Magellan Midstream Partners (NYSE:MMP) has been a great dividend growth stock since its public debut in 2001. Overall, the master limited partnership (MLP) has increased its payout 65 times, growing it at a 12% compound annual rate. The company's ability to steadily increase the income stream it pays out has created significant value for investors. Since its IPO, Magellan has generated a total return of more than 3,000%, compared to a slightly more than 200% total return from the S&P 500 over that timeframe. 

While it will be tough for Magellan Midstream to repeat that performance in the future, the pipeline company has many of the characteristics needed to drive continued outperformance, which makes it a compelling candidate to consider buying.

Pipelines going over a blue sea and with a blue sky ahead.

Image source: Getty Images.

The financial foundation

Most investors focus the bulk of their attention on how well a company can do in good times, which can often lead them to overlook its ability to survive market downturns. That's why I like to start by looking at a company's balance sheet to determine whether it can make it through the tough times so that it's around to thrive when conditions improve.

Here's how Magellan Midstream's financial profile compares to those of its peer group:

Company

Credit Rating

Debt-to-Adjusted EBITDA

Distribution Coverage Ratio

% of Cash Flow That Is Fee-Based or Regulated 

Enterprise Products Partners (NYSE:EPD)

BBB+/Baa1

3.9 times

1.5 times

90%+

Magellan Midstream Partners

BBB+/Baa1

3.4 times

1.2+ times

85%+

MPLX (NYSE:MPLX)

BBB/BBB-/Baa3

3.7 times

1.36 times

90%+

Plains All American Pipeline (NYSE:PAA)

BBB/BBB-/Baa3

4.5

1.79 times

93%

Data sources: Magellan Midstream Partners, Plains All American Pipelines, Enterprise Products Partners, and MPLX.

As that table shows, Magellan had the lowest leverage ratio in its class and tied Enterprise Products Partners for the best credit rating. The only number where it's behind is distribution coverage, though at more than 1.2 times, that's a solid number and above the level of many other MLPs. Overall, the company is in excellent financial shape, which should enable it to weather the market's ups and downs. 

Magellan's financial profile will grow even stronger later this year because the company and its joint venture partner Plains All American Pipeline recently agreed to sell a 50% stake in their BridgeTex Pipeline for $1.438 billion. Magellan will receive about $575 million for its share, which will give it some funds to invest in expansion projects. Meanwhile, Plains will receive more than $860 million for the interest it's selling, giving it cash to pay down debt and get its leverage ratio more in line with those of its peers.

A look at its growth prospects

Another important factor to consider before buying a stock is its growth potential. Magellan it has clearly visible upside since it's currently investing about $2 billion into expansion projects across its portfolio. One of them is a $410 million investment in a joint venture with Valero (NYSE:VLO) to build a new marine terminal in Pasadena, Texas, that should start up in two phases beginning early next year. In addition to that, the company is also working with Valero on another joint venture to expand its refined products pipeline infrastructure in the state. These and other expansions drive Magellan's view that it can grow its distribution another 8% this year and at a 5% to 8% annual rate in 2019 and 2020 while maintaining at least 1.2 times distribution coverage.

In addition to the projects it has already secured, Magellan has more than $500 million of potential growth projects under development. Among those it's considering is potentially doubling the size its Pasadena Marine Terminal joint venture with Valero as well as a possible expansion of its Seabrook terminal, which is also in Texas. Magellan's ability to secure these and other projects will determine whether it can continue increasing its payout at a steady pace in the years to come.

Pipelines laid out for construction at sunset.

Image source: Getty Images.

Pondering the valuation

The third important factor investors should consider before buying a stock is its valuation. Here's how Magellan stacks up against its large-cap MLP peers:

Pipeline Stock

Dividend Yield

Price to Distributable Cash Flow

Enterprise Value to EBITDA

Enterprise Products Partners

5.83%

11.4 times

15.6 times

Magellan Midstream Partners

5.47%

15.2 times

16.3 times

MPLX

6.92%

10.6 times

16.7 times

Plains All American Pipeline

4.46%

12.9 times

17.9 times

Data sources: YCharts and author's calculations.

As that table shows, the company's valuation is toward at the higher end of its peer group average. That isn't too surprising since Magellan Midstream Partners is the only MLP in its class that has published a distribution growth forecast beyond 2018. Because it offers more visibility into future growth and has a top-tier balance sheet, it warrants a premium market value.

Putting it all together

Magellan Midstream Partners' current slate of expansion projects positions it to grow its 5.5%-yielding payout by 5% to 8% per year through at least 2020. That sets the company up to potentially deliver total annual returns in the 10.5% to 13.5% range as long as it maintains its premium valuation. Magellan's potential to produce a growing income stream that could fuel market-beating returns makes it a solid stock to consider buying for the long haul, in my opinion.

Matthew DiLallo owns shares of Enterprise Products Partners. The Motley Fool recommends Enterprise Products Partners and Magellan Midstream Partners. The Motley Fool has a disclosure policy.