Fat Dividends and Lots of Energy

09/02/2009 10:50 am EST


Josh Peters

Editor, Morningstar DividendInvestor

Josh Peters, editor of Morningstar DividendInvestor, and analyst Jason Stevens, like an energy master limited partnership that throws off lots of cash to its holders.

Only a handful of master limited partnerships have the good asset base, liquidity position, and ability to undertake transformative projects that can generate strong cash-flow growth despite turbulent markets. Enterprise Products Partners (NYSE: EPD) ranks among them, and a pending merger with TEPPCO Partners (NYSE: TPP) would cement its place as the biggest MLP. (A master limited partnership is a type of limited partnership that's publicly traded—Editor.)

Enterprise gathers natural gas from wellheads from the Rockies to the offshore Gulf of Mexico; operates gas-processing plants that separate natural-gas liquids from the gas stream; transports both natural gas and natural gas liquids (NGLs) on dedicated pipelines to market hubs; provides storage and fractionation for NGLs, and markets natural gas and NGLs.

In good times, Enterprise earns economic rents on each link of the midstream chain, and in bad times Enterprise can optimize flows across its system. Long experience has also instilled good hedging practices, leading to superior gas-processing results in late 2008 despite a very ugly environment.

We think there's significant opportunity for Enterprise to extend this model across TEPPCO's existing assets, which complement Enterprise's footprint quite well. This merger still requires approval from TEPPCO's unit holders and is not expected to close until the fourth quarter, but we think the odds are good that the deal goes through.

In the event that it does not, our opinion of Enterprise remains strong, as the breadth of Enterprise's asset base fosters attractive internal growth projects. In addition to infill projects, such as processing-plant expansions and connecting gathering systems to new wells as they are completed, Enterprise is large enough to undertake significant new projects, such as its Independence Hub and Trail, an offshore natural-gas gathering system and pipeline bringing more than a billion cubic feet per day of gas onshore. In 2009 alone, Enterprise is bringing $2.3 billion worth of projects on line, which will result in significant cash-flow gains.

Enterprise has total liquidity of about $1 billion, enough to fund a significant portion of its remaining 2009 capital-expenditure budget. Additionally, by maintaining a 1.2–1.3 times distribution coverage ratio, Enterprise retains about $300 million in cash each year that can be used for investment. The final backstop, in our view, is the willingness of the company's founder and ultimate chairman, Dan Duncan, to provide capital to Enterprise as needed.

Enterprise continues to invest in growth projects and expects to bring $2.3 billion worth of new projects on line this year, adding momentum to cash-flow growth. Unit holders have enjoyed distribution increases each quarter since late 2004, and we expect the firm to generate annual distribution growth of about 6%.

With a yield of 7% at our $31 Dividend Buy price (8.1% at Tuesday's close below $27—Editor), we think Enterprise can provide total returns averaging in the low teens.

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