DCP Midstream (DCP) is a midsize midstream company with a market capitalization of more than $3 billion. The company’s share price has increased by more than 600% since its mid-March bottom; however, the company is still nearly 70% below its pre-collapse lows. However, with a more than 10% dividend yield, the company’s share price is still heavily undervalued at this time with strong potential. How some small companies are protesting fee contracts with DCP ...

Midstream – The Business Journal

DCP Midstream 2Q 2020 Results

DCP Midstream has performed incredibly well in the 2Q 2020, despite that being the worst quarter due to COVID-19.

DCP Midstream 2Q 2020 Results – DCP Midstream Investor Presentation

DCP Midstream achieved quality results with the strong 1H adjusted EBITDA and DCF in the company’s history. The company had $220 million in DCF for the quarter, with $440 million. That shows that the company’s DCF didn’t drop at all for the 2Q 2020. More so, the company’s annual DCF annualizes at $880 million representing a DCF yield at more than 25%.

The company’s volume is already recovering and the company’s $5 billion in debt is looking very manageable with this cash flow. The company upside its note issuance throughout the collapse to $500 million of 5.625% due 2027. The company has $1.1 billion in available liquidity and being able to get 5.625% at 7 years shows that bankers believe that bankruptcy is a very low risk at this time.

As the company continues to execute on its goals, the worst quarter of the COVID-19 collapse, highlights the company is still incredibly strong.

DCP Midstream Cash Flow Change – DCP Midstream Investor Presentation

DCP Midstream earned $173 million in 2Q 2019 DCF and saw that decline by $48 million due to price changes and G&P non-price margins. The company, however, has managed to lower sustaining capital, improved margins, and cut its cost significantly. These cost reductions mean that the company actually experienced 20% YoY DCF improvements.

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DCP Midstream’s continued performance and its ability to lower costs by more than lost cash flow through the COVID-19 collapse is huge for the company.

DCP Midstream Asset Base

DCP Midstream’s continued future cash flow is supported by its asset base, which will support future shareholder rewards.

DCP Midstream Asset Base – DCP Midstream Investor Presentation

DCP Midstream has 57 thousand miles of pipelines and 39 plans with an astounding 6 billion cubic feet/day processing capacity. The company is one of the largest NGL producers and gas processors in the world with 1.8 million barrels/day of NGL pipeline capacity and 2.2 Bcf/d of natural gas pipeline capacity.

DCP Midstream, as it continues to develop this portfolio of assets, will generate enormous cash flow and strong future shareholder rewards.

DCP Midstream Financial Strength

DCP Midstream’s long-term asset base is supported by the company’s financial strength to leave additional cash for shareholder rewards.

DCP Midstream Financial Position – DCP Midstream Investor Presentation

DCP Midstream has a dramatic $1.1 billion in liquidity from its bank facility, of which it has already used $650 million from its original $1.75 billion bank facility. The company issued $500 million in senior notes and has reduced its leverage to get a 4.0x target. The company has just below an investment great credit rating, which is respectable but not spectacular.

The important thing for investors to pay close attention too, however, is the improvement in the company’s FCF. The company had $54 million in 2Q 2020 FCF and was significantly FCF positive in 2Q 2020 counting both growth capital and distributions. That means that the company can continue its >10% yield, growth, and distributions without needing to raise additional capital.

It’s also worth noting here that the company has more than 80% of its cash flow hedged. Those hedges will help support the company throughout the collapse in oil prices, even if they resume, and allow it to maintain paying the interest on its debt.

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DCP Midstream Financial Outlook

DCP Midstream’s ability to reward future shareholders also depends heavily on the company’s financial outlook.

DCP Midstream 2020 Guidance – DCP Midstream Investor Presentation

DCP Midstream has seen its adjusted EBITDA guidance for the year and DCF guidance stay right in line with where it was in February. The company’s FCF guidance post dividend and growth capital are estimated to be at a midpoint of roughly $200 million. That’s money the company can use to reduce its leverage from 4.0x to 3.8.

Alternatively, the company can use that income to increase dividends from 10% to 17%. That’s on top of the company’s growth capital investments. The company’s sensitivities remain low, and it’s worth noting that oil prices have already recovered modestly. However, at the end of the day, you have a company with strong cash flow, sustainable dividends, and continued growth.

DCP Midstream Shareholder Returns

DCP Midstream has a long history of shareholder returns and maintaining those returns despite the difficulties the company has faced related to COVID-19.

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DCP Midstream Dividend History – DCP Midstream Investor Presentation

DCP reacted to COVID-19 and the collapse in prices by cutting its dividends in half. That still left the company with double-digit dividends versus more than 20% previously. However, the company also has several hundred million in new FCF that it free up. That means the company is well positioned to continue its dividends for much longer.

For the long term, it’s worth noting the company has switched away from aggressive growth capital spending and dividends to a manageable cash flow profile. Last year, the company spent its entire DCF nearly on dividends and then borrowed the nearly $1 billion in growth capital. This year, it’s having FCF leftover that it’ll be able to use towards shareholder rewards.

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DCP Midstream Risk

However, DCP Midstream, as a company, does have a significant amount of risk worth paying close attention to. The company’s risk is less price dependent, as the company hedges and acts as a toll operator. At the same time, the company has a fairly high ability to cut costs, highlighted by its ability to increase DCF during the collapse.

However, the risk that the company faces is a long-term slowdown in production which would leave lower volumes and lower income to be earned. As prices have recovered, there’s no evidence of that yet, however, it is a risk that companies have always faced.

Conclusion

DCP Midstream has an impressive portfolio of assets and impressive cash flow. The company has dramatically overhauled its business, cutting capital spending, and cutting its dividend by 50%. However, it’s still paying double-digit dividends and it now has positive FCF that it can potentially use to reward shareholders.

Going forward, we expect the company to continue its double-digit returns. The company will continue generating strong FCF to generate its double-digit shareholder returns. The company faces some risk from a long-term decline in volumes, however, overall, the cash flow numbers make the company a top tier investment at this time.

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