Things Are Looking Up for This 8.6%-Yielding Oil Stock

Oil prices cratered during the second quarter due to a lack of demand and storage space. Those brutal market conditions forced producers to shut in wells, which impacted pipeline volumes for companies like Plains All American Pipeline (PAA 0.90%). Because of that, the oil pipeline MLP's earnings and cash flow tumbled during the period.

On a positive note, market conditions snapped back quickly. Because of that, the company sees better days ahead, which bodes well for its big-time dividend.

Drilling down into Plains All American Pipeline's second-quarter numbers

Data source: Plains All American Pipeline. 

As that table shows, Plains All American Pipeline's results plunged due to the turbulent conditions in the oil market. The main issue was its market-sensitive supply and logistics business:

Data source: Plains All American Pipeline. Chart by the author.

Supply and logistics earnings cratered 99% during the second quarter. That's due to much less favorable market conditions, as the company wasn't able to take advantage of pricing dislocations between supply basins and market centers.

Transportation earnings also declined, slumping 16% during the period. The primary issue was lower pipeline volumes, especially in the Permian Basin, as producers shut in oil wells because of lower pricing.

The lone bright spot was the company's facilities assets, which grew their earnings by 1%. Driving that increase was lower costs and increased storage capacity at its terminals in the Mid-Continent and Gulf Coast regions, which more than offset the impact of asset sales.

Image source: Getty Images.

A look at what Plains All American Pipeline sees ahead

While Plains All American Pipeline's earnings cratered during the second quarter, they came in slightly above its expectations as oil prices rebounded sharply in the back half of the period, enabling producers to restart shut-in wells. Because of that, Plains All American has the confidence to raise its full-year adjusted EBITDA guidance. It now expects to produce $2.5 billion in adjusted EBITDA, a $75 million, or 3%, improvement from its prior view. 

However, with market conditions still weak overall, Plains All American cut its 2020-2021 expansion program by another $100 million. That pushes the two-year spending program down to about $1.45 billion, $870 million of which it expects to fund this year.

With earnings improving from its most recent outlook, and capital spending coming down, Plains All American Pipeline is now on track to generate about $110 million of excess cash this year after funding its dividend and capital program. That's an improvement from its initial expectation that there would be about a $55 million shortfall. This excess cash will enhance the company's balance sheet.

Plains All American ended the quarter with a leverage ratio of 3.2 times debt-to-EBITDA, which was toward the low-end of its 3-3.5 times target range. The MLP took several actions this year to ensure it maintained a strong balance sheet during the market downturn, including reducing its dividend and capital spending. These moves have had the desired effect as leverage has stayed low despite the significant impact crashing crude prices had on its earnings. Because of that, the company was able to raise $750 million of low-cost debt during the quarter, which it intends to use on refinancing an upcoming $600 million maturity.

With the worst seemingly in the rearview mirror, Plains All American's free cash flow should rise in the coming quarters as it completes its current expansion program. That should fuel further improvement in its balance sheet, which could allow the MLP to boost its high-yielding dividend in 2021.

A big-time dividend now, with more upside potential later

While the second quarter proved challenging, market conditions improved quickly. Because of that, Plains All American is optimistic about what's ahead, driving it to boost its guidance. As a result, its reset dividend -- which still yields an attractive 8.6% -- looks safe. Further, it should have room to expand that payout next year as capital spending declines due to the upcoming completion of several growth projects. That makes this MLP look like an attractive option for income investors.