Master Limited Partnerships (MLPs) operate oil and gas transportation and storage assets. Basically, they operate pipelines that transport oil or natural gas and provide very stable income.
They are publicly traded limited partnerships, while achieving the same tax advantages of a limited partnership and at the same time having the liquidity of a publicly traded security. Operators of MLPs are required to make distributions to the shareholders and therefore generally carry high dividend yields. Outlined below are five that have peaked our interest.
Enbridge Energy Partners LP (EEP) Yield: 7.40%
Enbridge Energy Partners offers the highest yield among the MLPs. Enbridge has increased its distribution by 15.5% since 2007 and management expects 2% to 5% distribution growth going forward. Management has historically delivered on its projections and we have no reason to assume otherwise.
Enbridge has also positioned itself to take advantage of the explosive growth in the Bakken shale region, which is also one of the fastest growing shale plays in the U.S. (see the Bakken's best bets). The company has been expanding its pipelines in the region and also has built a railroad to ship oil to the east and west coasts.
One item holding the stock back is cleanup costs related to an oil spill in Michigan three years ago. Total cleanup costs are now expected to increase by $175 million to $820 million. This is above the company's insurance coverage, but the company can easily cover the extra costs and it won't affect the distribution.
Energy Transfer Partners LP (ETP) Yield: 7.20%
The second-highest yielding MLP among the group is Energy Transfer Partners. The company is trading near its 52-week high of $51 as investors have reacted positively to the company's restructuring.
Energy Transfer Partners and its sister company Energy Transfer Equity acquired pipeline assets and Sunoco fueling stations from Southern Union. Those assets were put into a holding company 60% owned by Energy Transfer Equity and 40% owned by Energy Transfer Partners. These assets will now be wholly owned by Energy Transfer Partners.
The value of the company has also increased as Energy Transfer Partners divests non-core assets. Recently the company sold three non-core assets for a total of $2.5 billion. Eventually the company will likely sell its Sunoco fueling stations as management looks to further simplify the business model and create further value for shareholders.
Kinder Morgan Energy Partners, L.P. (KMP) Yield: 5.90%
Kinder Morgan is one of the largest companies in the MLP space with a market cap of over $33 billion. The founder of Kinder Morgan is Richard Kinder and is known as the number one operator in the MLP space. He has made a series of strategic acquisitions to make Kinder Morgan the market leader in many of its core businesses. Kinder Morgan was one of the first companies to see the natural gas boom that was developing in the United States.
The company spent $23 billion to purchase El Paso Pipeline Partners to create the largest transporter of natural gas in the United States. More natural gas produced in the US equals more demand for pipeline capacity. Last quarter Kinder Morgan increased its quarterly distribution by 11% to $1.29 a share. Distributions have increased 46 times since February 1997. The company is currently trading near its 52-week high. I would advise investors to wait for a pullback before buying (see why Kinder is a great play on the shale boom).
Enterprise Product Partners, L.P. (EPD) Yield: 4.50%
Enterprise Product Partners, like Kinder Morgan, continues to make new 52-week highs. Enterprise has a market cap of over $53 billion, larger than Kinder Morgan's. The company owns and operates thousands of miles of pipelines and has been an aggressive buyer in the past. Over the past 3 years revenue and earnings growth for Enterprise has been better than most MLPs. The company's stable distribution growth has been one of the main reasons shares keep climbing. With the uncertainty out of Europe, there is a flight to quality as investors look for predictable revenue and earnings growth in stable businesses. Enterprise should also be able to capitalize on the Pennsylvania shale gas boom going forward (see three also well positioned).
Plains All American Pipeline, L.P. (PAA) Yield: 4.00%
Plains is another MLP hitting new 52-week highs. Plains just increased its first quarter distribution by 10% compared to last year. Like other MLPs, Plains is investing organically and in acquisitions. Last year alone the company invested $3.5 billion into existing projects and acquisitions (read more about Plains).
Plains has increased its distribution every year since 2001, at an average compounded annual growth rate of 7%. Meanwhile the company is looking to increase its dividend by 10% in 2013 alone. Its 4% dividend yield is the lowest of the five MLPs listed, but the company averages a 75% payout of cash flow in the form of distributions, while using the remaining cash to make strategic acquisitions.
Outlook For MLPs
It's important for investors in MLPs to understand that MLPs derive their revenues from the volume of product transported and not on the price of crude oil or natural gas. As long as the demand for petroleum products continues, earnings and distributions for MLPs will continue. The business model for each MLP is basically the same and they are all very similar to one another as MLPs rarely duplicate another's routes.
Shares of MLPs are called units and dividends are called distributions. MLPs have a high yield because they don't pay corporate income taxes. Instead that income is paid out to the unit holders. It's important for investors in MLPs to understand that most of their distributions are classified as return of investment instead of income. Most investors should consult a tax advisor before choosing to invest in an MLP. Furthermore, any changes to the tax code will adversely affect MLP unit holders.
For a sophisticated investor seeking income, there's probably no better way than through MLPs. They have outperformed the S&P 500 Index for the past several years. All of the above are solid MLPs and they're all very similar in their business models.