If all you consider is yield, then Energy Transfer (NYSE: ET) and its roughly 8% distribution yield will handily beat out Enterprise Products Partners (NYSE: EPD) and its 7.3% yield. But there’s so much more to an investment than just yield, and in this situation, most income investors will probably feel much better owning the lower-yielding option. Here’s why.
Similar, at least from a big-picture perspective
Energy Transfer and Enterprise Products Partners both play in the midstream segment of the energy sector. That means they own the pipelines, storage, transportation, and processing assets that help to connect the upstream (energy producers) to the downstream (refining and chemicals), effectively helping to move oil and natural gas around the world. The key to the midstream business is that it is largely fee-based, so volatile energy prices are less important than demand for energy. Energy demand tends to remain robust regardless of energy prices.
Thus, both Energy Transfer and Enterprise Products Partners have fairly robust cash flows to support their very large distributions. For example, in 2023 Energy Transfer’s distributable cash flow covered distributions by a hefty 1.9 times. That figure for Enterprise Products Partners was a still strong 1.7 times. From this perspective, income-focused investors could probably view both of these high-yielders as interchangeable.
A little history that changes the story
Investors looking at these two master limited partnerships (MLPs), however, need to dig a little deeper. Tackling the easy story first, Enterprise Products Partners has increased its distribution annually for 25 consecutive years. That’s an impressive feat given the inherent volatility of the energy sector. And it includes an increase in 2020 when U.S. oil prices actually fell below zero at one point in time. That’s important because Energy Transfer can’t make the same claim.
In the third quarter of 2020, Energy Transfer reduced its quarterly distribution from $1.22 per unit to just $0.61 per unit. That’s a 50% haircut when times got tough. It was a conservative decision made in a highly uncertain time, given that the world was facing massive economic shutdowns in 2020 in an attempt to slow the spread of a global pandemic. But that doesn’t change the fact that Energy Transfer cut its distribution and Enterprise didn’t. If you are trying to live off the income your portfolio generates, Enterprise’s slightly lower yield probably looks a lot more appealing right about now.
But there’s more. In 2015 Energy Transfer agreed to buy peer Williams Companies. It got cold feet and wanted out of the deal, but Williams felt the deal should go through as planned. Energy Transfer warned that consummating the deal could result in a distribution cut, the need to take on massive leverage, or both. In its efforts to get out of the agreement, it issued convertible securities, a large percentage of which went to the then-CEO Kelcy Warren (who’s still the largest shareholder and the Executive Chairman). It’s complicated, but the convertibles would have effectively protected the CEO from a distribution cut if the deal had gone through. From an investor perspective, it appears the company put the CEO ahead of unitholders. That’s a second black mark that should worry investors looking at Energy Transfer today.
Back on track, but probably not worth buying
Energy Transfer’s distribution is growing again, which is good news. But for investors who are relying on the income they collect from their portfolios, the negatives here are pretty big. Energy Transfer cut its distribution right when many people most needed reliable income streams. And it potentially put its CEO’s needs above those of its unitholders when it was faced with a difficult business situation. If you are looking for income, Enterprise’s slightly lower yield is likely to be a better choice for you.
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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool recommends Enterprise Products Partners. The Motley Fool has a disclosure policy.
Forget Energy Transfer; Buy This Magnificent High-Yield Stock Instead was originally published by The Motley Fool
Source: finance.yahoo.com