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Buy This Stock Before It Becomes a Dividend Aristocrat

By Reuben Gregg Brewer – Nov 11, 2021 at 8:59AM

Key Points

  • Enterprise is just one year away from being a Dividend Aristocrat.
  • Don't give it a thumbs down because it operates in the oil and natural gas sector.
  • As the world's energy demand expands, this MLP has years of hefty cash flows ahead.

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Although this longtime dividend grower is in an out-of-favor industry, it's still on the verge of hitting a 25-year record.

A company achieves Dividend Aristocrat status by increasing its dividend annually for 25 consecutive years. It's a highly elite club, and North American midstream giant Enterprise Products Partners (EPD) is on the verge of getting in. While some might protest that Enterprise is in an out-of-favor and environmentally dirty business, there are a few things to think about before you write this one off. That includes a huge 8% distribution yield.

The ugly bits

Enterprise operates in the midstream sector of the broader energy industry. With a nearly-$50 billion market cap, it is one of the largest midstream names in North America, with a collection of pipelines, storage, transportation, and refining assets that would be difficult, if not impossible, to replicate. Basically, it helps to move carbon-based fuels from where they are drilled to the end markets where they are used. It is a vital intermediary, but, without a doubt, its business is tied tightly to carbon energy.

A person making it rain 100 dollar bills.

Image source: Getty Images.

Meanwhile, Enterprise is structured as a master limited partnership (MLP). This corporate structure is designed to pass income on to unitholders in a tax-advantaged manner, which helps explain the high yield here. However, it comes with some complications, including the need to deal with K-1 forms at tax time and the fact that MLPs don't play nicely with tax-advantaged retirement accounts. In fact, if you own MLPs, or are thinking about owning them, it would be a good idea to talk to a tax specialist.

With those two issues noted, it's time to talk about the good stuff.

Why you want to own Enterprise 

For starters, the MLP structure is designed to pass income on to investors, so distributions are pretty much baked in here. And Enterprise has proven that it places a high importance on shareholder distributions -- they've been increased annually for 24 consecutive years at this point. That puts it just inches away from achieving Dividend Aristocrat status.

It has built that record on a very strong business that is largely fee-based. Indeed, the prices of oil, natural gas, and the products they get turned into are less important than the demand for these fuels. Enterprise collects its tolls no matter what commodity prices are doing. The midstream space is probably the most consistent area of the energy sector. 

EPD Dividend Yield Chart

EPD Dividend Yield data by YCharts

Before protesting that carbon fuels are going away, recognize that demand for energy is still growing because of emerging markets. So while the world might want to flip a switch and adopt clean energy, it's just not possible to do so and supply the energy the world needs. For example, oil's share of the world energy market is projected to decline only slightly from 40% in 2019 to 37% in 2040. But there's an interesting sub-story here -- demand will actually increase by 9% over that time even as oil's share falls, because overall demand is expanding. In other words, there's still decades of demand ahead for carbon fuels and for the midstream services that Enterprise offers.

Meanwhile, Enterprise is one of the strongest names in the midstream sector. For example, in the third quarter distributable cash flow covered its distribution by 1.6 times. That provides ample room for future investment and adversity. Meanwhile, this strong coverage rests atop a rock-solid balance sheet, with debt to earnings before interest, taxes, depreciation, and amortization (EBITDA) that has historically been below the levels of its closest peers.

Buying the yield

To be fair, Enterprise's distribution growth has slowed in recent years, and growth in the midstream space is likely to be more difficult to come by in the future. You are, to some extent, buying the yield here, with the hope of modest capital appreciation and dividend growth in the future. But with an 8% yield, that may be perfectly fine for investors looking to maximize current income. And remember it is backed by a still strong business that isn't going anywhere anytime soon. All in all, this soon-to-be Dividend Aristocrat and its historically high yield look pretty attractive today.

Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool recommends Enterprise Products Partners. The Motley Fool has a disclosure policy.

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