3 Quality Oil and Gas Producers Yielding 10% or More

America's oil and gas boom is making many people very rich. These three investments offer a safe way to earn double-digit yields on companies with great prospects for future growth.

May 3, 2014 at 3:09PM

America's shale formations, in combination with new oil and gas recovery methods, have resulted in a new oil rush, and investors are eager to cash in on the prosperity. Luckily the energy sector is one of the few undervalued areas in this overheated market. The following three investments represent an exceptional way for long-term income investors to not only secure safe double-digit yields but also set the stage for above-average capital gains in the years ahead.

Linn Energy (NASDAQ:LINE) and Linn Co (NASDAQ:LNCO) are two sides of the same coin. Linn Energy is an MLP while Linn Co is a traditional corporation structured as a holding corporation for units of the MLP. The distributions of Linn Energy are what pay the dividends of Linn Co. The reason for this odd setup is that MLPs have inherent tax benefits but also tax preparation headaches. Both investments share the same assets and investment thesis.

Linn Energy is the largest independent E&P (exploration and production) MLP in America. It achieved its immense scale through a track record of disciplined and well executed accretive acquisitions (60 since its 2006 IPO, worth a total $15 billion). The investment thesis for this partnership (and Linn Co) is composed of two parts.

First, the price has recently taken a pounding due to allegations by Barron's magazine that the company has been misrepresenting its expense accounting. These allegations are being investigated by the SEC and are likely to be found false but the sharp drop in unit/share price has badly hurt the company. 

Its most recent (and by far largest) acquisition of Berry Petroleum was  done with Linn Co shares. The original terms of the deal were 1.25 Linn Co shares/share of Berry Petroleum. Due to the price drop (as well as price increase of Berry due to a record quarterly report), management was forced to increase the offer to 1.68 shares and the total cost rose to $4.6 billion. This threatened the accretive nature of the acquisition and created one additional problem for the partnership/company.

Berry Petroleum increased Linn's production by 30% (and doubled oil production). Oil is a much less volatile commodity than natural gas and so Berry's oil-rich Permian assets were a great addition to Linn Energy's portfolio. However, to increase production further would require expensive horizontal drilling and with the cost of the acquisition already greatly increased, management was forced to cut distribution coverage guidance for 2014 to 1. The market, fearful of an insecure distribution (10.4% yield for Linn Co, 10% Linn Energy), has deeply discounted Linn Energy (now trading at a 27% discount to the value of future cash flows from its oil/gas in the ground). However, the concern over the security of the distribution is overblown for three primary reasons.

First, management is guiding for 3%-4% organic growth in production while cutting capital expenditure (capex) by 11%. This will improve cash flows and strengthen distribution security.

Next, management is always on the look out for accretive acquisitions (which immediately improve distributable cash flow/unit). In 2014 alone, management has screened 48 potential purchases and bid on six (worth $5.5 billion).

Accretive acquisitions are likely in 2014 given the partnership's acceleration in recent acquisitions ($11 billion since 2010). Such acquisitions will further secure the distribution.

Finally management is exploring options to sell/trade some of its Midland basin assets (that would require expensive drilling to bring online) for assets that are already producing oil/gas. This would be immediately accretive to DCF and lower overall production costs for 2014, further improving distribution security. 

Breitburn Energy Partners (NASDAQ:BBEP) is another undervalued E&P MLP. A large impairment charge in the last quarter coupled with severe weather resulted in its distribution coverage ratio declining to 0.93, making the market nervous about the security of its high yield. Once more, I believe these fears to be overblown due to two factors. 

First, management is guiding for 36% EBITDA growth on the back of 27.5% production increases from its most recent acquisitions. This production is aggressively hedged at very favorable rates (76% of 2014 production hedged at $93.7/barrel oil, $4.95/Mbtu gas). This ensures high and predictable cash flow from which to pay the 9.8% distribution.

Second, management is guiding for $600 million in accretive acquisitions in 2014 (on top of $1.2 billion in 2013). Last year's acquisitions increased the partnership's oil exposure and future purchases are likely to be similar.

The combination of surging EBITDA and accretive acquisitions means that the distribution is not only safe, but likely to grow at its historic 3%-4% CAGR (2013 growth of 4.8%).

Foolish takeaway
A principle of Foolish investing is to buy quality companies with promising futures during short-term hiccups in the growth story and when they are most hated by the market. With Breitburn Energy Partners, Linn Energy, and Linn Co, investors have a chance to cash in on America's energy renaissance and secure both high (and growing) yields.

3 stock picks to ride America's energy bonanza
Record oil and natural gas production is revolutionizing the United States' energy position. Finding the right plays while historic amounts of capital expenditures are flooding the industry will pad your investment nest egg. For this reason, the Motley Fool is offering a look at three energy companies using a small IRS "loophole" to help line investor pockets. Learn this strategy, and the energy companies taking advantage, in our special report "The IRS Is Daring You To Make This Energy Investment." Don't miss out on this timely opportunity; click here to access your report -- it's absolutely free. 


Adam Galas has no position in any stocks mentioned. The Motley Fool recommends BreitBurn Energy Partners L.P.. 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.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't 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.

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