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ONEOK (NYSE: OKE) jumped on the midstream consolidation bandwagon today, agreeing to acquire all the outstanding units of its master limited partnership, ONEOK Partners (NYSE: OKS), that it does not own. That agreement drove up the price of ONEOK Partners' units, which had risen more than 19% by 12:15 p.m. EST.
ONEOK has offered to pay a 22.4% premium for each unit of ONEOK Partners it does not own in a unit-for-unit exchange. Under the terms of the agreement, each unit of ONEOK Partners will convert to 0.985 shares of ONEOK stock upon closing. That values the partnerships' outstanding units at $9.3 billion and will create a $30 billion company by enterprise value.
ONEOK's rationale is threefold. First, the deal will lower the combined company's cost of funding because it will eliminate the MLP's incentive distribution rights. Second, it is immediately accretive to ONEOK's distributable cash flow, enabling the company to increase its dividend by 21% in 2017. Finally, it sets a platform for growth, with ONEOK expecting to deliver 9% to 11% annual dividend increases through 2021 while maintaining 1.2 times dividend coverage.
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This transaction is just the latest in a string of deals between MLPs and their general partners. In recent years Buckeye Partners (NYSE: BPL) swallowed up its general partner while Targa Resources (NYSE: TRGP) rolled up its MLP. Even more recently Williams Companies (NYSE: WMB) agreed to a deal to acquire most of its MLP Williams Partners (NYSE: WPZ), by eliminating the incentive distribution rights in exchange for receiving additional units. Overall, the driving force behind these deals is the removal of the high-cost incentive distribution rights that required MLPs to send an outsized portion of their income to their general partners. Eliminating these payments puts all investors on the same footing, which reduces capital market costs, enabling these companies to access cheaper financing.
Given the wave of consolidation in the midstream sector, it was only a matter of time before ONEOK and ONEOK Partners announced a similar transaction; the only question was which route they would choose. In this case, they opted to keep the corporation and not the tax-advantaged MLP, because this structure will allow for faster dividend growth over the next five years. For income investors, that clear visibility surrounding dividend increases is certainly appealing.
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