With a dividend yield of 10.9%, it's incredibly hard to find stocks with higher dividends than Sunoco LP (NYSE:SUN). When a company's stock carries a dividend yield that high, though, it typically means there's something up that might suggest something isn't quite right, and it could be at risk of a payout cut. So, instead of trying to chase those unicorn stocks that have a sustainable yield higher than Sunoco's, here's a quick look at two stocks that arguably have better dividends than Sunoco today.
Something's rotten in the dividend of Sunoco
If a company really could maintain a dividend with a yield as high as Sunoco's, investors would likely pile in, and that yield would drop as a result. However, there are some reasons investors should be a little suspect of the company's payout. The first and most obvious is the fact that the company isn't generating enough cash today to support its payout. In the first half of 2016, Sunoco's distribution coverage ratio was 0.93 times. This means the company paid out more in distributions to its shareholders than the amount it deemed available to distribute. This alone is the first big red flag because the company just completed a major dropdown acquisition from its parent Energy Transfer Partners (NYSE:ETP) that was supposed to help fuel sustainable distribution growth.
Also a bit concerning today is Sunoco's current debt levels. To make that large dropdown acquisition, subsequent deals, and some organic capital expenditures, the company's debt level has ballooned to the point that its net debt to EBITDA ratio is around 7.1 times today. The company's target range is a much more reasonable 4.0 times to 4.5 times, but you have to wonder how the heck the company expects to get there. As its distribution coverage ratio suggests, it's not generating any internal cash flow to fund growth, and with a 10.9% yield, the only way to fund growth is to take out more debt, which will either keep its debt to EBITDA ratio steady or, worse, it could rise further.
The logical way for the company to move toward a more sustainable future would be to slash its payout and free up some cash flow for debt reduction and organic capital spending. That's great for the company, but it certainly doesn't give investors an incentive to buy shares today.
Better-run companies = better dividends
Luckily for investors, there are some stocks in the energy industry with better dividends to pick from. Two that have high yields and look much more sustainable are Holly Energy Partners (NYSE:HEP) and Enterprise Products Partners (NYSE:EPD).
In terms of size and scope, these two pipeline companies couldn't be further apart. Holly Energy Partners is a mid-cap partnership that owns crude oil and refined product pipelines that are mostly geared to serve the refineries of its parent company, HollyFrontiter. By contrast, Enterprise Products is one of North America's largest energy midstream and logistics companies that generates the bulk of its earnings from gathering, transporting, and processing natural gas liquids, and it has no parent or general partner.
The one thing these two companies have in common is what matters, though: Both have conservative management teams that balance the needs of growth spending, payouts to shareholders, and maintaining balance sheet strength. For years, the two have maintained distribution coverage ratios greater than 1.2 times, which ensures there's plenty of cash to cover its payout, with some left over to spend on growth. It also helps that the two have maintained debt-to-EBITDA ratios below 4.5 times for years, a much healthier metric for master limited partnerships.
Then there's the fact that these two companies have long-tenured histories of raising dividends every quarter. Holly Energy Partners has raised its payout every quarter since its IPO in 2004, and Enterprise Products Partners is working on a streak of 48 consecutive quarters of distribution increases. It's also only a few years away from the vaulted status of Dividend Aristocrat as it has raised its payout every year since 1998.
What a Fool believes
Holly Energy Partners and Enterprise Products Partners distribution yields of 7.3% and 6% can't touch Sunoco's 10.9% yield, but both look to be better investments over the long term because their payouts are on much more solid footing. If you're looking at making an investment in a high-yield stock, chances are you'll be better off long term with Holly Energy Partners or Enterprise Products Partners rather than Sunoco LP.