When at the current stock price you are paying a 22%+ distribution, it's not probably appropriate to put out more units to pay down debt. What does make sense, and they will likely do if they can in the coming months, is to use the unit buyback and reduce their distribution commitments moving forward. And, while I doubt they cut the distribution in 2015 or 2016, if they did cut it even 50%, it would still not be a good idea to issue units paying a 11%+ distribution to pay down debt owing 6.5% IMO. Of course, I don't agree with your suggestion that they are heading toward bankruptcy and apparently none of the analysts do either as they are all reiterating their "Buy" recommendations, albeit at PTs in the $20's and not $30's. This will pass, perhaps like a kidney stone, but it will pass in the next year or so.
I am not generally a conspiracy theorist, however, I find it somewhat more than coincidental that the Saudi's (America's ally) is leading a charge to lower oil that just happens to hurt Russia, Iran and Venezuela more than anyone else at a time when the west wants concessions out of Russia and Iran. It may just be that this is all politics and we will get a resolution to the oil price when Russia and Iran submit to terms of the liking to the west.
I agree that Russia is a component, though I do not agree with your take on the availability of oil in the U.S. But, I think think Russia is secondary to Iran. The Saudis hate Iran and don't want Iran to get nuclear weapons any more than the U.S. does. IMO, Iran's nuclear program is the main target of the Saudis and it just so happens it works out well for the U.S. vis-a-vis Russia as well. Come the next OPEC meeting, I suspect the proposition will be that if Iran shutters it's nuclear program the Saudis will cut production. By then, production investments will be dramatically reduced in high cost areas and global demand for oil may be increasing due to the lower prices as well as the projected global economic improvement starting mid-2015 (if it actually happens).
As for the distribution, if the $400M number being bantered about by the analysts as the cost reduction available to LINE with the asset swaps is in the ballpark, I don't believe LINE will need to cut the distribution in 2015 or 2016. However, they will perhaps need to supplement the $400M cost reduction from the swaps with a few additional cuts and perhaps even an accretive acquisition or two as well as a unit buyback. At these prices, they could implement their $250M buyback and reduce the distribution commitment about $60M. My understanding is their debt covenants permit them a $500M buyback which would cut distributions $120M. Lot's of possible ways to protect the distribution near-term.
We have had several analysts lower their price targets on LINE to the $22 to $28 range and one remain at $33. It's encouraging to me that given these guys would usually be talking with management and better understand the situation that they continue to be comfortable enough to maintain buy ratings and PTs more than 50% higher than the current price.
Just read on Yahoo that the analyst at GS has a $26 PT on LINE and doesn't expect a distribution cut with the assumption that oil will go back up later in 2015. He does have a neutral rating though. Would be nice to see.
The bottom is likely not reached until the Iranians agree to a nuclear arms deal and the Russians get out of the Ukraine. Until then, America and the Saudi are going to make certain oil prices fall and the media is going to feed the frenzy of fear.
With everyone forecasting the worst for oil prices is yet to come (in Q215), it's unlikely any of these stocks will move materially higher unless there is an event in the interim. If they cut the dividend, you will likely see an immediate 20%+ drop in stock price though, consistent with others who have cut. With or without the dividend, this stock could go to the $22 to $25 level when all the announcements about the majors cutting budgets start hitting the headlines, not that everyone doesn't already know it's coming. It will get there quicker with a dividend cut. Still, I have started accumulating a position at $29 because I want to be an owner when the oil prices turn. This should be a $50+ stock again in a couple of years, if not sooner, as this cycle plays out.
Just read an article about two shale producers who are cutting cap-ex 50% in 2015, one from $1.45B to between $750 and $850 million, yet still growing production a few percent. I thought this was interesting because it might give some comfort in the magnitude of cap-ex reductions LINE could pursue, if needed, for a period of time to weather the storm.
It would seem to me that at $60 oil, LINE needs to find $250M to $450M (depending on how much of the projected Q414 cash shortfall is recurring). At $50 oil, they need to find about $350M to $550M. I would like to think most of the cash shortfall in Q4 is non-recurring transition costs from high-intensity to low-intensity assets because I can't otherwise explain how they were $12M positive on cash in Q3 on a steady state basis and negative in Q4.
As these figures relate to the distribution, it suggests a few things, 1) if others can cut cap-ex 50% and still increase production, then, LINE may be able to cover their entire need with cost reductions, or cost reductions and running sub-1X on the distribution for awhile, 2) if not, any cut in the distribution could be modest as even a reduction to $2.00 would produce $300M and 3) they still have other levers to pull before cutting the distribution, including non-capital expense reductions, accretive acquisitions and stock buybacks.
LINE will only move higher when one of the following occur.
1. Oil prices reverse course and move towards levels that eliminate the uncertainty of the distribution.
2. Management lays out their 2015 Plan and gives investors confidence that the distribution is sustainable.
I wish it were as simple as a change in the calendar or the washing out of tax loss sales, but I suspect it's not that easy.
Given the Saudis dependence on oil, it also says they do not want low oil prices for long as it depletes their reserves. They just may need those reserves to protect their social network when the Iranians or Russians come knocking over the fact that their production position is dramatically against their interests.
I agree entirely. We need this entire cycle to play out before the hedges expire on oil in 2017, so the quicker we get to a bottom, the sooner those that can do something to balance supply with demand will be forced to take action. Whether that action is OPEC, or OPEC and Russia, cutting supply, or a conflict created by an unwillingness of the parties to cooperate, the sooner the better for getting oil moving back in the right direction.
I agree. The faster it gets to wherever it is going, the sooner the Saudis or others will have to act and the price will recover. For the most part though, LINE should weather the storm pretty well for the next two years with their hedging, but they probably need oil above $80 or $85 entering 2017 to support the current distribution. Unless we have a global recession, I would expect getting back up above $80 over the next 2 years is most likely to occur given it seems no one is motivated to have prices sub-$80 for long. Certainly, prices in the $60 area for an extended period is going to cause chaos in certain countries dependent on much higher prices to fund their social safety nets.
Nice post. I have family in central Mississippi and my father in-law was commenting over Thanksgiving that quite a few locals go down to the coast to work on oil rigs and how a couple were already laid off. So, perhaps it has already started.
I bought at $13.50, took my loss at $10, waited 30-days for tax purposes, and now started back in at $7.50. And, it may go lower, especially near-term with both tax loss sellers and shorts piling in. Still, management is doing all the right things in a very tough macro and are committed and capable of sustaining the current dividend or at least a very healthy one. Currently, their max shortfall in cash in 2015 is $1B, so with up to $10B in asset sales on the blocks, they should be able to continue to offer a very nice yield as we wait for the macro to improve. Over time, surely these high cost producers will shutter their mines and the price of iron ore will begin to work its way back up towards $80 or $85 where VALE can do quite well on lower costs and higher volumes.
The Street uses a cookie cutter analysis that is inappropriate for some businesses. Still, one can paint a pretty ugly picture with LINE/LNCO right now, if they see the cup as half empty. Yet, I can't reconcile how cash available for distribution in Q3 was a bit over 1X, even without the transaction related benefits and suddenly it's going to be more than $50M negative after accounting for the transaction costs in Q4. It would seem to me that all of the Q4 shortfall must be one-time transition costs since hedges (prices) will not change and volumes are actually higher. If so, the nut LINE/LNCO must crack in 2015 at $70 oil is only to find about $150M which would seem very doable. At $60 oil, it's only about $225M. So, personally I think the distribution is safe for the next two years and the only worry is that oil prices stay substantively sub-$80 into 2017 when hedges are gone which I personally think is highly unlikely, but who knows.
IMO, it will only drop in 2015 if oil prices fall substantively below $60 and stay there for more than a quarter or two. At higher prices, LINE can weather the storm with their hedges and cost cutting, but there is a limit. Personally, I am glad to see oil prices tank now because I believe it will force reactions that will cause it to go back up and stabilize sooner rather than later.
That's interesting. Just this past Friday he said that ESV has a strong balance sheet and should be able to cover the dividend at the current rate with little issue since they just raised $1.3B and increased their line of credit to $2.25B. I didn't see what you are referring to him saying, but it would be an about face from just last week.
Let's face it, unlike LINE, you can sell LNCO without the ordinary income issue associated with the LINE distributions. I sold my LNCO for this very reason and held my LINE. In time, both will rise, but LNCO will perhaps do some catching up after tax time ends. I am looking to get back into LNCO, but haven't yet.
The price of the stock will go down as long as oil goes down, unless management can ease the fear with their 2015 forecast. However, it depends on ones' assumptions as to whether it matters what the oil price is near-term as it relates to the distribution (and I only care about the stability of the distribution over time).
If you assume the Q314 cash flow situation was steady state and the Q414 deficit is transitional (high to low intensity assets) and you believe the analysts that there are $400M in savings from the swaps, then, with the lower interest expense after repaying $2.3B in debt, LINE's distribution should be fine for the next 2 years. Unless management says their distribution is fine though, the stock will move with oil. And, I have clearly made 3 major assumptions to come to my conclusion, including 1) the non-recurring nature of the Q4 cash flow deficit, 2) the amount of cost reduction associated with the swaps and 3) the lack of urgency to address the debt. That's not a lot of assumptions, but if any are way off, then, everything I am banking on is off base.