Summary:
- Generally, midstream companies are forecasting modest EBITDA growth in 2023 consistent with the stability of fee-based businesses.
- Some companies have provided positive long-term outlooks for EBITDA growth, which add important context to the strong dividend trends in midstream.
- With lower commodity prices, cost inflation weighing on producers, and a negative rate of change for most financial metrics for producers, investors should likely be more selective in their energy allocation for 2023, and midstream may merit a second look.
Energy infrastructure is differentiated from other energy subsectors by a few key characteristics, including its fee-based business model. This drives more stable cash flows regardless of commodity price fluctuations, and these cash flows support generous payouts to investors. Building on last week’s note on positive dividend trends, today’s note looks at financial guidance from select midstream companies. Expectations for 2023 and beyond add important context to the dividend growth from these companies. Additionally, steady-to-growing EBITDA can be a tailwind for midstream in 2023 in contrast with other energy subsectors that are expected to see their earnings decline. Keep reading to learn more about company-level outlooks and why midstream may outperform a broad energy allocation in 2023.
Most midstream company guidance points to modest growth.
Generally, midstream companies are forecasting modest EBITDA growth in 2023 consistent with the stability of fee-based businesses. The table below shows 2023 EBITDA guidance for select constituents of the Alerian MLP Infrastructure Index (AMZI) and the Alerian Midstream Energy Index (AMNA). Most names are expecting growth of 2-5% for this year, with a few forecasting EBITDA to be flat or decline modestly. Targa Resources (TRGP) stands out for its 24.1% EBITDA growth, but that also reflects recent acquisitions (read more). An exception to the modest growth trend is Cheniere (LNG), which benefitted significantly from elevated LNG prices in 2022. Cheniere expects 2023 EBITDA of $8 – $8.5 billion, which would represent a 28.9% year-over-year decline at the midpoint.
As energy infrastructure cash flows have a high level of predictability, some companies have provided constructive multi-year outlooks. For example, Williams (WMB) expects 2.8% EBITDA growth this year but forecasts long-term adjusted EBITDA growth of 5-7% with a healthy uptick anticipated for 2025. Earlier this month, DT Midstream (DTM) raised its 2023 adjusted EBITDA guidance range to $880 to $920 million, implying 8.4% growth at the midpoint, and provided an early EBITDA estimate for 2024 of $920 to $970 million (5% growth using the midpoints). Alongside this guidance, DTM announced an 8% dividend increase for its April payout. TC Energy (TRP CN) expects EBITDA to increase at a 6% compound annual growth rate from 2022 to 2026 and expects 3-5% annual dividend growth. Hess Midstream (HESM) forecasts EBITDA growth of at least 10% per year in each of 2024 and 2025 and has an annual distribution growth target of 5% through 2025. Positive long-term outlooks for EBITDA growth add important context to strong dividend trends (read more).
The potential for year-over-year EBITDA growth sets midstream apart from other energy subsectors.
Midstream is unique among energy subsectors in providing financial guidance for the current year or next few years. Financial results for many energy companies depend on commodity prices. Because unpredictable commodity prices dictate their earnings, these companies generally cannot give EBITDA guidance. Who could have predicted in early 2022 that the integrated majors (like Exxon, Chevron), producers, and refiners would have a record-setting year? When commodity prices are moving in the right direction, these companies can make a lot of money, but they make less if commodity prices are not as favorable. Because 2022 was so strong, these energy companies are largely expected to see their earnings fall this year (read more). A decline in earnings from a high watermark is not particularly worrisome, especially as energy companies broadly focus on free cash flow and shareholder returns. However, investors may need to be more selective with their energy allocation this year than in 2022, and EBITDA growth can be a tailwind for midstream relative to other energy subsectors.
Investors likely need to be more selective with their energy allocation in 2023.
In 2022, the Energy Select Sector Index (IXE) gained over 60% on a total-return basis as its largest components, Exxon (XOM) and Chevron (CVX) also saw very strong performance as shown below. Investors that simply bought XOM, CVX, or the Energy Select Sector SPDR Fund (XLE), which tracks the IXE, did exceptionally well last year, but it is unlikely that eyepopping performance repeats in 2023. With lower commodity prices, cost inflation weighing on producers, and a negative rate of change for most financial metrics for producers (declining earnings, free cash flow, etc.), investors should likely be more selective in their energy allocation for 2023.
Meanwhile, energy infrastructure had a solid year in 2022 but its gains were less than half that of the IXE as shown. So far this year, energy infrastructure, particularly MLPs, are outperforming broader energy likely helped by constructive outlooks for 2023 and solid dividend announcements (read more). Dividend growth is enhancing already generous yields, with the AMZI and AMNA yielding 7.5% and 6.2% as of February 22, 2023. For investors looking for income or wanting energy exposure with less downside risk related to commodity prices, energy infrastructure arguably deserves a second look. Expectations for modest EBITDA growth can add confidence to the income opportunity and long-term outlooks for these businesses.
AMZI is the underlying index for the Alerian MLP ETF (AMLP) and the ETRACS Alerian MLP Infrastructure Index ETN Series B (MLPB). AMNA is the underlying index for the ETRACS Alerian Midstream Energy Index ETN (AMNA).
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