Can These High-Yield Energy Stocks Grow Their Distributions?

Oil and gas MLPs are a great way for income investors to profit from America's historic energy boom. This article highlights three high-yielding upstream energy companies that have struggled to grow distributions lately in an effort to answer the question of whether investors should continue owning them.

Jul 22, 2014 at 9:41AM

America's energy boom is reaching epic proportions. Consider the following:

  • The US just became the world's no. 1 oil producer, with record-breaking oil production of 11 million barrels/day (bpd).
  • North Dakota recently achieved 1 million bpd after growing its oil production 31% annually over the last seven years.
  • The Permian Basin is estimated to hold 75 billion barrels of recoverable oil (an estimate that is up 50% in the last year), making it the single largest oil deposit on earth.
Investors have been gravitating toward upstream oil and gas MLPs to profit from this historic megatrend, and for good reason. Numerous studies show that high-yielding companies that grow their dividends/distributions over time and have low volatility make the best long-term investments. 
With an average yield of 9.63%, a projected industry distribution growth rate of 9.4%, and volatility that is 26% less than the S&P 500, upstream MLPs look to be a promising industry for long-term income investors. 
What happens when a vital component of that magic formula is potentially lost, though? This article looks at three upstream energy companies, QR Energy (NYSE: QRE), Linn Energy (NASDAQ:LINE), and its non-partnership alternative Linn Co (NASDAQ:LNCO), that have recently faced difficulty growing their distributions. My goal is to help long-term income investors determine whether or not these investments still deserve a place in your portfolio.
Troubled yield?
MLP Yield 10 year Projected Annual Distribution Growth Rate 12 Month Coverage Ratio Price/Standardized Measure Beta 10 Year Projected Annual Total Return
QR Energy 10.7% 2.01% 1.03 .61 0.65 12.71
Linn Energy 9.30% 1.27% 1.02 .88 0.66 10.57
Industry Average 9.63% 9.40% 1.05   0.74 19.03%
S&P 500 1.90%       1 9.20%

Sources: S&P Capital IQ,, Yahoo Finance,, SEC 10K filings

This table highlights the fact that though QR Energy and Linn Energy have high, safe yields, Wall Street analysts are expecting their distribution growth rates to remain very low through 2023. This results in QR Energy and Linn Energy trading at substantial discounts, indicated by the price/standardized measure ratio being under one. Since standardized measure is the estimated present value of future cash flows from oil and gas reserves, the market is either warning about trouble at QR Energy and Linn Energy, or offering a long-term buying opportunity. 
What's wrong with QR Energy?
QR Energy went public in December 2010 and has always been undervalued by the market -- for good reason. Under its previous general partner (gp) fee structure, management was paid in QR Energy units, resulting in dilution of up to 10% per quarter. This threatened the security of the distribution and made future growth difficult. QR Energy bought out its gp, which will result in a final 20% dilution that is spread out over four years, but that was immediately 7% accretive to distributable cash flow (DCF)/unit. This represented a potential catalyst for distribution growth, but QR Energy recently made a bold move that upset Wall Street and destroyed the goodwill of its gp buyout.
Since its IPO, QR Energy has made $1.4 billion in immediately accretive acquisitions. These were already producing assets that could be used to drive DCF growth. Upstream MLPs favor this approach over investing in new wells because investing in existing assets introduces greater risk and slows short-term distribution growth. 
QR Energy recently announced that instead of making more accretive acquisitions, it would raise its capital expenditure budget by 82% and invest in increasing production from what it considers low-risk assets. Distribution growth is unlikely to rise before the first expansion projects come online in 2016. This is a long-term strategy that is out of favor with short-term Wall Street thinking, and it leaves QR Energy massively undervalued and an incredible, though riskier, long-term income investment opportunity.
What's wrong with Linn Energy?
Linn Energy ran into trouble when its Berry Petroleum acquisition ended up costing $600 million more than expected. In addition, Linn Energy was left with 55,000 acres of Permian land afterwards with high drilling costs and high decline rates.
To an MLP that must pay out almost all of its earnings as distributions, the combination of high depletion and high drilling costs threatened the security of its distribution and reduced future distribution growth estimates to near zero. As a result, Linn Energy is trading at a discount to its standardized measure. Note that the discount is now far higher after two major deals, but Linn Energy releases standardized measure data once a year. 
To solve its growth problems, Linn Energy recently executed deals with ExxonMobil and Devon Energy. The Exxon deal was a swap of 25,000 acres of oil-rich but high depleting Permian land for 500,000 acres of gas-rich, low decline, and already producing Hugoton, KS acreage. The deal was immediately accretive to DCF by $30 million to $40 million per year and secured Linn Energy's distribution.
From Devon, Linn Energy bought 900,000 net acres that are producing 275 million cubic feet/day of gas with a decline rate of 14% for $2.3 billion. To pay for the deal, Linn Energy is selling Granite Wash acres with 40% decline rates. The two deals together will save Linn Energy $400 million in annual capital expenditures and will hopefully help to restore its historical 3%-4% distribution growth.

Foolish takeaway
QR Energy and Linn Energy represent safe, high-quality yields that are massively undervalued due to lack of market confidence in their distribution growth prospects. Linn Energy's recent deals give me confidence that it will be able to restore its distribution growth to historical levels. QR Energy is a riskier investment,  but its high, safe yield and deep discount offers immense long-term profit opportunity. 

Top dividend stocks for the next decade
The smartest investors know that dividend stocks simply crush their non-dividend paying counterparts over the long term. That's beyond dispute. They also know that a well-constructed dividend portfolio creates wealth steadily, while still allowing you to sleep like a baby. Knowing how valuable such a portfolio might be, our top analysts put together a report on a group of high-yielding stocks that should be in any income investor's portfolio. To see our free report on these stocks, just click here now.

Adam Galas has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.

Compare Brokers