Energy Transfer (ET -1.59%) has one of the most diversified and balanced operations in the energy midstream sector. The master limited partnership (MLP) operates assets across the entire value chain. That diversification helps reduce risk, enabling the company to generate very stable cash flow to support its 9%-yielding distribution.
Among its many assets is an interest in fellow MLP Sunoco (SUN -0.50%). That investment could pay bigger dividends after Sunoco's needle-moving acquisition of NuStar Energy (NS -0.89%). Here's a look at the deal and how it could benefit Energy Transfer.
A needle-moving deal
Sunoco has agreed to acquire NuStar Energy in an all-equity deal valuing that company at $7.3 billion, including the assumption of debt. The transaction will significantly enhance Sunoco's diversification and that increased diversification should reduce Sunoco's risk while enabling it to generate steadier cash flow.
Image source: Sunoco.
Meanwhile, the deal will be highly accretive to Sunoco's distributable cash flow per share. The company expects the acquisition to provide an immediate bump following closing later this year, with a more than 10%+ per share boost anticipated by the third year after completing the deal.
Several factors will drive the earnings improvement. Sunoco expects to capture at least $150 million of annual cost savings by the third year as it integrates the two businesses. In addition, it expects to save about $50 million annually by refinancing NuStar's higher-rate capital. The company has secured a $1.6 billion bridge loan to refinance NuStar's preferred units, subordinate notes, revolving credit facility, and receivables financing agreement.
The earnings growth from the deal will boost Sunoco's free cash flow. That will give it more money to reinvest in its continued expansion and return additional cash to investors. The company expects the acquisition to support continued growth in its 6%-yielding distribution.
This deal is Sunoco's second notable transaction this year. It agreed to sell 204 convenience stores to 7-Eleven for $1 billion. It expects to use those proceeds to reduce its leverage ratio and fund the acquisition of Zenith Energy, which owns liquid fuels terminals in Europe. The company expects that acquisition to be accretive to its cash flow within the first year of ownership.
The trickle-down effect
Energy Transfer will benefit from Sunoco's growth. The midstream giant currently owns Sunoco's general partner interest, the associated incentive distribution rights, and a 34% limited partner interest. While Sunoco's all-equity acquisition will dilute that LP stake, the MLP will still benefit from the deal. It will be able to record its share of Sunoco's growing profits, which are a modest contributor to its overall results:
Data source: Energy Transfer. Chart by author.
Energy Transfer's stake in Sunoco provided about 7.2% of its earnings through the third quarter of last year. That's up from 7.1% during the same period of 2022, driven by Sunoco's growing earnings. With Sunoco's earnings expected to rise following its acquisition of NuStar, that growth will trickle down to Energy Transfer, boosting its associated earnings.
In addition, Energy Transfer receives its share of Sunoco's growing cash distributions. The company most recently increased its payment rate by 2% last April. Those growing distributions will give Energy Transfer more cash flow to support its continued expansion and grow its distribution. The MLP plans to increase its payout by 3% to 5% per year, fueled by organic expansion, acquisitions, and growth from affiliates like Sunoco.
A potentially more lucrative investment
Energy Transfer's investment in Sunoco supplies it with growing earnings and cash distributions. It should see more growth from this investment in the future, fueled by Sunoco's needle-moving deal for NuStar. Because of that, the high-yielding MLP looks like an even more compelling option for income-seeking investors since the trickle-down effect from the tie-up should enhance its ability to increase its distribution in the future.
