As an investor matures in his or her journey, the value of dividend stocks typically becomes more pronounced. Given that no one can predict an equity’s market volatility, names like Enterprise Products Partners (NYSE:EPD) offer a compelling solution. Currently, ownership of EPD stock entitles you to a 6.4% dividend yield. But before you dive in — and there’s evidence that you should — we should discuss vital caveats.
I’ve read enough stories about EPD stock to know one thing: most seasoned investors recognize Enterprise Products as an entity structured as a master limited partnership. For those that don’t, they want writers and analysts to disclose this fact up front. So, here it is: Enterprise is indeed an MLP and you should understand its structural pros and cons before proceeding.
Primarily, as Larry Edelson of EdelsonInstitute.com explains, the federal government doesn’t tax an MLP’s income and losses at the entity level. Instead, they are “passed through” to the shareholders (partners). Thus, a shareholder of EPD stock avoids the double taxation inherent among standard corporate equities.
And because of this structure, MLPs are incentivized to push generous cash income distributions; hence, the hefty yield for owning EPD stock.
However, one of the less-discussed concerns about MLPs is their potential for devastating losses. While income is often passed through to individual partners, so are liabilities. Edelson warned about the bankruptcy of Breitburn Energy Partners, which resulted in shareholders owing taxes on each unit of shares held.
That’s on top of the hemorrhaging that shares of Breitburn endured. Needless to say, you must do extreme due diligence to pick the right MLP.
Is EPD stock such a name? Let’s discuss the positives.
Why EPD Stock Could Be the Best of the MLPs
Picking the wrong MLP to expose yourself to can have long-term, devastating consequences. But as far as EPD stock is concerned, you’re unlikely to suffer such an extreme fate. As one of North America’s biggest midstream energy services companies, Enterprise Products offers vital networks to the U.S. energy infrastructure. Therefore, a bankruptcy like Breitburn’s is not impossible, but at the same time not probable.
Further, because of Enterprise Products’ midstream business, it has many layers from which to extract revenue. In this case, midstream primarily means the storage, processing and transportation of energy products from the production level (upstream) to the refinement level (downstream).
At each cog within the midstream level, such as storage facilities and pipeline transfers, Enterprise Products mostly generates its gross operating margins from fees. And that’s huge for EPD stock for two key reasons. First, the underlying organization can extract revenue from each cog several times. Second, this strong fee-based sales allocation limits Enterprise’s exposure to the volatile commodities markets.
Personally, even if the company had heavier exposure to energy prices, I wouldn’t consider it a negative at this time. Although oil prices fell recently due to Middle Eastern tensions fading, this is unlikely to hold. The region has been a hot spot for decades, with no permanent solution in sight.
That aside, the primary driver for Enterprise Products is oil and gas demand. Although green energy companies like Tesla (NASDAQ:TSLA) threaten fossil fuels on paper, for the foreseeable future, oil is king.
It Comes Down to Preference
When you drill into the facts, Enterprise Products offers the benefits of MLPs — namely, the generous dividends — while substantially mitigating the risks via a robust and relevant midstream business. Furthermore, this business is levered to actual functionalities (fees), as opposed to the unpredictability of the commodities market.
Still, the company isn’t perfect. Primarily, Enterprise, like other oil names, has been struggling to regain its mojo since the energy crisis of last decade. And second, its fiscal stability has significant room for improvement. For instance, the organization has steadily issued new debt since before the Great Recession.
Relative to oil peers, I believe most analysts would label EPD stock as undervalued and a solid contrarian pick. Therefore, it may come down to personal preference.
One of the things that I don’t like about MLPs that I didn’t mention above is the Schedule K-1. As a partner of the MLP, you must file it with the IRS: again, the income/loss taxation occurs at the individual partner’s level.
I already have enough paperwork in my life that adding more is not what the doctor ordered. But if you don’t mind the extra effort, then EPD stock might be worth a look.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.