The energy sector has been hit by a triple whammy, and the pain is being felt throughout the broader industry. Even historically more conservative corners of the space, like the midstream niche, are getting whacked. But for intrepid investors willing to act while there's blood in the streets, now could be a good time to find bargains. Enbridge (ENB -0.03%) and Magellan Midstream Partners (MMP) both offer high yields and fee-driven businesses. Let's take a look to see which of these two midstream names might be right for you.

1. Working in midstream

Both Enbridge and Magellan operate in the midstream space within the broader energy sector. Generally speaking, they both help move oil and natural gas, getting paid for the use of their pipelines and other assets. The price of the products going through their systems is not the primary driver of their financial results. So they are both a more conservative way to get exposure to the energy space than, say, an upstream-focused name that drills for these commodities. 

A man Looking down over an energy-processing facility

Image source: Getty Images

That said, Enbridge and Magellan aren't immune to low oil and gas prices, which can lead drillers to pull back, thus reducing demand for midstream services. Moreover, as oil drillers pull back, there could be fewer opportunities for growth until prices recover. So low oil prices are a headwind, but not in the way that it would be for an oil driller.

The problem is that the pain is acute today in the oil patch. For starters, the massive growth in U.S. onshore oil and natural gas production was a key driver of new business for Enbridge and Magellan. However, that same production expansion left the world oversupplied with oil and gas, and kept energy prices relatively low and range bound. OPEC was attempting to handle this with production cuts, but a rift with Russia has squashed that effort. Now the spigots are open, and oil prices have plunged even lower. Oil companies are announcing plans to cut back even further than they had already. And now COVID-19 has brought the global economy to a virtual standstill, which will keep demand for oil and gas soft and allow inventories to build up. Even after the world gets back on its feet, it will take some time to work off excess supply stuck in storage. In other words, low energy prices are likely to linger. 

This isn't the end of the world for companies like Enbridge and Magellan, but it does mean they will likely be facing headwinds for a while.

2. On balance (sheets) ...

At times like these, investors should be very concerned with an investment's balance sheet. The goal is to find names that can use their financial strength to at least muddle through a period of adversity. On that score, Magellan comes out on top, with a financial debt-to-EBITDA ratio of around 3 times. In fact, it just held a conference call to review with analysts just how strong its finances are. The highlight: Despite the oil price plunge, Magellan isn't altering its 2020 spending plans, and it expects to stay within its targeted leverage range. Enbridge, however, isn't exactly far behind when it comes to financial strength, with a financial debt-to-EBITDA ratio of roughly 4.8 times. Yes, that's higher, but not outlandishly so. And it's within the company's target range of 4.5 to 5 times, so Enbridge is clearly comfortable with this level of leverage right now.   

The bigger takeaway here is that Magellan has historically trended toward the low end of the midstream sector when it comes to leverage. The benefit of that is showing today. Enbridge, meanwhile, has generally made more aggressive use of leverage. In fact, Enbridge's leverage has spiked into the high single digits several times because of things like acquisitions. If you own or buy Enbridge, you need to keep a closer eye on leverage. It's not a big issue today, as leverage has come down over the last year or so, but it has been in the past.

3. Size and scale

Another important thing to consider is a company's size and diversification. While both Enbridge and Magellan provide services to oil and natural gas customers, Enbridge is by far the larger and more diversified entity. Magellan, in fact, is downright tiny in comparison. For example, Enbridge's portfolio spans across North America (Magellan basically only operates in the United States). Enbridge estimates that it transports 25% of North American crude and 20% of the natural gas consumed in the United States (Magellan wouldn't even come close to those figures). On top of moving oil and gas via pipelines, Enbridge also owns natural gas utilities (serving 3.8 million customers) and a collection of renewable power assets (1.8 gigawatts of power), while Magellan only owns midstream assets. 

This is not meant to suggest that Magellan is too small to matter in the midstream space, only that it isn't as big as Enbridge. In fact, that gives it the opportunity to expand more easily, since it takes less to move the top and bottom lines. But Magellan has been pulling back on the growth front during these difficult times since, right now, growth isn't the goal for the partnership -- getting by is the target. So this particular benefit of being small isn't particularly important right now.

Enbridge, meanwhile, has a larger and more diverse base of business to fall back on to muddle through today. However, because of its scale, Enbridge also believes it can still find enough profitable avenues of investment within its broad collection of assets to allow it to keep putting money to work even today. So growth is still on the table despite the energy market malaise, and that's largely because of Enbridge's massive scale and diversified business lineup.   

4. Distribution/dividend strength

Magellan is a master limited partnership (MLP), so it pays distributions to unitholders. Enbridge is a regular corporation (it recently bought all of its MLPs in a simplification move), so it pays dividends. There are tax implications to this, including the need to deal with a K-1 if you own Magellan. So for those looking to keep things simple, Enbridge has a big edge (though it is Canadian, so you'll have to deal with the impact of foreign taxes). With that out of the way, Magellan currently has a 12.5% yield compared to around 8.5% for Enbridge. Dividend investors looking to maximize their current income might find that yield advantage appealing, especially in light of Magellan's more conservative leverage profile. 

MMP Dividend Yield Chart

MMP Dividend Yield data by YCharts

Don't jump just yet. Both of these midstream players have strong histories of rewarding investors. Magellan has increased its distribution annually for 19 consecutive years (every year since its IPO). Enbridge has increased its dividend annually for 24 years. Magellan covered its distribution by 1.2 times in 2019 (which has historically been considered strong coverage in the industry) and is saying that it believes that today's difficult energy market will only push that down to 1.1 times in 2020. Enbridge looks to pay out roughly 65% of its cash flow and is basically sitting at roughly that level right now, with enough free cash flow beyond the dividend to keep investing in its business. In fact, it just recently upped its dividend by 10%! If it can keep finding and funding organic investment opportunities, dividend growth should continue and likely at a higher level than Magellan can muster as it battens down the hatches. Magellan's higher yield is really a reflection of investor concern that it won't weather this downturn as well as Enbridge. That is, in fact, a very realistic view of the situation.   

If you had to pick

Magellan is not a bad midstream investment and has always operated using a very conservative, unitholder-friendly approach. But right now it looks like Enbridge is better positioned to deal with the energy industry downturn while continuing to reward investors with dividend and business growth. The threats each faces are very real, and you'll need to keep a close eye on leverage at Enbridge, but it looks like Enbridge is a better option than Magellan today. And that remains true even though it has a lower yield.