Energy Transfer (ET 1.03%) is a midstream master limited partnership (MLP) with a lofty 7.5% distribution yield. There are a couple of big-picture reasons to dislike the business, but there are also some notable reasons to like it. One big reason to be positive is the growth opportunity in the years ahead for this diversified MLP. Here's what you need to know.
What does Energy Transfer do?
Energy Transfer owns energy pipelines, storage, and transportation assets that help to move oil and natural gas from where they are produced to where they are used. The MLP largely charges fees for the use of this vital energy infrastructure, with about 90% of adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) tied to fees.
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The business itself is fairly well diversified. Natural gas liquids and refined products account for 24% of EBITDA, midstream assets 23%, natural gas pipelines and storage 21%, crude oil 18%, and its stakes in two publicly traded MLPs 14%. Energy Transfer's leverage is within management's target range, and it's projecting 3% to 5% annual distribution increases for the foreseeable future. That said, too much leverage led to a distribution cut in 2020, a time of great uncertainty in the energy sector thanks to the coronavirus pandemic. Income investors were severely let down right when they likely would have most wanted income consistency.
That cut comes on top of an unfortunate event involving peer Williams (WMB 0.71%) in 2016. Energy Transfer agreed to buy Williams and then chose to back out of the deal because it would have required a dividend cut, taking on massive debt, or both. Part of the process of killing the deal was the sale of convertible notes that look like they would have protected the then-CEO from the effect of a dividend cut, if one had been needed.
The deal was called off, but this event, coupled with the distribution cut in 2020, should cause more conservative investors to pause here. There are equally attractive midstream businesses that don't have similar, potentially objectionable, histories.
There are 5 billion reasons to like Energy Transfer
However, there are reasons to find Energy Transfer attractive. That starts with the fact, as noted above, that leverage is back down to levels with which management is comfortable. A stronger balance sheet is the foundation on which Energy Transfer is spending $5 billion in 2025 on capital investments.
The investments are spread across its business, with the midstream segments getting 30% of the cash, natural gas liquids and refined products 28%, natural gas pipelines 28%, oil 6%, and "other" the remainder. There is an array of different types of projects in the works, from incremental improvements to existing assets to the ground-up construction of new assets. A number of capital investment projects will be completed in 2025, but there are others that will start adding to cash flow in 2026 and beyond.
There are additional projects waiting in the wings that can be added to Energy Transfer's capital plans in the future. The big picture takeaway is that slow and steady growth seems like the order of the day, which is backed up by management's target of 3% to 5% distribution growth over the longer term.
Where will Energy Transfer be in 1 year?
Energy Transfer's business should be slightly larger and more profitable in a year. That is likely to mean a distribution that's a little bit higher, too. If you can look past the trust issues that have arisen in the past, this high-yield midstream MLP looks like it is on a more sustainable path today.
However, more conservative investors should note that the same sustainable growth path is expected from many peers, including Enterprise Products Partners, a competitor that has increased its distribution annually for 26 consecutive years.
