Last week, Goldman Sachs caused a stir when it released a report predicting that oil prices could remain around $50 per barrel through 2030.
Personally, I think projecting the price of crude -- which is notoriously volatile and unpredictable -- for the next 15 years is absolutely ridiculous. That said, there is a broad consensus among energy analysts, including reliable sources such as the Energy Information Administration and International Energy Agency, that oil prices may stay low for several years.
Yet even in a world of cheap energy prices, there will be great opportunities for long-term dividend growth investors to earn market-beating total returns in energy stocks. I'd like to share three reasons Shell Midstream Partners (SHLX +0.00%) is likely one of those great opportunities and deserves to be on your dividend radar.
Toll booth business model
Source: Shell Midstream Investor Presentation.
As you can see, Shell Midstream has a partial ownership interest -- between 3% and 62.5% -- in five pipeline systems, mostly supporting oil and refined product production in the Gulf of Mexico.
The best thing about its business model is that the cash flow is almost entirely generated by long-term fee-based contracts, typically between five and 15 years in initial duration, but some stretching much longer.
These contracts come in four types: transportation services agreements (TSAs), throughput and deficiency agreements (TDAs), and life-of-lease agreements with or without a guaranteed rate of return, helping make Shell Midstream's cash flow all but immune to volatile energy prices.
Understanding Shell Midstream's sweet, sweet contracts
Transportation service agreements -- a form of ship-or-pay contract -- are basically a subscription to a pipeline. Oil and gas producers agree to a monthly payment that gives them a certain amount of capacity. These contracts require monthly minimum contracted volumes, or MCV, meaning even if a customer's volume of oil falls short, Shell Midstream still receives the MCV revenue.
TDAs are longer-term ship-or-pay contracts that set a minimum annual average volume for a fixed period of time. If a customer needs more pipeline capacity than contracted for -- known as surplus volume -- they can store this surplus and use it for years when they fail to meet their MVC and count it toward their deficiency payment.
Life-of-lease contracts require oil and gas producers to use only Shell Midstream's pipelines to transport 100% of the production of a specific field for the entire length of their oil lease. Better yet, some of these contracts guarantee Shell Midstream a fixed rate of return.
Impressive distribution profile
No matter how great an MLP's business model is, income investors mainly care about just three things: yield, distribution security, and payout growth potential.
Distribution yield is one way we can look at valuation. Shell Midstream's current 2.4% yield -- which is just slightly higher than the S&P 500's payout of 2.2% -- is not as high as many larger, slower-growing midstream MLPs. This may indicate that Wall Street is granting it a far richer valuation than even other fast-growing competitors.
| MLP | Yield | Enterprise Value/EBITDA | Price/Operating Cash Flow | Analyst Predicted 5-Year Distribution Growth Rate (CAGR) |
| Shell Midstream Partners | 2.4% | 36.1 | 34.2 | 27.7% |
| Phillips 66 Partners | 3.2% | 33 | 19.7 | 24.2% |
| MPLX | 4.1% | 17.0 | 12.6 | 21.9% |
| Spectra Energy Partners | 5.8% | 12.5 | 9.2 | 7.4% |
| Energy Transfer Partners | 9.2% | 13.3 | 5.6 | 6.7% |
Source: Yahoo! Finance, Fastgraphs.
While Shell Midstream may be trading at levels that might make some value investors uncomfortable, its faster projected growth could also make it one of the best-performing MLPs over the next five years.
That is, if it can continue to grow at a torrid pace, which is very possible. That's because its general partner is Royal Dutch Shell (NYSE: RDS-A) (NYSE: RDS-B), one of the world's largest integrated oil giants. It owns vast quantities of midstream assets it can sell to its MLP -- two of which it has already dropped down in 2015 with one more planned by the end of the year -- to quickly grow its distributable cash flow, or DCF, which is what funds the quarterly payout.
Source: Shell Midstream Investor Presentation.
Most importantly, Royal Dutch Shell's future asset drop downs mean the MLP can likely grow its payout in a highly secure fashion.
To determine how secure an MLP's payout is, you need to look at the distribution coverage ratio, or DCR, which compares the payout to distributable cash flow. Anything above 1 is sustainable, and above 1.1 means the distribution is both secure and capable of growth.
Shell Midstream's latest three- and six-month DCRs were both 1.3, meaning its unit holders can stop worrying about energy prices because their quarterly payment is both highly secure and poised to keep growing strongly.
Takeaway: Even if oil stays "low for longer," Shell Midstream should be a hot growth prospect
With one of the world's largest oil companies backing it, Shell Midstream has a very long growth runway that should ensure fast, but more important, highly secure distribution growth over the next five years, even if oil prices remain low. This makes it well worth placing this fast-growing MLP on your dividend growth radar.
