In May, Senator Chris Coons (D-DE) and
The implications of the proposed legislation for the renewable energy industry has been the subject of considerable speculation. In general, the speculation has fallen into one of two camps: boosters and skeptics.
The MLP boosters believe that passage of the legislation would likely be a game-changer for the renewable energy industry, attracting additional capital to the sector and enhancing the sector’s access to equity, which is typically reserved for corporations.
By contrast, the MLP skeptics say that the proposed legislation would have at most a modest impact on investments in renewable energy. More specifically, the skeptics claim that renewable energy is poorly suited for the MLP structure compared to fossil fuels. In a recent post at Investing Daily, Robert Rapier explained the skeptic’s logic like so:
The main reason so many MLPs have been successful is their concentration on energy infrastructure, a booming industry with a long history of strong profitability. This has attracted conservative investors, and MLP tax rules have given them an incentive to stick around for the long run . . . Most renewable energy investments are in a very different business. The vast majority of renewable energy companies exist as a result of mandates at the federal or state level. I don’t mean to suggest that we shouldn’t support renewable energy, merely to note that if certain tax credits and mandates were eliminated, the industry would be decimated because for the most part it isn’t competitive with fossil fuels. Pipeline MLPs have a steady source of income from which to pay distributions . . . The fact is that unless they can come up with long-term supply agreements that will see them through even if government support disappears, renewable energy MLPs could prove very risky investments.
Rapier makes a compelling point. MLPs have typically been used to finance proven technologies with predictable cash flows and limited exposure to commodity risk. These specific attributes are commonly cited as the reason why MLPs have been so successful in the midstream energy sector, which are de facto “toll collectors” charging other energy companies fees for transporting and storing oil and gas. Energy technologies that have not yet been deployed at scale may not be well suited to take advantage of the MLP structure.
In my view, both the boosters and the skeptics miss the mark on what the MLP Parity Act may mean for the energy industry. The proposed legislation would significantly alter the structure of the fledgling distributed energy industry.
An MLP is typically a limited liability company (LLC) treated as a partnership for taxation purposes and traded on a public exchange. As a partnership, an MLP is a pass-though entity. In other words, MLPs pass 100% of their taxable income through to their investors who pay income taxes. Unlike corporations, MLPs do not pay federal income taxes. Instead, investors are treated for tax purposes as if they directly earned the MLP’s income. By avoiding double taxation, MLPs have access to lower cost of capital, which allows them to build and operate low-return assets to provide a sufficient rate of return to attract investors.
Currently, there are more than 100 MLPs trading on major exchanges with a total market capital of about $400 billion. The majority of these MLPs are in midstream oil and gas businesses, including Enbridge Energy Partners and Kinder Morgan KMI -1.67% Energy Partners. Since 2007, midstream MLPs have invested $113 billion in private capital in energy infrastructure, according to the National Association of Publicly Traded Partnerships. A smaller but still significant share of MLPs, like Constellation Energy CEG NaN% Partners, are focused on upstream oil and gas activities.
In recent years, MLPs have moved into “downstream” activities, including fuel distribution and marketing.
In particular, several wholesale fuel distributors have launched publicly traded partnerships, including Susser Holdings, Lehigh Gas Partners and Sprague Resources.
Downstream is ultimately where the most disruptive change may take place if Congress passes the MLP Parity Act by allowing variable-distribution MLPs with access to lower-cost capital to roll up local energy integrators and solutions providers.
For all practical purposes, MLPs may accelerate the emergence of unregulated entities of scale capable of competing with regulated utilities.