Enterprise Product Partners (NYSE: EPD) is the largest US master limited partnership, with a market capitalization of $56 billion and enterprise value in excess of $70 billion. It ranks 64^th on the Fortune 500 list of the largest US companies. Enterprise has raised its distributions for 35 consecutive quarters, including a first-quarter distribution that represented a 7 percent increase from a year ago, based on results that easily surpassed high expectations.

Vice President for Investor Relations Randy Burkhalter is a 31-year energy industry veteran, including a decade at Enterprise. He graciously agreed to speak on the record on the sidelines of last week’s NAPTP conference in Stamford, Conn.    

Q: Your partnership’s track record and recent results speak for themselves. What are you worried about most?

A: Is this the ‘what keeps you up at night’ question? [Laughs] We’re doing well. It’s nice to be diversified, not to be locked into one commodity or one region. If there’s anything that gives up pause, it would be the global economy, macro issues out of our control. If the euro goes blink in the night and another country needs bailing out, what does that do to global markets, and what does that do to commodity prices?

Q: To that point, you’ve been growing faster than the domestic economy and probably faster than the global economy for decades. How long do you think you can keep that up?

A: That’s a tough question to answer. Let me answer it this way: We continue to execute on our strategy and that is one where we link our assets and we lever them, so that we’re able to have an energy value chain. So let’s take for instance, in the Rockies we process natural gas for a customer and we take the liquids off that gas that we’ll charge a fee to process, so we get some of those liquids. And the liquids we move, we charge the third party a fee to use our pipeline. The pipeline then takes that raw liquids feedstock to a fractionator and we charge a frac fee – so you get the idea of the value chain, as opposed to an isolated asset charging a fee for that asset. And we do the same thing with crude oil and natural gas. So we’re in more than one commodity, and it helps to be diversified. Because when crude prices run up like we’ve seen and natural gas is low, that’s actually good for our business because derivatives from natural gas – ethane, propane and butane – are now a more economic feedstock for ethylene crackers than the costlier crude oil derivatives  like naphtha and gas oil. If natural gas prices are low that helps our fuel costs, because the pump stations along our pipelines are mostly gas-fired.  That hurts our gas gathering business, which is tied to indexed prices. So there’s something of an offset: if you have high gas prices, our fuel costs go up but so does our gathering revenue.

Q: We at the tail end of this huge investment boom in energy infrastructure, yet your margins keep getting stronger. How is it that you’re not getting hurt by increased competition from all this money pouring into the space.

A: There’s competition out there; when you succeed at something that’s going to draw competition. Most of our new projects, and we have $7.5 billion in capital projects under construction, are primarily fee-based, as opposed to making money on commodity margins. A lot of our competitors do that, where we do fees. So when commodities are strong they’re going to make more money than we are. But we like to be consistent and to be more conservative, so that when things go bump in the night as we saw in ‘08 and ‘09 we continue to do well.  We’ve increased our cash distributions to investors every quarter for the last 35 quarters, and that includes ’08 and ’09. And we were able to do that because of the way we manage our balance sheet and the way we structure our contracts. So we have competitors, and they’re different competitors depending on where we are and what the commodity is, but if we continue to execute we’ll do well.

Q: You have the highest credit rating in the industry.

A: We’re very proud of that.

Q: Besides the feeling of pride, what do you get from having it higher than the next highest rating, and are you leaving some returns on the table by not leveraging with the cheap money?

A:  Some of our customers require letters of credit, and with a higher credit rating that’s less money that you have to put up as collateral. Also, our debt trades better, and the yields are lower, so our cost of debt is cheaper when we have to go to the markets. You see this list of projects: we finance them 50-50 with debt and equity, so the lower cost of debt capital is huge. Plus it’s a recognition by the rating agencies that our businesses are solid and we’re executing on what we say we’re going to do and they believe in our strategy – and that’s important.

Q:  Speaking of the cost of capital, this time on the equity side: your units are now yielding 4.3 percent, and the five-year average yield is at 6.6 percent. That’s obviously a product of the low interest-rate environment, and pretty obviously to a lot of people is the likelihood that rates are going to normalize higher.

A: That’s the general view.

Q: Can new investors have any assurance that when your yield rebounds it will be by way of distribution growth and not a sizeable haircut to the unit price?

A: Look, our sector trades against the 10-year Treasury, and as that rate goes up our yields will tend to go up. So we do what we can to manage that and we do that by retaining cash flow. We don’t pay it all out, meaning that we don’t stretch our balance sheet to make the distributions. And that’s what got us through ’08 and ’09, retaining all that cash flow.  We’ve retained $4.7 billion since ’09.

Q: A very healthy slice [of the $12.7 billion in distributable cash flow over that period].

A: That helps you through those lean times and that helps you when yields go up.  When yields go up that can be one of two things: either your stock price is going down or you’re increasing the payout, or both.

Q: And that’s what I was wondering: it’s probably going to be a combination of both, right?

A: Right, it’s going to be a combination of both. We’re very proud of the track record: 35 quarters in a row we’ve increased the distribution.  From 2009 to the first quarter of this year we’ve increased the distribution by a compounded annual rate of 5 percent. The way we look at retained cash flow is that this is cash that keeps us out of the equity markets and can be deployed into projects that will generate higher returns. That keeps our investors insulated from commodity prices and macro issue. If interest rates go up, yeah, I’m not going to sit here and tell you that we’re not going to take a hit; we probably will along with all the other MLPs, but we try to manage it a little differently and more conservatively. Investors who know us know that Enterprise is going to continue to retain cash and reinvest it in higher returns.

Q: What’s the biggest current bottleneck in the US energy markets, and how are you taking advantage of that?

A: The bottleneck is really in getting the crude out of [the Cushing, Oklahoma oil hub) and also the NGLs out of the Conway, Kansas hub in mid-Continent. We’re trying to provide a solution for the crude oil. Now, for Conway, that’s more Oneok (NYSE: OKE), Williams (NYSE: WMB) and other companies in that area, and you’re starting to see those spreads [between the NGLs at Conway and on the Gulf Coast] come down — actually they’ve come way down, so that was the bottleneck a year ago. Today it’s crude oil out of Cushing. You look at the spread between the WTI and Brent, and while it used to be as much as $21, it’s come down but is still $10. You would think it would come down to what the transportation cost is plus maybe some margin, which is much less than that. So what’s you’ve got there is a lack of pipeline capacity. We are building, along with Enbridge (NYSE: ENB), a new pipe to go right along the existing Seaway Pipeline; when that’s built [anticipated by the first quarter of next year –IG] it’s going to be able to move up to 450,000 barrels per day of additional crude oil, either heavy or light, from Cushing to our new ECHO terminal in Houston, which by this time next year should have 1.6 million barrels of storage capacity.  And then you have the Jones Creek terminal down in Freeport, Texas. So that crude is going to come out of Cushing go to Jones Creek, come up to ECHO and go to all the refineries in Houston and Texas City, that whole area. 

Q: There were a lot of questions on the last earnings conference call about short-term commodity arbitrage opportunities. How much income do these generate relative to the income from long-term fixed contracts?

A: Right now we’re right around 80-percent fee-based and 20 percent non-fee-based, and that’s primarily in NGLs. We have such a large portfolio of assets that we also have a large intelligence base around those assets. So when we have a contract to buy NGLs we can go out and hedge the commodity risk. The one thing I would like to point out is that we do not take speculative positions. We don’t play the market. We don’t do that. We want to make sure that our cash flow is as consistent as it can be. But we do have that intel and we do have that marketing business, and it’s done well.

Q: NGLs have been hit hard by the expansion of natural gas production…

A: Right, from all the shale plays

Q: Do you see the fundamentals changing? How soon? How much petrochemical capacity needs to be added to change the fundamentals. [The many petrochemical expansion projects will convert the cheap NGL feedstock into value-added fuels and chemicals that could be sold domestically as well as exported by tanker –IG]

A: There are a number of new ethylene crackers that have been announced, that will really start coming on in 2016, ’17, ‘18. And that capacity is needed to balance ethane. To get right down to it, it’s the ethane that’s oversupplied today and is being rejected, some 175,000 barrels of it a day. And as more natural gas is produced you’re going to have more and more ethane. There’s ways to balance that:  crackers continue to change their feed slates from heavy hydrocarbons toward the lighter end where ethane is, so that’s part of the answer. And part of the answer is that some of that ethane can be left in the gas stream, because it’s the driest of the liquids next to methane. But you need those crackers and frankly we need to at some point export ethane. Right now it’s not being done. The bottleneck there is having available tankers. Because right now there is no ethane tanker. You have LNG tankers, and tankers that can move propane and heavier, but there’s no tanker designed pressure-wise to move ethane economically. But you need those tankers and you need the export facilities and the permits that go with them — that would be the solution.

Q: Should I be worried about all this money pouring into the sector and being applied to solving the bottlenecks of today and there being a completely different set of bottlenecks in five years and some of the infrastructure getting built now no longer being economically effective given how fast things are changing with the various resource plays and feedstocks?

A: There’s definitely a lot of money being spent. I can only speak for Enterprise; you saw our project list, before a project makes that list and we announce it we have customer capacity commitments supporting that, on 10- to 20-year take-or- pay contracts [under which the customer pays regardless of the transportation volumes. –IG] That basically takes the risk out, and I know there are other partnerships out there doing the same thing.

Q: Are you concerned about tax reform and how it might apply to MLPs?

A: There’s a chance of tax reform obviously, there’s a revenue shortfall and they’re always looking for new sources. And when we’re talking to the Senate Finance Committee and Ways & Means and when we’re talking to senators on the Hill the message we continue to hit home with is that there’s a lot of infrastructure being built by this sector, it’s a success story. A lot of money being spent, a lot of taxes being paid, a lot of jobs created. And if America wants to be energy-independent part of that has to come from the midstream sector, which is primarily MLPs, to build the infrastructure needed to accomplish that, whether it be export facilities, pipelines or processing facilities. And so if you come in and you change the structure to where our cost of capital is higher than that could restrict the allocation of capital and delay the buildout.

Q: Why has your industry been so much readier to spend on new projects than others, which have instead invested heavily in share buybacks and dividends?

A: There are so many opportunities on the energy side to alleviate bottlenecks, to move additional commodities. Plus, we have one of the lowest costs of capital out there, Enterprise does, but so too does the entire MLP space relative to other sectors.