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Morningstar | Magellan Midstream's 4Q Earnings Mixed; Offers Muted 2019 Outlook

Magellan Midstream reported mixed fourth-quarter earnings and offered a muted 2019 outlook. We plan to update our forecast but don’t expect a material change in our $72 fair value estimate or wide moat rating. Distributable earnings for the quarter were $302 million compared with $308 million last year, negatively affected by $18 million in write-offs related to the shutdown of the ammonia pipeline and the discontinuance of the Delaware Basin pipeline.

Guidance for 2019 distributable cash flow is $1.14 billion compared with $1.11 billion in 2018. Distributable cash flow could be up to $1.2 billion if Magellan can continue to take advantage of wide Permian differentials for the year versus just the first quarter. However, Permian differentials have collapsed recently, from $15 to $20 a barrel, and we expect the pipeline tightness to be resolved in the second half of the year. At best, Magellan might only be able to take advantage of the still wider-than-average differentials for the first half of 2019.

More broadly, we think the muted outlook speaks to recent developments in the crude oil segment in terms of sharply lower tariffs on Longhorn, the loss of earnings from the partial sale of the BridgeTex stake, the shift in oil volumes toward the low-tariff Houston distribution system, and the discontinued ammonia and oil projects. The ammonia pipeline was contributing $15 million in operating margin as late as 2015, and based on its $150 million project cost, we estimate the Delaware pipeline project would have contributed about $25 million in annual earnings. The Delaware pipeline effort was started in late 2017 and planned to move anywhere from 250,000 to 600,000 barrels per day from Wink to Crane, Texas, and connect to the Longhorn pipeline. At the time, Magellan felt confident enough to proceed with constructing the pipeline without securing customer commitments, demonstrating an unusual level of confidence that doesn’t appear to have worked out.

Segment results had pluses and minuses. The refined product segment benefited primarily from a significant expansion in product margin due to unrealized gains on future contracts for the partnership’s commodity activities, as operating margin increased $133 million from last year to $349 million. The refined product pipelines are also benefiting from record levels of demand for distillate. On the other hand, the crude oil segment saw a $12 million decline in operating income to $130 million. A 21% decline in average crude oil tariffs was due to an estimated 50% decline in tariffs on the Longhorn pipeline and higher volumes being moved on the Houston distribution system, which has very low tariffs. The lower tariffs more than offset a 25% increase to a record level of pipeline volumes.