Midstream companies Enterprise Products Partners (EPD 0.18%), Western Midstream Partners (WES 1.43%), and Antero Midstream (AM 1.36%) all pay double-digit-yielding distributions right now because of the volatility and uncertainty in the energy markets. While those sky-high payouts seem alluring, the market has questions about their sustainability, given the massive decline in energy demand as a result of the COVID-19 outbreak.
All three could be at risk if energy demand falls for a prolonged period. However, one is much more durable than the others, which makes it the only option worth the consideration of yield-seeking investors right now.
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Sky-high yields following massive sell-offs
Dividend yields in the energy sector have been a moving target because of all the volatility in recent weeks. However, this trio currently pays eye-popping distributions that some investors might think are too tempting to pass up:
|
Company |
Recent Yield |
|---|---|
|
Antero Midstream |
47% |
|
Western Midstream Partners |
41.1% |
|
Enterprise Products Partners |
10.5% |
Data sources: Google Finance. Yield data as of April 9, 2020.
Those numbers aren't misprints. Instead, they're the result of investors who are bailing on these master limited partnerships because of the unprecedented decline in energy demand as a result of the COVID-19 outbreak. Units of Enterprise Products, Western Midstream, and Antero Midstream have cratered between 40% and 70% this year, which has pushed up the yields on their distributions.
Drilling down into the numbers
The main factor driving up these payouts is that investors are growing increasingly concerned that these companies can't maintain them during this downturn. That's especially true of Antero Midstream and Western Midstream, which entered this period with precariously tight financial metrics.
Western Midstream, for example, initially estimated that it would generate between $1.875 billion and $1.975 billion of income this year, which would provide it with enough cash flow to cover its distribution by 1.25 times. However, a lot has changed since it published that guidance, including the fact that one of its largest customers, Occidental Petroleum (OXY -0.42%), slashed spending to better align its cash flow with lower oil prices. As a result, Occidental expects its production to be about 6% below its initial guidance this year. That will have an impact on the volumes flowing through Western's assets, cutting into the fees it collects. As such, its payout looks ripe for a reduction.
Antero Midstream, meanwhile, expects to produce between $625 million and $675 million in cash this year, enough to cover its current payout by 1.1 times. That forecast, however, assumes the company's top customer, Antero Resources (AR 1.50%), grows its production by 9% this year. That's increasingly unlikely, given the fall-off in energy prices and demand resulting from the COVID-19 outbreak. And that means Antero Midstream probably won't gather and process the volumes it initially expected, which will cut into its cash flows, making its payout unsustainable.
On a much more solid foundation
Enterprise Products Partners, on the other hand, has a much stronger business. The company produced $8.3 billion of income last year from more than 200 customers, 81% of which have solid financial profiles. Furthermore, take-or-pay agreements underpin a large portion of its cash flow, meaning its customers pay fees even if they don't use the capacity. Meanwhile, the company typically generates enough cash to cover its payout by 1.7 times, leaving it lots of cushion. That provides it with a significant amount of the funding needed for expansion projects, with some leftover to repurchase units.
On top of that, the company entered this period in the strongest financial position in its history. That included one of the highest-rated balance sheets in the sector and lots of liquidity (cash and borrowing capacity). Enterprise therefore has the flexibility to maintain its high-yielding dividend even as it continues expanding its pipeline network. This strong financial profile puts the company's payout on a firm foundation during this challenging period.
Entering this period in different positions
Western Midstream and Antero Midstream expected that their income would grow along with the production of their main customers. However, with energy prices crashing, those volumes will be under pressure, which will cut into their cash flows. Given that both had tight payout ratios even after factoring in growth, their distributions seem destined for a reduction.
Enterprise Products, on the other hand, entered this period in a position of strength. Not only does it generate income from many more customers, but it also has a lot more cushion thanks to its higher coverage ratio and top-tier balance sheet. That makes it the only option among this trio worthy of a yield-seeking investor's attention.
