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Summary Recent operating history between the two companies is incredibly similar. Long term, shares have traded in tandem. However, Suburban Propane has diverged recently. SPH seems better valued on most valuation methods. If you have to have one, choose the better value. My research on AmeriGas Partners (NYSE: APU ) took a little heat from Seeking Alpha readers. So rather than presenting just the negative case for AmeriGas, I’d like to show Suburban Propane Partners (NYSE: SPH ) as a possible, better alternative for investors looking to establish a new position in companies within this industry. Suburban Propane Partners is a distributor of propane and various refined fuels to more than a million customers throughout the United States by way of its extensive distribution network. The vast majority of the company’s sales are to residential customers who have very few alternatives for heating and cooking within their homes. While propane is generally more expensive on a BTU basis than alternatives like natural gas, it does have the advantage of being easily liquefied and transported. This characteristic makes it ideal to be sold to customers in rural areas with no alternatives other than electric heat or fuel oil. However, unlike peers like AmeriGas Partners, Suburban has diversified its operations to some degree. The company also sells fuel oil, kerosene, and diesel fuel (direct competitors of propane) in the Northeast and also sells natural gas and electricity in the deregulated New York and Pennsylvania markets. While the Propane segment constituted more than 80% of 2014 revenues ($1.6B of $1.9B), the added diversification here should let investors sleep a little bit better at night than pure-play alternatives in the sector. Operating Results Revenue is set to fall dramatically in 2015 because of cheap propane prices as propane reached a high of $3.69/gallon in February of 2014 compared to a high of $2.37/gallon in January of 2015. Investors should note that Suburban’s fiscal year ends at the end of September, so there is no risk to the above estimates due to a spike in price as we start the winter heating season. Operating income has remained stable, however, as the company passes along the costs of the underlying commodity to consumers, taking a fairly fixed margin. In periods of lower prices, like what occurred in 2015, SPH can actually achieve higher gross margins as there is little risk of consumers reducing consumption or switching to alternatives. Expected 2015 operating margins are in line with AmeriGas. From a cash flow perspective, the story here is also very similar to AmeriGas. Both businesses have very little in the way of capital expenditures, so the vast majority of distributions go to shareholders. Both companies made game-changing acquisitions in 2011/2012, resulting in larger cash flows in following years. As a refresher, AmeriGas picked up Heritage Propane and Suburban bought Inergy Propane. At face value, Suburban got a better deal, paying about 10x EBITDA while AmeriGas coughed up 11x for similar assets. Both deals were built around the same idea: larger customer base, new geographies, increased economies of scale resulting in synergies, etc. One area of concern for investors to consider when weighing Suburban Propane versus AmeriGas is the leverage involved. While Suburban has the smaller debt load, it is also a smaller company. Suburban coughed up 46% of 2014 operating income towards interest payments compared to 35% for AmeriGas. This has been a long-term trend that has likely contributed to the premium AmeriGas shares have generally commanded compared to Suburban. SPH will likely take the opportunity to refinance its 7.375% senior notes due 2020 and 2021 in a few years ($750M in face value) when there are no penalties on calling at face value if interest rates remain low for interest rate savings. If the bond market remains as it is for the next few years, the company will be able to shave 1.5% off the interest rates assuming similar terms. This will result in tens of millions in savings in annual interest expense, which could free up cash flow for debt retirement or dividend increases if management chooses to do so. Conclusion Over the past two years, SPH has diverged significantly from its larger peer, APU. They’ve largely traded at similar yields (7.44% five-year average for Suburban, 6.99% average yield for AmeriGas), but this spread has expanded noticeably over the past year. This premium has likely widened due to investors buying into the dividend growth at AmeriGas. Investors appear to be ignoring the sustainability of those increases going forward. Suburban has taken the safer route, electing to hold the dividend stable rather than increase the payout in an industry that is facing dramatic change. TTM profit and operating margins remain higher at Suburban Propane, and the company appears to be the better bargain on metrics like Enterprise Value/EBITDA. Because of this disconnect, investors can now capture over 10% yield on Suburban Propane compared to AmeriGas’ 8.3% yield. In my opinion, these two will return to historical yield spreads once the market realizes large future dividend increases are off the table for both. If this is the case, investors in Suburban Propane should enjoy higher payouts while having better preservation of their initial capital investment compared to AmeriGas if buying at current share prices. So, for investors that really do want exposure to this market segment and are wanting to start a new position, I believe Suburban Propane is the better value play here over the next five years. You would be buying into a better yield today dollar for dollar, better margins, a little added business diversification through the fuel oil/deregulated energy business segments, and be partnering with a management that has a less aggressive style. Scalper1 News
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