Top

Commodity Masters

  /  News   /  Find Safety, High Yield in These 3 Master Limited Partnerships

Find Safety, High Yield in These 3 Master Limited Partnerships

Very high dividend yields can signal that a dividend cut may be just around the corner. But Master Limited Partnerships can be a good exception to that rule. Here, we’ll discuss three high-yield master limited partnerships that offer above-average distribution yields with a wide margin of safety.

Magellan Midstream Partners: Steady Stream of Dividends 

Magellan Midstream Partners (MMP) has the longest pipeline system of refined products in the U.S. Its pipeline network is linked to nearly half of the total U.S. refining capacity. The transportation and storage of refined products generates 65% of total operating income, while the transportation and storage of crude oil generates the remaining 35% of operating income.

Most oil companies are highly vulnerable to recessions and downturns of the energy market due to the dramatic boom-and-bust cycles of this sector. Magellan is one of the most resilient oil companies thanks to its defensive business model. The company charges fees that are proportional to the volumes of products transported and stored in its network. Even better, it has minimum-volume contracts with its customers and hence it receives appreciable amounts of fees even when its customers transport lower volumes than normal. Only 9% of the operating income of Magellan is directly exposed to commodity prices.

The merits of this robust business model have been evident in every downturn of the energy sector. In 2020, all the major oil producers and refiners incurred excessive losses due to the fierce downturn caused by the coronavirus crisis. Magellan proved one of the most resilient oil companies, as its distributable cash flow per unit decreased only 18% in that year.

Moreover, Magellan enjoys strong business momentum right now. Thanks to the sanctions imposed by western countries on Russia for its invasion in Ukraine and the aggressive production cuts of OPEC, the U.S. is the only major oil producer that can make up for the lost barrels. As a result, U.S. oil production has returned close to pre-pandemic levels and is likely to keep rising in the upcoming years. This means that higher volumes of crude oil and refined products will go through the network of Magellan.

Thanks to its defensive business model, Magellan has an exceptional distribution growth record. The MLP grew its distribution for 70 consecutive quarters at a 12% average annual rate, until it froze its distribution in the second quarter of 2020 due to the pandemic. It kept its distribution constant for seven consecutive quarters and resumed raising it in late 2021 thanks to the recovery of the energy sector. Overall, Magellan has raised its distribution for 20 consecutive years, at a 10% average annual rate.

As this period includes the Great Recession, the collapse of the oil price in 2015-2016 and the pandemic, the distribution growth record of Magellan is a testament to the resilience of its business model. Investors will be hard-pressed to pinpoint a more resilient oil company.

Moreover, Magellan is currently offering an 8.1% distribution yield. Given its decent distribution coverage ratio of 1.2, its robust business model and its healthy balance sheet, investors should rest assured that the distribution is safe. On the other hand, due to a lackluster pipeline of growth projects, it is prudent not to expect significant distribution growth going forward. Nevertheless, the exceptional yield of the stock and its reliable business performance offer an attractive combination.

Get Extra Income From MPLX 

MPLX (MPLX) is a diversified MLP, which was formed by Marathon Petroleum in 2012. It operates in two segments: logistics and storage, which involves the transportation and storage of crude oil and refined products, and gathering & processing, which is related to natural gas and natural gas liquids. Logistics and Storage generates approximately 65% of the total earnings before interest, taxes, depreciation, and amortization of MPLX.

The business model of MPLX is very similar to that of Magellan. MPLX has a fee-based model, which is based on charging fees for the volumes of products transported and stored throughout the network of the MLP. Just like Magellan, MPLX has signed minimum-volume contracts with its customers and thus it enjoys reliable cash flows even during adverse periods, in which its customers transport much lower volumes than usual.

Thanks to its robust business model, MPLX saw its distributable cash flow per unit slip only 9% in 2020. Even better, the MLP has fully recovered from the pandemic, with its distributable cash flow at new all-time highs.

A key competitive advantage of MPLX is provided by the multi-year contracts it has signed with its parent company, Marathon Petroleum. Thanks to these contracts, MPLX has a strong position in the Marcellus / Utica region and enjoys reliable cash flows.

MPLX currently enjoys strong business momentum thanks to the aforementioned tailwinds from the sanctions imposed on Russia and the deep production cuts of OPEC, which have led the U.S. to grow its production at a fast pace.

MPLX has never cut its distribution throughout its 10-year history. The stock is currently offering an exceptionally high distribution yield of 9.4%, which may lead some investors to think that a distribution cut is just around the corner. However, the MLP has a strong distribution coverage ratio of 1.6 and a healthy leverage ratio (Net Debt to EBITDA) of 3.5. Given also its resilient business model, investors can rest assured that the distribution is safe for the foreseeable future.

Partner With Enterprise Products Partners

Just like Magellan and MPLX, Enterprise Products Partners (EPD) is a midstream MLP, with a vast network of pipelines and storage tanks. The difference is that Enterprise Products Partners is focused primarily on natural gas. Its network includes nearly 50,000 miles of pipelines of natural gas, natural gas liquids, crude oil and refined products. It also has storage capacity of more than 250 million barrels.

Enterprise Products Partners has a very similar business model with that of Magellan and MPLX. It charges fees that are proportional to the volumes transported and stored throughout its network and has minimum-volume requirements in order to receive reliable cash flows even under the most adverse business conditions. The merits of this business model were in full display in 2020, when the MLP posted a benign 15% in its distributable cash flow per unit.

Enterprise Products Partners has raised its distribution — in Canadian dollars — for 24 consecutive years and is currently offering a 7.7% distribution yield. It also has a solid payout ratio of 55% and one of the strongest balance sheets in the MLP universe, with a BBB+ credit rating from S&P and a Baa1 rating from Moody’s. Thanks to its solid payout ratio, its financial strength and its defensive business model, the MLP is likely to continue raising its distribution for many more years.

The only caveat is the low growth rate of the MLP, which has grown its distributable cash flow per unit at a 2.5% average annual rate over the last decade. It is also facing a headwind from the ongoing shift of most countries from fossil fuels to renewable energy sources. But due to the increasing consumption of energy, this shift is likely to take much longer than initially expected to materialize. Moreover, natural gas is considered much cleaner than oil products and hence environmental policies do not aim to reduce the use of natural gas. This is certainly positive for Enterprise Products Partners, which is much more focused on natural gas. Overall, the MLP offers an above-average distribution yield of 7.7% with a wide margin of safety.

Post a Comment