With energy stocks on the rise while so many other sectors of the market flounder, many investors are starting to rethink their positions in this formerly downtrodden industry. There are a lot of ways to invest in this industry, but some really stand out from the rest.
MPLX (MPLX 1.25%), in my opinion, is one of those standouts. Here's why you may want to consider adding MPLX to your portfolio this month.
Image source: Getty Images.
Steady business, disciplined management
For the most part, midstream operations -- moving and storing product -- is the least volatile segment of the oil and gas industry. While commodity prices can turn on a dime, the actual volume of those commodities stays relatively consistent.
Consider this for a moment. In 2020 when the pandemic hit the oil market the hardest, oil prices went from around $60 a barrel, dropped below zero for a day, and ended the year at about $50 a barrel. The economy and the movement of people came to a near standstill for months. And yet, through all of that, total oil consumption in 2020 was only off 9% compared to the prior year.
This speaks volumes (the pun is so bad even I'm cringing) to the consistency of oil consumption and the stability of the mainstream business. There are, of course, different segments of the midstream business that are more volatile than others. On the whole, though, they're much less volatile than other segments like expiration and production or oilfield services.
For a company to truly monetize the stability of this segment of the value chain, though, you need a disciplined management team that is focused on a few things: putting service contracts in place that minimize commodity price exposure, maintaining a conservative balance sheet, and being good stewards of shareholder capital. MPLX has been one of the few midstream operators that checks all three of these boxes.
About two-thirds of its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) comes from its logistics and storage segment. This segment of the business is long-haul pipelines and terminals that operate under fixed-fee services agreements and minimum volume commitments with its primary customer, Marathon Petroleum, which also happens to own 62% of MPLX's shares outstanding. Furthermore, its gathering and processing segment is also largely protected by contracts.
On the balance sheet side of things, the company has a debt-to-EBITDA ratio of 3.1. That debt level puts it right on par with some of the other larger master limited partnerships known for conservative balance sheets such as Enterprise Products Partners and Magellan Midstream Partners. Also, similar to other conservatively run midstream businesses, MPLX generates more than enough cash to sufficiently cover its payout to shareholders. As of the most recent quarter, it generated 1.64 times more in distributable cash flow than what went out the door for regular distributions.
Having contracts in place to protect revenue and a conservative balance sheet are some of the minimum requirements to be a decent investment in this space, though. What really separates the wheat from the chaff is what management does (or sometimes doesn't do) to generate shareholder returns.
Growing shareholder value by... not investing in growth?
Growing a business can have multiple meanings, and knowing which one matters is especially important in the midstream business. Growth can mean building new assets that increase the footprint of the business, or growth can mean increasing the per-share value of the company. Most of the time, they are the same, but not always. Sometimes, investing in new pipes or acquiring other businesses falls into the "empire building" category that adds more assets to the balance sheet, but the cost to get it done -- either in the form of additional debt or issuing equity -- exceeds the value added by the new asset.
This is one of the areas where MPLX separates itself as one of the better investments in this industry. The company spent $600 million on capital expenditures in 2021 and expects to spend about $900 million in capital expenditures for 2022. That's peanuts for a $34 billion market cap midstream company and a third of what it spent in 2019.
On the surface, that doesn't sound great. The difference between now and then, though, is that the past decade saw a huge surge in investment to meet growing production from shale oil and gas. This massive wave of buildout has made it harder to find high-return projects in which to invest. A study from the American Petroleum Institute estimates that the entire oil and gas industry will only need to spend between $20 billion and $50 billion annually on growth projects from now to 2035. With so many players in the industry, that number gets carved up rather quickly.
Instead of chasing growth for growth's sake, MPLX's management appears to be investing in the places where it can add the most value to its business. As of the most recent quarter, its return on invested capital (ROIC) was 16.9%, which compares incredibly well to many of the empire builders in the industry with ROIC in the 2.7% to 8.5% range.
Growth is important, but not when the rates of return are so low. Instead, MPLX is electing to return capital to shareholders. Last year, the company announced both a special distribution as well as a $1 billion share repurchase program. Since that announcement, it has repurchased $337 million worth of shares.
An energy stock to buy
Everything so far points to MPLX being a worthy addition to a portfolio but now is a particularly compelling to time to consider this stock for one reason: It's still dirt cheap.
As of this writing, MPLX has a distribution yield of 8.4%. That's still well above its long-term historical average of 7.3% and way above anything you'll get from a broader market exchange-traded fund.
I can't say for certain where the oil and gas market will go from here -- no one can -- but the way MPLX's management has looked out for shareholder interests in the past shows that this is a stock worth considering now.
