NEW YORK--(BUSINESS WIRE)--Fitch Ratings believes that the proposed acquisition of Energy Transfer Partners, LP (ETP; 'BBB-'/Outlook Stable) by Sunoco Logistics Partners, LP (SXL; 'BBB'/Rating Watch Negative) is neutral to the ratings and Outlook of ETP and Energy Transfer Equity, LP (ETE; 'BB'/Outlook Stable).
SXL and ETP announced on Nov. 21, 2016 that SXL will acquire ETP in a stock for stock transaction. ETP holders will receive 1.5 units of SXL in exchange for each unit of ETP. The transaction has been approved by the boards of directors and conflicts committees of both partnerships and is expected to close in the first quarter of 2017, subject to receipt of ETP unitholder approval and other customary closing conditions.
Fitch believes the merger will be mildly positive to ETP's credit profile. The transaction will allow the combined entities to preserve cash, increase the size, scale and geographic scope of the businesses, simplify the ETE organizational structure (at least somewhat), and alleviate some of the structural subordination at ETP with regard to SXL's debt. ETP's debt is expected to be assumed by the combined entity, but management has indicated that it will not be guaranteed so some structural subordination could remain. Management believes that the combination will allow for more efficient capitalization of commercial synergies and for cost reductions across the two partnerships. Fitch generally agrees that the combination will benefit from its significant size and scale and should be able to operate assets as a single platform, which will allow for at least some of the expected cost and operational synergies.
Importantly, the combination allows for increased preservation of cash at the combined partnership, with distributions being effectively reset at SXL's levels. The combined partnership will have the ability to use excess cash for debt reduction and growth capital funding which could help decrease leverage at the combined entity more quickly than would have been possible as separate standalone partnerships.
Fitch believes that there are risks to closing as ETP unitholder approval of the transaction will be needed. Further, there remains some uncertainty around ETP's plan to de-lever should the merger not close. Management has indicated that a distribution cut could be in order to help ETP increase its financial health absent this transaction. Additionally, even with this proposed merger, there will remain four separate publicly traded entities within the ETE family and the potential for further structural simplification. The combined entities will still have incentive distribution payments which can increase the equity cost of capital and be prohibitive to growth spending. While these payments are not expected to be overly burdensome for the combined entities in the near term, Fitch believes they could provide a catalyst for further interfamily transactions.
Additional concerns include the pending sale and completion of construction on ETP's and SXL's Bakken pipeline project. The Bakken projects are currently subject to increased regulatory uncertainty and further potential delays. These uncertainties have the potential to negatively impact ETP's credit profile, particularly, if the sale of the interest in the pipeline does not get completed, though Fitch currently views this potential as remote.
Fitch views the transaction as largely neutral to ETE's credit profile in the near term. Fitch primarily assesses ETE's stand-alone (not consolidated) financial characteristics to determine the company's ability to support its fixed obligations. In particular, for financial ratio analysis, Fitch assesses the amount and quality of ETE's cash flows derived from distributions from its underlying partnership subsidiaries relative to the amount of its direct debt and interest payments at the ETE level.
In association with the transaction ETE has agreed to continue to provide incentive distribution subsidies to ETP/SXL in decreasing amounts through 2019. As a result of the transaction and these incentive distribution waivers, Fitch expects that ETE will receive a lower distribution amount from the combined entities than it otherwise would have been entitled to with SXL and ETP remaining separate for 2017 and standalone leverage will move above 4.5x. However, distribution growth at the combined entities and the decrease in incentive distribution subsidies in 2018 and 2019 could provide a significant improvement in standalone leverage metrics at ETE.
Fitch has previously communicated that a rise in ETE's leverage from temporarily forgoing distributions would not necessarily warrant a negative rating action provided the action helps maintain the underlying subsidiary's current credit ratings, and any resulting increase in ETE leverage beyond Fitch's 4.5x standalone estimate is temporary. Additionally, ETE's capital needs at its current level are limited and maturities are manageable in the near term, with no maturities on any debt until 2019, providing ETE and its underlying partnerships some time to improve credit profiles and increase distribution to ETE.
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