IHS: Westlake Chemical Move to Carve Out its Ethylene Assets, Leveraging Tax Advantages

As reported in IHS ChemicalWeek, Westlake Chemical  Corp. of Houston, announced plans to carve out its ethylene assets into a tax-advantaged separately traded master limited partnership (MLP), according to regulatory filings. The company, Westlake Chemical Partners LP, will own two ethylene facilities at Westlake’s Lake Charles, La. site with combined capacity of 2.7 billion lbs/year; one ethylene unit with capacity of 630 million lbs/year at Calvert City, Ky.; and a 200-mile ethylene pipeline that runs from Mont Belvieu, Texas to Westlake’s polyethylene units at Longview, Texas. The partnership will enter into a 12-year ethylene sales agreement, under which Westlake will agree to purchase 95 percent of the partnership’s ethylene production on a cost-plus basis at a fixed margin of 10 cts/lb. Assets included in the partnership had pro forma 2013 revenue of $1.2 billion and pro forma Ebitda of $367.1 million, according to regulatory filings.

Westlake would still hold a substantial majority interest in the partnership, operating as general partner and owning 90 percent of the limited partner interests after the stock offering. The timing, number of units, and price range of the offering have not been determined. Westlake Chemical Partners intends to apply for a listing of the common units on the New York Stock Exchange under the symbol “WLKP.”

The partnership says it plans to pursue organic growth opportunities, including capacity expansions. Westlake has announced plans to add 250 million lbs/year of ethylene at Lake Charles in late 2015 or early 2016. “We believe Westlake is incentivized to offer us the opportunity to purchase additional assets that it owns, including additional interests in [the partnership], although it is under no obligation to do so,” Westlake Chemical Partners said in an S-1 filing yesterday. “We may also pursue organic growth opportunities [for the partnership] as well as acquisitions from third parties, which could be effected jointly with Westlake.”

An October 2012 IRS ruling opened the path to olefins production assets in publicly traded partnerships. One advantage to partnership structures is tax treatment of earnings. Income is not taxed at the corporate level with income passed through to shareholders in the partnership. Westlake says it expects Westlake Chemical Partners to be treated as a partnership for U.S. federal income tax purposes and generally will not be liable for entity-level federal income taxes.

Barclays Capital and UBS Securities will act as the joint book-running managers for the proposed offering.

According to the company’s website, Westlake Chemical Corporation is an international manufacturer and supplier of petrochemicals, polymers and building products. The company’s range of products includes ethylene, polyethylene, styrene, propylene, caustic, VCM, PVC resin and PVC building products, including pipe and specialty components, windows, and fence.

IHS Chemical Analysis
From a supply/demand standpoint, there will be no fundamental change to the U.S. ethylene system as a result of this move by Westlake. This decision will not impact the company operationally in terms of production, but instead, is a financial restructure designed to leverage existing tax benefits. This, in turn, accomplishes some key objectives for Westlake, including  improved investment returns for its stockholders, and the flexibility to pursue additional growth opportunities, by freeing capital for investment. 

Ethylene crackers have recently been classified as a qualifying industry under Internal Revenue Service codes for MLP formation. A financial structure of this sort allows access to investors, attracted by the tremendous total return potential (i.e. return on investment via capital gains and cash distributions). Two key ways to access capital is through the retained earnings and new unit offerings to the market, which places a premium on MLP’s versus conventional company financial structures.

IHS Chemical believes this decision makes sense for Westlake and expects the formation of the Westlake Chemical Partners LP to be a “first step” into an organic and acquisition-based growth strategy.  It is also enables the Westlake Chemical Corporation’s shareholders to divest its ethylene business and reap their rewards during a window of time with excellent earnings potential due to the shale gas revolution. The positive market effect of this cash-out timing is clearly evident from the rise in stock value of around 20 percent after yesterday’s (4/29/14) announcement.