I believe Linn Energy, LLC (LINE) should be a core holding for dividend stock investors. The company has proven its ability to constantly pay out dividends since May 2006. Linn Energy develops mature oil wells, and acquires long life natural gas wells. The strategy is to produce a stable dividend through organic well development, acquisitions of new oil and natural gas assets, and hedge the production cost. These three elements will provide assurance of a stable and growing dividend to share holders.
2012 Management Guidance
Linn Energy, on December 19th, provided excellent news to dividend investors. As the below graph exhibits, the company has 100% of oil and natural gas hedged through 2013. In effect, management has ensured oil production will receive $97 per Bbl (i.e., one stock tank barrel or 42 United States gallons liquid volume) and natural gas production will receive at least $5.45 per Mcf (i.e., one thousand cubic feet).
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Current Dividend Yield
Linn Energy currently pays an annual $2.76 dividend yield. Based upon December 30th's closing price of $37.91, the yield is 7.30%. A 7.30% annual yield needs to be placed in context of conservative alternatives. A 30 year Treasury Bond, guaranteed by the U.S. Federal Government, offers 2.89% as of December 30th. An investor can obtain a 4.41% higher yield than the longest duration Treasury Bond.
The below table highlights Linn Energy's success in growing the annual dividend. The dividend has been increased twice in the past 15 months. Income investors want dividend growth. This is the name of the game. Brass tacks is what it is about. We want to make money to pay for bills and to invest in new conservative stock ideas.
Linn Energy's commitment to grow the dividend adds for potential yield on cost for share holders. This is a good thing. Now if we re invest dividends into new shares, then we need to double check our figures for cost basis and yield on cost.
Organic Projects for Dividend Growth
Linn Energy's organic projects are oil, gas, and natural gas liquids (NGL) properties in the Mid-Continent region, the Permian Basin, Michigan, and California.
Linn Energy has dedicated-- in terms of its 2012 capital program-- 23% to the Permian Basin to drill or participate in almost 100 wells, 6% to the Bakken and 6% to the Cleveland play. The balance of the capital program will primarily focus on work over, re completion, and prioritization of asset production projects.
Acquisition Projects for Dividend Growth
The company expects to drill or participate in approximately 340 wells in 2012. Approximately 53% percent of its capital program will be allocated to the Granite Wash to drill or participate in 75 horizontal wells, 23% to the Permian Basin to drill or participate in almost 100 wells, 6% to the Bakken and 6% to the Cleveland play. The balance of the capital program will primarily focus on work over, re completion, optimization and facilities projects.
The company expects to drill or participate in approximately 340 wells in 2012. Approximately 53% percent of its capital program will be allocated to the Granite Wash to drill or participate in 75 horizontal wells.
The dividend's growth and stability is based upon oil and natural gas hedging. Secondly, the development of new projects is central to the company's long term success.
All of the company's natural gas production is hedged thru 2015. 80% of the oil production is hedged through 2015.
A hedge has two swords. One is that it ensures revenues are available to pay out anticipated dividends for conservative investors as myself and third parties aligned with me. I personally have two goals: 1) third parties and myself earn positive absolute returns in relationship to risk versus reward; and 2) to not lose our core net asset value.
The negative side of hedging is if oil or natural gas prices spike, then the gains are limited to the hedged prices. I can live with this restriction.
The capital structure includes approximately 45% in long term debt. There are 176 million shares outstanding. The company will acquire new assets via new share issuance and debt offerings.
Linn Energy's key risk is identifying new oil and gas properties to development. This is what makes Linn Energy an Energy and Production (E&P) partnership. This distinctly varies from a midstream partnership. Enterprise Products Partners LP (EPD) is an example of a midstream partnership.
Enterprise Products Partners' business strategy is not reliant upon hydrocarbon prices or discovery of new oil wells. Enterprise Products Partners' business model is equivalent to a toll bridge. The services include natural gas transportation, gathering, processing, crude oil and refined products storage and storage. When a third party wants to utilize Enterprise Products Partners' services, a fee is paid. This business model has less risk in finding new hydrocarbon assets to develop.
Linn Energy's Historical Performance
The company's stock has clearly out performed the S&P500 over the past 3 years. The investor can identify the significant dividend payout per year. The below results indicate Linn Energy beat the S&P500 by a 29.1% total annualized rate of return over the past 3 years. The below table assumes dividends are not reinvested into Linn Energy.
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I believe a 7.3% yield is very attractive in today's low interest rate environment. The company's oil and natural gas are hedged to ensure the next 1-2 years provide adequate free cash flow for dividend payouts.
I recommend purchasing shares at $38 or below. My personal plan is to add new shares from dividend payouts. If a $30 - $32 entry price presents itself, then I will buy shares to take advantage of the price dislocation. This assumes the sell off to $30 - $32 is based upon a weak market and not a fundamental problem at the company.