Energy Transfer (ET 6.74%) is a large midstream master limited partnership (MLP). The big attraction for most investors here will be the lofty 7.8% yield backed by a growing distribution. In fact, the quarterly distribution was just increased again, extending the MLP’s quarterly increase streak that started in the fourth quarter of 2021.
But is Energy Transfer stock worth buying while it’s trading below $20?
What does Energy Transfer do?
As noted, Energy Transfer is an MLP that operates in the midstream sector. From a big picture perspective, it helps move oil and natural gas from where it is produced to where it gets used. It largely gets paid fees for the use of its assets, so cash flows tend to be fairly reliable even during energy industry downturns.
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That said, Energy Transfer is a bit more complex than many of its peers because it also acts as the general partner for two other publicly traded MLPs. Sunoco delivers gasoline to gas stations while USA Compression Partners provides compression services that help increase volumes on pipelines. In addition, Energy Transfer is overseeing a couple of liquified natural gas projects. There is a lot going on under the hood here, though the biggest business is still the core pipeline operation at the parent entity.
It is reasonable to view Energy Transfer’s additional businesses as diversifying operations. Which, in turn, might make the lofty 7.8% yield more attractive. However, there are two big caveats that investors need to consider before buying.
The big problems with Energy Transfer’s story
The first issue investors have to contend with here is a 50% distribution cut that took place during the coronavirus pandemic. Management pitched the cut as a way to help reduce balance sheet leverage, which isn’t a bad thing. However, the cut came at a time when most investors would probably have been looking for consistency in their portfolios. And reducing leverage basically means that management let leverage get too high in the first place.
All in, investors looking for income consistency will have to question their decision if they are considering buying Energy Transfer below $20. But that’s not the only problem.
In 2016, Energy Transfer agreed to buy peer Williams. It quickly got cold feet, saying that completing the deal would require taking on too much debt and/or result in a dividend cut. As it looked to get out of the deal, the company issued convertible securities, with the CEO at the time buying a large percentage of the issuance. The deal was called off, but it looked like the convertible would have protected the CEO from a dividend cut if Energy Transfer had completed the Williams acquisition as originally planned. That CEO is currently the chairman of the board.
If trust is important to you, the Williams deal, while many years ago at this point, should still be a big concern.
There are better options in the midstream space
For some income investors, the fact that Energy Transfer has a huge yield, produces reliable fee-based cash flows, and has a distribution that is growing again might be enough to make it a buy because its trading below $20. But if you have concerns, and there are good reasons to, you might want to look at peers like Enterprise Products Partners and Enbridge, which have attractive yields of 7% and 5.8%, respectively. Both have decades of annual disbursement hikes behind them and no history of questionable acquisition moves on par with what Energy Transfer did with Williams.
Reuben Gregg Brewer has positions in Enbridge. The Motley Fool has positions in and recommends Enbridge. The Motley Fool recommends Enterprise Products Partners. The Motley Fool has a disclosure policy.