Western Midstream Partners, LP

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

A midstream energy company focused on gathering, processing, and transporting natural gas, crude oil, and NGLs.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview and Moat Assessment

Western Midstream Partners, LP (WES) operates in the midstream energy sector, a crucial part of the energy value chain. The company focuses on gathering, processing, and transporting natural gas, crude oil, and natural gas liquids (NGLs).

Moat Rating: 3/5

WES has a narrow moat due to a few factors:

  • Location-Based Advantages: WES operates in several key production areas, including the Delaware Basin, the Rocky Mountains, and other prominent natural gas formations. Their extensive pipeline networks in these areas create a certain level of difficulty for competitors to replicate. However, these are also shared resources and therefore other companies can provide similar services.
  • Contracted Production: A significant portion of their revenue is derived from long-term, fee-based contracts, which help to provide a stable stream of income. While the contracts offer a degree of security, they do not guarantee exclusivity over the long-term and can be subject to renegotiation at some future point.
  • Limited Competition: While some areas of operations do not face a lot of competition, this is not a guarantee across all its assets, some areas have several competitors who have easy access.
  • Scale Advantage: WES benefits from scale in some regions, but that advantage does not apply to all its assets and is limited to certain areas. In some areas WES has only a minor advantage.
  • No Moat for certain commodities: While WES deals with gas production, it also produces and transports crude oil and natural gas, and these prices can fluctuate depending on market dynamics.

However, the limited durability of some of these factors, especially in the long-term, and limited ability to control prices in commodities leads to a narrow moat.

Legitimate Risks to the Moat and Business Resilience

The risks that could damage the moat include:

  • Commodity Price Volatility: Despite the fee-based nature of many of WES’s contracts, commodity prices still indirectly affect their revenues and can have an impact on long-term growth and capital structure. This has been seen in the past with a reduction in profitability with low natural gas prices.
  • Regulatory and Legal Changes: Changes in environmental regulations, rate regulations, and other aspects of government policy can potentially increase their operating costs and reduce profitability. The latest news articles do confirm that they are very susceptible to change in regulatory policies.
  • Competition: New entrants or expansions by existing competitors could erode WES’s market share and ability to generate profits.
  • Technological Disruption: The midstream sector is not generally seen to be at a high risk for disruption; however, new technologies that improve pipeline efficiency, reduce transportation costs, or alter energy demand, could reduce the value of the company’s existing infrastructure over the long run.
  • Dependence on Key Customers: A significant amount of revenue is concentrated on certain customers, so any issues with those relationships could have a meaningful impact on profitability and long-term growth.
  • Increased Cost of Borrowing: While not a massive concern right now, interest rate increases will make future refinances or issuing new debts more expensive, reducing potential profitability.

Detailed Business and Financial Overview

Business Description

  • Operations: WES gathers natural gas, crude oil, and NGLs from production areas, treats and stabilizes these resources, and then transports them via pipeline and other assets to various distribution centers and end customers. The company operates gathering and processing systems, storage and terminal facilities, as well as other related infrastructure.
  • Geographic Operations: WES’s primary areas of operation are the Delaware Basin (New Mexico and West Texas), the Rocky Mountain region (Colorado, Utah, Wyoming), and the Northeast Pennsylvania region.
  • Customers: WES’s customers primarily consist of oil and gas producers who require transportation and processing capabilities, though some revenues come from third-party entities.
  • Revenue Streams: The primary source of revenue is gathering and processing fees, along with fees collected from transportation services. These are mostly fee-based contracts with minimum volume commitment levels. While there are prices that fluctuate, most of the prices are on a fixed rate basis.
  • Growing US Production: The US continues to be a prominent energy producer, making midstream companies an essential part of that ecosystem.
  • Demand for NGLs: Petrochemical demand continues to grow for NGLs and this should drive production in the coming years. The company does have the ability to sell to different chemical companies, creating further value.
  • Infrastructure Development: Midstream companies like WES must continue to enhance their operations and grow by adding new pipelines and processing facilities, to meet demand.

Competitive Landscape

  • Competition: The midstream industry is competitive, with several players offering similar services and vying for business. Companies such as Energy Transfer Partners, Kinder Morgan, and Enbridge are among their largest competitors, they are also facing competition from smaller companies.
  • Consolidation: The midstream industry is characterized by consolidation, with larger companies buying up smaller players and assets in the market. This can shift the competitive landscape rapidly.
  • Access to Resources: Access to high resource producing areas can give a business a large moat, such as the Delaware Basin or Powder River Basin. WES has significant operations in these areas.

Financials In-Depth

  • Revenues: Revenue comes from gathering, processing, and transporting their assets. Some revenue also comes from selling products, such as NGLs and hydrocarbons, after their production. The vast majority of the revenues have been on a fixed fee basis; this should allow for more stable cash flows.
  • Margins: The company does report a high adjusted gross margin, this suggests they are getting good pricing and being efficient with their operations. Their expenses are primarily related to labor and maintenance.
  • Cost Structure: WES’s major costs are largely comprised of operating expenses (labor, materials, maintenance, fuel, power, and utilities), transportation expenses, and taxes. As the company is mostly a fee-based midstream pipeline and processing company, operating expenses are more significant than other companies who derive most of their costs from raw materials.
  • Balance Sheet: The company has a manageable amount of debt, which makes up for a good amount of its capital structure. Debt is used to make acquisitions and increase cash flow and profitability. WES’s leverage has been declining in the past, and the company’s target debt-to-equity ratio has been within a reasonable level.
  • Cash Flow: Most of WES’s cash flow is driven by the revenue they earn and its operating efficiencies. They have used a lot of cash in acquisitions, but have not been reinvesting in the business at a large amount, which is not ideal for growth.
  • Profitability: WES reports solid profitability metrics, demonstrating they are able to take a good amount of the revenues as profits. While they have shown good operating results, they could be even better if interest rates did not increase so much. They are also exposed to some external factors, primarily commodity prices and price fluctuations.
  • Growth: WES has been mostly focused on acquiring, which has been a successful strategy. They have not focused on growing organically, but still do grow somewhat each year, in terms of throughput.
  • Recent Challenges: Western Midstream did record a loss in their latest quarterly earnings call. However, most of this was a result of a noncash charge as a result of a previous acquisition from a third party. Other than the noncash impairment, the results have been very strong.

Understandability

Understandability Rating: 3/5

The basics of the company are not too hard to understand: the company extracts, processes, and transports energy assets (oil, gas, and NGLs) and is usually paid by volume and price. However, the complexity of understanding all the financial statements and how they relate to different businesses or segments within the business is complicated. You also need to understand contracts and the differences between fee based and commodity based systems, which is not too easy for a casual investor.

Balance Sheet Health

Balance Sheet Health Rating: 4/5

The company has a very large and strong balance sheet, which shows good liquidity and solvency. They have a good amount of assets to liabilities and have no immediate large concerns. However, the level of debt on their balance sheet can make the business more vulnerable to interest rate changes and they are sensitive to this. However, their debt maturities are staggered and that reduces the immediate risk.