Overview of contracts
There are various types of contracts in energy MLPs that each have their own advantages and disadvantages.
Broadly speaking, transportation and storage MLPs have fixed-fee contracts, whereas MLPs that are involved in natural resource processing have a combination of fee-based and non-fee-based contracts. Fee-based and percentage of proceeds contracts are the most favorable contracts for MLPs, while margin sharing and keep whole contracts are the least favorable types of contracts.
Types of contracts
- Fee-based contract: Under this type of contract, the MLP gets a fixed fee per unit of natural gas gathering or processing. Short-term volatility of energy prices doesn’t affect the contract. If the energy prices remain low for an extended period of time then it may affect the contract.
- Percentage of proceeds: Under this type of contract, the processor receives a percentage of natural gas or NGLs as a processing fee. Under this contract, volatility in commodity prices may affect the actual cash that a processor receives when it sells its share of the natural resource.
- Margin sharing: Both the producer and processor share the value difference between natural gas and NGLs.
- Keep whole: Under this type of contract, the processor retains extracted NGLs as a processing fee and returns the value of the natural gas or processed natural gas to the producer.
Some of the MLPs that have a mix of the above contracts are Spectra Energy (SEP), Magellan Midstream (MMP), Enbridge Energy Partners (EEP), and Targa Resources (NGLS). These MLPs are part of the Global X MLP & Energy Infrastructure ETF (MLPX) and have a combined weight of 23.62% in the ETF.