Natural gas processor and distributor MarkWest Energy Partners L.P. (MWE - Analyst Report) reported mixed first quarter earnings, reflecting strong contributions from regional segments, partially offset by steeper operating costs.

The partnership’s profit per unit – excluding mark-to-market derivative loss and compensation expense – came in at 57 cents, in line with the Zacks Consensus Estimate.

Colorado-based MarkWest’s adjusted earnings per unit showed a significant improvement over the year-earlier figure of 9 cents per share. The outperformance was on account of the partnership’s impressive exposure to the Marcellus Shale play in western Pennsylvania and West Virginia.

Revenue (excluding hedging impact) of $350.5 million was up 33.2% from the first quarter 2011 level. However, the result failed to meet our projection of $423.0 million.

Total operating expenses for the quarter increased 7.4% year over year to $299.0 million.

Quarterly Cash Distribution

Prior to the earnings release, MarkWest raised its first quarter 2012 cash distribution by 4.0% sequentially and 17.9% year over year to 79 cents per unit ($3.16 per unit annualized). The partnership’s new distribution will be paid on May 14 to unitholders of record as of May 7, 2012.

Distributable Cash Flow

During the quarter, MarkWest generated distributable cash flow (DCF) – an indicator of cash paid for distribution to unitholders – of $109.2 million, up from $76.1 million in the prior-year quarter, providing 1.35x distribution coverage.

Business Units Performance

Southwest: With regard to business units, the Southwest segment’s operating income increased 11.4% from the year-ago level to $86.1 million, mainly reflecting higher volumes at Western Oklahoma and Southeast Oklahoma.

Northeast: MarkWest’s Northeast segment’s operating profit of $54.9 million rose 20.4% from last year’s income of $45.6 million, buoyed by higher natural gas processed. The quarterly results were also positively impacted by a 16.7% increase in total natural gas liquids (NGL) product sales.

GulfCoast: Operating income from the Gulf Coast segment was up 14.1% year over year at $14.6 million. This improvement was mainly on account of increased volumes of gas processed and liquids fractionated. NGL sales volume also hiked 22.8% from the first quarter of 2011.

Liberty: MarkWest’s newest segment, Liberty (the partnership’s Marcellus Shale joint venture), reported a profit of $38.7 million (up from $12.8 million achieved in the year-earlier period). Improved natural gas volumes, gathering system throughputs and NGL sales – all added up to deliver a decent quarter.

Capital Expenditure & Balance Sheet

During the quarter, MarkWest spent approximately $248.0 million on growth capital projects, up $136.9 million from the year-ago period. As of March 31, 2012, the partnership had total debt of approximately $1.8 billion, representing a debt-to-capitalization ratio of about 49.0%.

Guidance

Looking forward, management guided toward a DCF of approximately $440–$500 million for 2012, contingent upon the buyout of The Energy & Minerals Group’s 49% interest in the Marcellus Shale joint venture project, Liberty.

MarkWest’s capital plan for the year includes approximately $1.1 billion to $1.5 billion of capital expenditures for growth projects along with $20 million for maintenance capital.

Recommendation

We continue to like MarkWest for its high-quality and diverse portfolio of midstream assets, as well as its proven track record of supporting producers in the growth of shale plays and the steady improvement in its liquidity/cash flow position.

However, due to the volatile nature of the natural gas processing business, we do not see any significant price upside for MarkWest units in the next few quarters. We expect the partnership to grow at a somewhat more conservative and sustainable pace.

We are also maintaining our long-term Neutral recommendation on the MarkWest, which competes with other firms such as Magellan Midstream Partners L.P. (MMP - Analyst Report) and El Paso Pipeline Partners L.P. (EPB - Snapshot Report).