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There has been a lot of talk on Wall Street lately about how master limited partnerships were a fad investment that have had their day in the sun. But just like every Wall Street investment du jour, there are always great companies within them that are worthy of your investment dollars even after the investment coach turns back into a pumpkin. Two companies that stand out as decent master limited partnership investments despite Wall Street's souring on the category are Spectra Energy Partners (SEP) and Magellan Midstream Partners (MMP).
One is slated for explosive growth over the next several years, while the other has proven to be a source of modest growth and steady dividend checks for close to 20 years. Which one is the better buy today? We asked two of our contributors to explain why they think each of these stocks is worth your consideration.
Tyler Crowe: I'll concede that on paper Spectra Energy looks like a strong investment compared to Magellan Midstream Partners. It does boast a higher distribution yield, and the growth plans it has laid out over the next five years are indeed impressive. One thing that keeps drawing me back to Magellan over so many other master limited partnerships is how Magellan's management has grown the business without all of the financial wizardry that so many other master limited partnerships have relied upon.
Building major energy infrastructure projects is an incredibly capital-intensive endeavor, and over the past several years, many master limited partnerships have inhaled new capital faster than Cookie Monster with low blood sugar. They have consistently relied on raising capital through the debt and equity markets. So while they have all touted these massive increases in distributable cash flow and EBITDA, most have had to spread that out among an ever-diluted share count.
Magellan, on the other hand, has taken a different approach. Rather than grow for growth's sake, the company has taken a more measured approach and has avoided taking on high debt levels, instead using cash generated from operations to fund a decent chunk of its capital spending. All it takes is one look at the changes in total shares outstanding and net debt for both Spectra Energy Partners and Magellan over the past 10 years to see the effects of this strategy.
SEP Average Diluted Shares Outstanding (Quarterly) data by YCharts.
It should be no surprise, then, to see that maintaining a slow and steady growth while minimizing shareholder dilution has led to better overall returns over the past decade.
SEP Total Return Price data by YCharts.
So yeah, Magellan's current portfolio of growth projects looks modest compared to just about every other major midstream company out there today. But management has shown repeatedly that it can do more for each share with less investment. In my book, that makes Magellan a better buy almost any day of the week.
Matt DiLallo: An investment in Spectra Energy Partners is clearly a bet on its future growth. With $6 billion in projects under construction, this is a company that is investing heavily to capture new opportunities. That said, it is not pursuing growth for the sake of growth, but instead is taking a very prudent approach by focusing on demand-driven growth that is backed by solid fee-based contracts.
Roughly 80% of the projects in the company's backlog are demand-pull projects, which connect energy supplies to end-users. Nearly all of these projects are natural gas pipeline projects secured by long-term contracts with customers that have strong credit profiles. This approach mitigates much of the company's risk, enabling it to deliver sustainable distribution growth.
Spectra Energy Partners is also taking a very conservative approach to funding these projects. Like Magellan Midstream, Spectra retains more distributable cash flow than the average MLP. While most of the sector tries to maintain a 1.0 times distribution coverage ratio, Spectra projects its coverage ratio will average 1.2 times in each of the next three years. That provides it with some excess cash flow, which it reinvests into its growth projects. Furthermore, the company is backed by a solid credit profile, boasting an investment-grade credit rating and good credit metrics. Its debt-to-EBITDA ratio, for example, ended last year at 3.6 times, which was below its 4.0 times target and well below its maximum 5.0 times debt covenant ratio. That leaves it with plenty of borrowing capacity to fund its growth pipeline.
Spectra Energy Partners offers the best of both worlds. Not only does it have a visibly robust growth pipeline, but it is financing that growth in a very conservative manner. That gives it the edge in my book.
