.

    • The math looks even better, if you believe, as I do, that the dividend could be $5 or $6 by end of 2008. The 2 LIG projects plus the Barnett Shale expansion all have a lot of potential if put into action. The real kicker is that now that Crosstex is moving well into the 50/50 splits, everytime they issue units, it is significant money in the bank to XTXI. As has been mentioned before, the GP doesn't get dilluted. While the accretion on the LP units decreases as the unit count rises, the total GP take does not get dilluted. This makes owning the GP highly desireable. Put a 3.5% yield on a $5.00 or $6.00 dividend at end of 2008 and you get a $140 to $170 price range.

    • Hope everyone had a Merry Christmas!!

      I personally would calculate the GP tax for the scenario given by mlpfoller a little differently. I would divide the .50 by 3.50 to get a tax rate of 14.28%. I figure that the GP tax rate is simpy the percentage of cash that they take out of the total cash in the till, which would be the sum of the GP payments and the LP payments. Not that it really matters, because, as mlpfollower has pointed out, the true cost is the cost of the equity and debt.

      Have to agree with mlpfollower, XTXI's, or rather XTEX's growth prospects will plunge but will gradually decrease.