2 of the Hottest Dividend Payers of the Next Decade

America's energy renaissance is making lots of companies and investors very rich. This article highlights two small cap dividend payers who are poised to become some of the best investments of the next decade.

Adam Galas
Adam Galas
Jul 14, 2014 at 10:19AM
Energy, Materials, and Utilities

It's official -- in the first quarter of 2014 the United States became the world's No. 1 oil producer with production hitting a record 11 million barrels/day (mmbpd). That is 13.4% higher than our previous record of 9.7 mmbpd set in 1970.

The cause of this oil boom is hyper-prolific shale formations such as the Bakken, Eagle Ford, and Permian Basin.  The Permian Basin alone is estimated to hold 75 billion barrels of recoverable crude, an estimate that is up 50% in the last year and could supply all of America's new record oil production for 18.75 years.

Similarly America's gas boom continues unabated, with the Energy Information Administration (EIA) estimating that US natural gas production will increase 56% from its already record levels by 2040.

The key to that stunning growth is the Marcellus and Utica shale, which are predicted to increase production 34 fold from 2007 through 2035.

This article will highlight two high-yielding small-cap energy services MLPs, the pick and shovel providers for America's stunning energy gold rush, which are poised to reward long-term investors for decades to come.

Note, these two MLPs pay distributions, not dividends. The difference is that distributions are tax deferred and require a K-1 form instead of a 1099 form. They can cause tax headaches when held in tax deferred accounts such as IRAs.   

MLP Yield 10 Year Projected Annual Distribution Growth 10 Year Projected Annual Earnings Growth 10 Year Projected Annual Total Returns
Emerge Energy Services 4.60% 30.22% 33% 36.50%
Hi-Crush Partners 3.90% 20.75% 22.90% 18.80%

Sources: S&P Capital IQ, Yahoo Finance 

Emerge Energy Services (NYSE:EMES) is a variable distribution MLP that is fast growing into the largest provider of fracking sand in America.

Fracking usually takes place miles beneath the earth where pressures can reach 10 tons/square inch. The cost of each well is $4 million to $12 million, and to maximize returns on investment oil and gas producers pump 5,000-8,000 tons of proppants (substances that prop open cracks in shale) such as specialized fracking sand or ceramic coated beads. 

Demand for frack sand has boomed along with America's oil and gas production, growing 28.3% annually since 2009 and expected to grow 10.25% CAGR through 2022. With such strong demand the price of frack sand has surpassed iron at $110/ton. Analysts estimate $40 of that is profit, making frack sand suppliers one of the best ways to play America's energy bonanza. 

Into this high-margin arena steps Emerge Energy Services, which is investing $110 million into two new mines, scheduled for completion by the end of 2015. They will add 5 million tons of capacity, making Emerge Energy Services, at 12.3 million tons, the largest frack sand provider in America. With a fleet of 4,700 tanker cars, set to grow 36% within a year, and 11 distribution centers, Emerge Energy Services will be operating in every major oil and gas formation within North America by the time its new mines come online. 

Emerge Energy Services has a cost of equity of 9.53% but returns on equity of 49.6%This means that Emerge Energy is superb at generating unit holder wealth and should face little difficulty financing its ambitious growth plans.

EMES Chart
EMES data by YCharts

As the chart shows, Emerge Energy Services has had a great year. This may cause some to worry if the valuation is too rich to buy at today's prices. However, I would argue that opening an initial position (buying in thirds) is justified because the generous yield pays you to wait should the price stagnate. If the price falls you still receive generous income and can reinvest at higher yields. 

Hi-Crush Partners (NYSE:HCLP) is another frack sand MLP, specializing in the Bakken, Utica, and Marcellus shales. In fact, Hi-Crush Parners has three times the distribution capacity in the Marcellus of its nearest competitor. 

Hi-Crush has recently announced major contracts (new or extensions) with Liberty Oilfield Services, Weatherford International, US Well Services, and most recently Halliburton, and C&J Energy Services.

Hi-Crush Partners' average contract length has increased from 32 months to over 48 months including these newest contracts. The Halliburton contract increases the minimum volume of sand that company will purchase through 2018 while the C&J contract is for five years. Longer-term contracts are becoming the new normal as oil and gas service companies try to lock up frack sand supplies in the face of likely long-term price increases. Thanks to the bevy of contracts Hi-Crush has recently raised its guidance by 60% to 4 million tons in 2014 with another 25% to 60% growth in 2015. 

One final thing investors should know is that Hi-Crush Partners is amazingly profitable. Not only does it generate returns on equity of 49.7% versus cost of equity of 8.13%, but its net margins are 35%.

This is represented by one of the highest margins/ton of frack sand in its industry, $60.47/ton, 50% above the industry average.

Foolish takeaway
America's fracking revolution has created a historical opportunity for profits. Emerge Energy Services and Hi-Crush Partners are terrific high-yielding small cap opportunities for long-term wealth creation. Hi-Crush Partners and Emerge Energy Services offer secure, generous, and fast growing yields that will help these MLPs ensureyears of market-crushing total returns.