If you are looking at Enterprise Products Partners (EPD -0.34%), you have probably been attracted by its big 7.5% distribution yield. That's perfectly fine, but yield alone doesn't tell you enough about an investment. You need to dig a little deeper.
Here's a closer look at Enterprise and why its big yield isn't a fluke or a sign of a pending distribution cut.
Enterprise collects reliable cash flows
Operating in the midstream segment of the broader energy industry, Enterprise owns the vital energy infrastructure assets (like pipelines) that help to move oil and natural gas from place to place. These assets are very costly to build but tend to produce reliable cash flows once they are brought online. There are two reasons for that.
Image source: Getty Images.
First, it would be virtually impossible to replace or replicate the portfolio of assets that Enterprise owns. It is one of the largest midstream competitors in North America. If energy producers want to get their products to the locations where they are processed and/or consumed, they need to use the infrastructure that Enterprise owns.
Second, midstream assets usually generate revenue by charging fees for their use. Thus, commodity prices are less important than demand. And energy demand tends to remain strong even when oil prices are falling.
This is the big-picture story behind Enterprise's ability to increase its distribution for 25 consecutive years. To be fair, there aren't a lot of growth prospects here because most of the best midstream investment opportunities have been developed already. So the huge 7.5% distribution yield this master limited partnership (MLP) offers will make up the lion's share of its returns.
But for dividend investors looking to maximize the income they generate, that probably won't be a problem.
Enterprise generates strong returns in good and bad markets
So Enterprise has a reliable business model. That's a good thing and should make investors happy. But there's another dynamic here that's worth examining.
The MLP recently provided a long-term chart of its return on invested capital (ROIC). It measures the financial returns a company achieves based on the investments it makes in a given year.
The chart looks back to 2005, with annual ROIC ranging between 10% and 13%. That's not bad for what is a reliable (perhaps boring) business. But you need to consider the variability across the range to fully appreciate just how consistent Enterprise's performance has been.
NYSE: EPD
Key Data Points
During the Great Recession (roughly 2007 to 2009), when there was a very real risk of a global economic collapse, Enterprise's ROIC bottomed out at 11%.
When oil prices fell into a prolonged slump about a decade later, between 2014 and 2017, ROIC hit a low point of 10%. During the rapid oil price fall in the early days of the pandemic in 2020, ROIC fell to 12%.
In other words, even in the worst of times for the energy industry, Enterprise continued to execute at a high level.
That is how it supports its lofty distribution yield. But, just to add a little more to the story, Enterprise also has an investment-grade balance sheet. Its distributable cash flow covers its distribution by around 1.7 times, leaving ample room for adversity before a distribution cut would be in order. The foundation here is rock solid.
A favorable risk/reward balance
If your goal is to live off the income you generate from your portfolio, Enterprise's attractive yield looks well supported. The best part is that the MLP's business is clearly resilient in the face of even the most difficult periods in the energy sector.
While you won't be rewarded with robust growth, you should be able to sleep well knowing that Enterprise is doing everything it can to ensure you keep collecting your distribution check every quarter.
