Stuff Your Stockings With This Bargain MLP

Peter is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

MLP Relative Under-Performance Continues

About ten days ago I wrote an article about Master Limited Partnership's, "MLPs." I warned Foolish investors that I'm not an expert in MLPs or trained in the tax treatment of owning MLP units and collecting distributions. The key point of this article was that if units of coal MLPs Natural Resource Partners (NYSE: NRP) and Alliance Resource Partners (NASDAQ: ARLP) have sold off on fiscal cliff fears, then these companies are oversold. I said, quote,    

"The contemplated changes in the tax code, the big bad wolf, the fiscal cliff....WOULD NOT negatively impact MLP distributions because MLP distributions are already taxed as ordinary income! To reiterate, tax on qualified common stock dividends could rise from 15% to 35%-39%, but MLP distributions are already taxed at the higher rate, albeit on a tax deferred basis."

Typically, NRP and Alliance trade with far less volatility than coal companies like Peabody Energy (NYSE: BTU), Cloud Peak (NYSE: CLD) and Alpha Natural Resources (NYSE: ANR). However, from Nov. 1 to Dec. 10, Alliance is down 17% and NRP 16%, while Peabody, Cloud and Alpha are only down about 7-9%. This is unusual as the betas of NRP and ARLP are both ~0.9 compared to betas of ~1.3-2.4 for the other three stocks.

The reason why I'm revisiting this topic so soon is that before we know it, it will be 2013. In January we could see a bounce back in the unit prices of Alliance and NRP. For investors not familiar with these two companies, you have come to the right place. On Dec. 4 both companies made investment presentations at the Wells Fargo Pipleline and MLP Energy Symposium. The corporate presentations (slides and audio) are available to anyone. For Alliance, click here. For NRP, click here.

A Closer Look at NRP

Turning now to NRP, this company has been in business as an MLP for ten years. Investors are being rewarded with a current distribution yield of 12.6%, essentially being paid to wait for a rebound in coal markets. However, unlike Alliance, NRP's annual distribution will be stuck at $2.20 per unit for the next 1-2 years. If a year from now NRP were to trade back to where the units closed just six weeks ago, the total return would be 37%. I believe that 37% return on NRP is possible even in a continued slow grow economy.

Typically when a company's common stock or unit is yielding more than 12% there's a good probability something is wrong. Yields that high don't come without high risk. In NRP's case it's being punished twice, as a coal company and on the fiscal cliff worries mentioned above. Since early November, all coal companies have traded lower, some more than others. Walter Energy is close to flat due to speculation of a takeout bid from BHP.

Get Paid to Wait with NRP, 12% Yield Hard to Beat

While the coal market is not getting any better, it's not getting any worse either. Coking coal prices as measured by a key global (quarterly) index has bottomed. The price for the 4th quarter was $170 per metric tonne and for 1Q, 2013 it priced at $165 per tonne. 75% of NRPs revenues come from royalties paid by producing coal companies. NRP itself does not mine a single ton of coal. As such, NRP has few employees, low overhead and a 2011 Eearnings Before Interest, Taxes, Depreciation and Amertization, "EBITDA," magin of 85%!

So, is NRP a coal company or not? Increasingly it's not. From 25% of revenues, the mix of non-coal royalty related revenue could approach 50% in five years. NRP also leases construction aggregates used in things like roads and bridges, processing and transportation facilities, ports and Oil & Gas properties. And, even though NRP is exposed to U.S. coal production and prices, (royalties are based on gross revenues), NRP's coal-related royalties are down far less than their coal producing customers because NRP is much better contracted and has contracted minimum payment obligations.

As a frame of reference, on average, coal producers, (not including Alliance) are cutting volumes 10%-12% next year. NRPs attributable volumes are forecast to be up. In terms of pricing, 90% of the company's thermal coal is priced for 2013. Due to the corporate structure of MLPs, that's how Alliance and NRP have always operated, i.e with strong balance sheets and highly contracted tonnage in good times and bad.

Bottom Line

As Foolish investors consider next year's approach to the stock market, NRP could provide strong absolute and relative returns to the market. If the unit price does not move up, an investor will still earn a 12.6% yield. If the unit price rebounds by 4 points from $17.5 to $21.5, investors could pocket a 37% return. With a strong balance sheet and ample cash liquidity, NRP's distribution is safer than appearances suggest. Readers should take a look at NRP, Alliance any other energy-related MLPs in December, in case crowds pile in come January. 


MockingJay2011 owns shares of Alpha Natural Resources, Alliance Resource Partners, L.P., and Natural Resource Partners LP. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend Alliance Resource Partners, L.P.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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