Energy output has boomed across the country, and this little-known dividend stock could make investors a fortune.
New technologies have unlocked billions of barrels of oil and gas, even
at prices that were once unthinkable. Traders betting the farm on
drilling stocks over the past few months earned themselves overnight
But when it comes to energy investing, the real money isn’t always in the firms doing the grunt work. “Pick-and-shovel”
businesses provide the vital tools and services to a booming industry.
Rather than taking the “all-or-nothing” route of searching for the next
big strike, selling rigs, gear, and equipment can be a safer (and more
lucrative) way to profit.
One of my favorites? Magellan Midstream Partners, L.P.
(NYSE:MMP). This partnership owns pipelines, terminals, and processing
plants across the country. And while it doesn’t get a lot of interest in
the press, it’s one of my top dividend growth stocks for a couple of
The Top Dividend Stock of 2017?
First, Magellan is on the front lines of “Oil Boom 2.0.”
After a two-year price war with the Organization of the Petroleum
Exporting Countries (OPEC), the worst may be over for the U.S. energy
patch. American oil producers haven’t just survived the downturn.
Rather, they’ve emerged as lean operating machines, which can turn a
profit even at low commodity prices.
The West Texas Permian Basin has led this comeback. Frackers have raced to ramp up production over the past year, more than doubling the number of rigs operating in the area. That forced the Energy Information Agency to boost its forecast for U.S. oil production, with output expected to hit a record 9.3-million barrels per day (BPD) by the end of 2018.
It’s good news for suppliers. The boom has created shortages for
everything from drilling fluid to rig equipment. In shale country, truck drivers pull down $80,000 per year.
Surging production means more demand for energy related infrastructure,
too. You have a desperate need for more pipelines, storage tanks, and
processing facilities. Some analysts think that Permian output could outstrip pipeline capacity by the end of 2017.
Magellan has positioned itself right smack-dab in the middle of this boom.
The partnership owns 14,000 miles of pipelines
across the Midwest. These lines act like the toll roads of the energy
industry, shipping crude from wellhead to market. While wildcatters bet
everything on the next big strike, Magellan earns steady fees on each
barrel coming out of the ground.
Management has poured millions to expand operations in the region. A newly built pipeline origin point
at Bryan, Texas will add another route out of the Permian. The
expansion of the partnership’s BridgeTex Pipeline network will increase
capacity to 400,000 BPD, shipping West Texas Permian crude to refineries
on the Gulf of Mexico.
Executives also wants to build a marine terminal in Pasadena, Texas. The
facility will hold one-million barrels of refined products like
gasoline, jet fuel, and heating oil. And while the project still needs
the green light from regulatory officials, management expects the
terminal to begin operations by early 2019.
All of which provides a nice tailwind for Magellan. Executives reaffirmed their earnings guidance on a conference call last week, projecting another round of record profits and distributable cashflows.
Most of those distributable cashflows should get passed on to owners.
Since 2001, Magellan has hiked its payout by about 12% per year. If you
had bought and held the stock over that time, your yield on cost would
now top 115%.
Today, the partnership sports one of the highest payouts around. Last
quarter, management mailed out a distribution of $0.87. On a full-year
basis, that represents a tidy yield of 4.7%.
That payout should keep growing. Going forward, management expects to increase the partnership’s distribution by eight percent in 2017. Owners can likely count on a growing stream of income for years to come, especially given the boom in West Texas.
Source: “Evercore ISI Energy Summit,” Magellan Midstream Partners, L.P.
Of course, you can’t call Magellan a sure thing.
Another leg down in oil prices could cut the energy boom out from the
knees. Higher interest rates would crimp the unit price, as investors
flee risky equities for safer bonds.
That said, I’m not super worried.
Magellan earns most of its profits from tariffs. As a result, these cash
flows resemble bond coupons. While oil prices can swing wildly from
year to year, the actual volume of crude moving through the oil patch
stays fairly consistent.
This payout is also one of the more dependable around. The partnership
earns $1.20 in distributable cash flow for every dollar paid out to
unitholders. This gives management plenty of buffer room in the event of
Executives have also taken a near prudish approach to debt. Other MLPs
got into trouble during the last cycle by over extending their balance
sheets. Magellan, in contrast, has only $3.51 in net debt for every
dollar generated in EBITDA. This leverage ratio represents one of the
most conservative in the industry and has allowed management to sail
through any downturn.
You can see this model pay off in the company’s financial results;
Magellan has never skipped a single payment to unitholders. Through the
two recent downturns in the oil patch, executives even managed to
increase the distribution.
The Bottom Line on Magellan
Get ready for Oil Boom 2.0.
These drillers have trimmed a lot of the fat from their businesses. If
oil prices stay above $50.00 a barrel, output could surge again over the
next few years.
Income investors, however, don’t need to bet the farm. Rather than
trying to strike it rich on the next gusher, “pick-and-shovel” plays
like pipelines provide the surer, safer way to profit. For this reason,
Magellan Midstream Partners represents one of my best dividend growth stocks for 2017.