Magellan Midstream Partners, L.P.: Is It the Best Time to Consider This 10% Yield?
This High-Yield Stock Could Be Special
Quality items seldom go on sale, which is why if you care about fundamentals, finding high-yield stocks can be a difficult task. The idea is, high-quality dividend-paying companies are always highly sought after, and, as investors bid up their stock prices, the yields go down.
But with the COVID-19 pandemic, even solid dividend stocks took a beating. While some of them bounced back very quickly, others have yet to make a full recovery. And that means investors might be able to find quality and yield at the same time.
Check out Magellan Midstream Partners, L.P. (NYSE:MMP), for instance. The Tulsa, Oklahoma-based master limited partnership (MLP), which operates the longest refined petroleum products pipeline system in the U.S., has been paying generous cash distributions to investors for two decades. And yet its unit price plunged during the market sell-off in March.
While MMP stock has started to climb back up, it is still down more than 34% year-to-date.
Because Magellan Midstream Partners is still paying generous cash distributions, its yield shot up. To give you an idea, in January of this year, the MLP announced a quarterly cash distribution of $1.0275 per unit—which was higher than the November 2019 payout of $1.02 per unit. Considering that the partnership was trading around $64.00 at that time, it had an annual yield of 6.4%, which was not bad by any means.
Today, though, Magellan stock trades at just $40.92 per unit, and its quarterly distribution rate is still at $1.0275 per unit. As a result, the partnership is now offering an annual distribution yield of 10%.
I know; in today’s low-yield, low-interest-rate environment, a double-digit yield simply seems too good to be true. And with the COVID-19 pandemic and volatile commodity price environment, an energy stock with a huge payout can seem even more risky.
But this is not the first time Magellan Midstream Partners has encountered some headwinds. The partnership came into existence as a spin-off from Williams Companies Inc (NYSE:WMB) in 2001 as Williams Energy Partners, then changed to its current name in 2003. This means it has survived the Great Recession of 2007 to 2009 as well as the 2014-2015 oil price downturn. The most impressive part is that since the MLP was created, it has paid a higher cash distribution to unit holders every single year. (Source: “Cash Distributions,” Magellan Midstream Partners, L.P., last accessed August 11, 2020.)
What’s Behind MMP Stock’s Reliable Distributions?
One of the reasons behind MMP stock’s reliable distributions has been the partnership’s fee-based business model.Magellan Midstream Partners operates through two main segments: Refined Products and Crude Oil. Through Refined Products, Magellan mainly transports gasoline and diesel fuel via its 9,800-mile pipeline system that reaches nearly 50% of the refining capacity in the U.S.
While the volume of refined petroleum products pipelines are driven by market demand for transportation fuel, the tariff changes are set according to Producer Price Index. In the case of MMP’s refined products pipelines, the average tariff actually rose 4.3% in mid-2019 and around 3.5% on July 1, 2020. (Source: “Virtual Investor Conferences,” Magellan Midstream Partners, L.P., last accessed August 11, 2020.)
Through Magellan’s Crude Oil segment, the partnership has 2,200 miles of crude oil pipelines. The business is backed by long-term throughput commitments from creditworthy counterparties.
On top of all that, the partnership has more than 100 million barrels of storage capacity for petroleum products such as gasoline, diesel fuel, and crude oil.
The reality is that, in spite of it coming from the energy sector, Magellan Midstream Partners’ business is largely fee-based.
Management expects more than 85% of the MLP’s future operating margin to come from low-risk, fee-based activities. This should limit the partnership’s exposure to commodity price volatility.
Of course, with travel and economic restrictions related to COVID-19, Magellan Midstream Partners did experience a decline in financials in the second quarter. In particular, the MLP’s refined products operating margin was $171.4 million for the quarter, down $79.6 million from a year ago. Its crude oil operating margin decreased $34.9 million to $128.3 million. (Source: “Magellan Midstream Reports Second-Quarter 2020 Financial Results,” Magellan Midstream Partners, L.P., July 30, 2020.)
MMP’s distributable cash flow came in at $209.5 million for the second quarter of 2020. Again, this was substantially lower than the $314.8 million generated a year ago.
The neat thing, as I mentioned earlier, is that Magellan Midstream Partners, L.P. did not cut back its payout. In fact, management intends to maintain the current quarterly cash distribution rate for the remainder of 2020. They also expect the MLP to generate distributable cash flow of $1.0 billion to $1.05 billion for the full year.
Does that mean MMP stock’s distributions are safe?
Well, in the earnings conference call, the partnership’s president and chief executive officer, Mike Mears, said, “Based on our new DCF forecast range, we expect to generate $75 million to $125 million of excess cash, resulting in distribution coverage of approximately 1.1 to 1.14 times for the year.” (Source: “Magellan Midstream Partners’ (MMP) CEO Mike Mears on Q2 2020 Results – Earnings Call Transcript,” Seeking Alpha, July 30, 2020.)
Bottom Line on Magellan Midstream Partners, L.P.
At the end of the day, you can find businesses more recession-proof than the operation of refined products and crude oil pipelines. However, most of them simply don’t pay nearly as much in dividends as MMP stock does.
By maintaining the current distribution level, the partnership is actually on track to pay more in 2020 than in 2019. And if it reaches management’s guidance, it will achieve a margin of safety, too.