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BreitBurn Energy: An Excellent Dividend Income MLP

January 06, 2012 | About:

BreitBurn energy (BBEP) is an MLP (Master Limited Partnership). For those of you that do not know, an MLP is a special type of investment that owns resources. In order for a partnership to be legally classified as an MLP, the partnership must derive more than 90% of its cash flow from a specific type of business, mostly these businesses relate to the use of natural resources, such as petroleum and natural gas extraction and its transportation.

BBEP was formed in late 2006 with an IPO for 6 million common units representing limited partner interests in the partnership at a price of $18.50 per common unit. Since that time, they have continued to grow, which is part of the strategy for this MLP. Growth is a requirement if the company is going to keep paying a constant or growing distribution. Why? Because the oil and gas in the ground will eventually run out (deplete). This is an important thing to understand when investing in MLPs; the assets they own are subject to wear and tear (think an oil pipeline), to depletion (like and oil field), or any number of events that make them less valuable over time to you, the owner.

It is imperative that you know how management will protect you from loss of value over time. It is also important to understand how management continues to fund growth. In the case of BBEP, growth is funded by a combination of debt and the issuance of new shares. The current reserve life for BBEP properties is 16 years. This is plenty of time to enjoy a nice quarterly payout. We will also see this reserve life extended with new drilling and future acquisitions.

BBEP now has 59 million shares outstanding. For a lot of companies, the issuance of new shares or debt can be a bad thing. If the new cash is used for daily operations, it can be dilutive to existing owners. In the case of BBEP, the new cash raised over the last five years has been put to use in the acquisition of new oil and gas fields (and to pay down debt associated with field purchases). In fact, in the third quarter 2011 BBEP closed on new oil and gas interests in Colorado and Utah as well as crude oil properties in Wyoming. This has helped BBEP diversify over a geographic region and to add to the amount of oil/gas available for production.

BBEP has been making a payout every quarter since inception. The last quarter payment was .435 per unit. This equates to an annual dividend rate of 9.12%. The payout rate changes based upon many factors including the price of oil/gas, the non-sold inventory, production costs and exploration/well costs. To mitigate the influence of oil and gas volatility on the distribution rate, management uses a series of derivative contracts to “lock-in” the sales price of a large portion of BBEP’s production. This helps the MLP maintain cash flow (and distributions) in the event that oil/gas goes down. The downside to this “hedging” is that revenues may be limited should oil/gas go much higher. Current commodity hedging for BBEP goes out to 2015 for a portion of total production.

If you had purchased BBEP during the IPO, you would have received $7.02 in distributions and the share price is currently trading at $19.24. So, you had a very nice return for the years 2007 through 2011, as well as a small capital gain.

Breitburn's production rates are consistent year over year. This is a good sign that the production team and the underlying assets can keep up production, which will keep income (and distributions) up. The increase in revenues is due to the increase in oil prices (offset in part due to a reduction in gas prices). While I do not think that oil prices will continue to rise, I do believe that BBEP can maintain current income and distribution rates in a market that supports oil above $85 per barrel and natural gas in the $3 range.

I believe that BBEP could be a valuable contributor to your portfolio’s income. Much like a company like Kinder Morgan (KMP), it has a great distribution and growth prospects. Management has a good handle on growth potential and hedging which should help to ensure that good distribution out into the future. I also like that production has a good mix in both oil and natural gas. This is a good MLP to pick up now and add with any dips in the price.

Make sure to do your own due diligence before you buy this or any investment. You may also want to check out the tax consequences for MLP investments. While the company is not taxed at the entity level, you will have to declare the income on your tax return. Watch for any impact of UBTI in any IRA investments with this or any MLP.

About the author:

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