Key Points
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Investors always have to make a trade-off between risk and reward.
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Energy Transfer has an attractive 6.5% yield, but one risk makes Enterprise’s 5.8% yield more desirable in my book.
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Energy Transfer (TXSE: ET) is targeting 3% to 5% annual distribution growth for the foreseeable future. That’s basically what investors have gotten from peer Enterprise Products Partners (NYSE: EPD) for decades. If you don’t consider the history of these two master limited partnerships (MLPs), you might choose Energy Transfer’s higher 6.5% yield. But if you place a high value on trust when making an investment, as I do, you may be better off with Enterprise’s 5.8% yield. Here’s what you need to know.
Enterprise has been reliable and boring
Enterprise is most definitely not a more exciting investment than Energy Transfer. But income investors usually prefer boring, reliable investments. On that front, Enterprise’s well-above-market 5.8% yield is backed by 28 consecutive annual distribution increases, an investment-grade-rated balance sheet, and a solid distributable cash flow coverage ratio of 1.7x in 2025. There’s a lot of room for adversity before a distribution cut would be in the cards.
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Enterprise is the kind of passive income investment you buy and check in on a few times a year. Not one you have to watch like a hawk. That isn’t something I can say about Energy Transfer. For starters, its business is a bit more complex, with the partnership acting as the general partner for two other publicly traded partnerships. But the real story here requires a look back at previous events, including a 2020 distribution cut.
To be fair, that 2020 distribution cut was meant to allow the MLP to reset its business, using the freed-up cash to reduce leverage. It did that, and the distribution is growing again, with the new target being 3% to 5% annualized growth. However, that cut came during the coronavirus pandemic, when dividend investors would probably have preferred income consistency. That decision, while good for the business, was likely a big letdown for many unitholders.
Energy Transfer’s other misstep is harder to quantify
Energy Transfer had another issue in 2016, when it agreed to buy pipeline peer Williams (NYSE: WMB) but then got cold feet. It was able to scuttle the deal, but there was a risk that consummating it as originally planned would require a dividend cut. During that uncertain period, Energy Transfer issued convertible securities that appear like they would have allowed insiders to avoid the impact of a dividend cut, if one were enacted.
The Williams deal was called off, and there was no dividend cut, so the convertibles turned into a non-issue. However, it left me with trust issues that were compounded by the 2020 dividend cut. For investors willing to look ahead and effectively overlook these two historical events, Energy Transfer’s 6.5% yield will appear more attractive than Enterprise’s 5.8%. To me, the extra yield wouldn’t be enough to justify switching from a high-yield investment I can sleep well owning to one that risks keeping me up at night.
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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool recommends Enterprise Products Partners. The Motley Fool has a disclosure policy.
