With interest rates likely to fall in the coming years as the Fed embarks on a rate-cutting cycle, income-oriented investors may be looking for places to invest that can offer higher yields and attractive yields. One of those options is an investment in a pipeline operator Energy transfer (NYSE:ET).
The company owns one of the largest integrated midstream systems in the US, where it transports hydrocarbons (natural gas, natural gas liquids and crude oil) and provides other services across the midstream value chain, such as storage, collection, processing and fractionation. among others.
Let’s look at three reasons to buy Energy Transfer stock like there’s no tomorrow.
A high yield and increasing spread
One of the first things that inevitably draws investors to Energy Transfer is the stock’s juicy 7.8% forward yield. The Master Limited Partnership (MLP) currently pays a quarterly distribution of $0.32, which will grow 3% to 5% per year going forward.
Please note that as an MLP, Energy Transfer pays a distribution and not a dividend. Although similar, the distributions include a return on capital that is tax-free until the units are typically sold, making them tax-deferred. However, investors do receive a so-called K-1 and must complete a number of additional tax forms.
While Energy Transfer halved distribution in 2020 to help restore balance, today distribution is higher than before the cut. The company’s balance sheet is currently in good shape, with leverage (as used by rating agencies) at the lower end of the targeted range of 4.0x to 4.5x.
At the same time, Energy Transfer’s distribution is well covered, as evidenced by the more than 1.8 times the distribution coverage ratio in the second quarter. This is based on the non-consolidated distributable cash flow, which is the cash flow before growth investments (capex). Energy Transfer has partial interests in a number of companies, so the unconsolidated number is the cash flow the company gets to keep.
Overall, Energy Transfer has a high, well-covered yield with a distribution that should continue to grow.
Growth opportunities
In addition to the good returns, Energy Transfer has solid growth opportunities ahead. The company has one of the largest backlogs in the midstream sector, with several projects set to come online next year and the year after.
It plans to spend about $3.1 billion on growth projects this year. The company typically aims for a return of at least 12% on its expenses, which would help boost earnings before interest, taxes, depreciation and amortization (EBITDA) by more than $370 million per year once all projects are fully ramped up.
Energy Transfer is also well positioned to supply natural gas to help meet the increasing energy needs of artificial intelligence (AI)-focused data centers. AI data centers use a tremendous amount of energy, and these businesses need reliable, cheap, and uninterrupted energy. Nuclear energy and natural gas are the best ways to provide this.
While cloud computing companies are beginning to focus on nuclear energy, most of these projects will be at least several years away. Meanwhile, Energy Transfer has signed deals with energy companies to supply more natural gas based on increasing demand for AI, and has held talks with cloud computing companies looking to build on-site energy generation.
All things considered, Energy Transfer has solid growth opportunities in the coming years.
Cheap stock
Despite Energy Transfer’s valuable midstream system, growth opportunities and solid financial foundation, its stock trades at one of the lowest valuations in the MLP midstream space.
Typically, investors value midstream companies based on a multiple of enterprise value and EBITDA (EV/EBITDA). The reason for this is twofold. The first is that enterprise value takes into account the amount of net debt a company has on its balance sheet. These are capital-intensive businesses, so space operators typically have debt to help finance their projects.
EBITDA, meanwhile, excludes non-cash depreciation charges that would otherwise be included in earnings. Midstream companies spend money on projects upfront through capex, and those expenses are then amortized over the useful life of the asset. Using EV/EBITDA, the costs of the projects are included in net debt, while EBITDA better reflects the company’s current operating profitability.
On this metric, Energy Transfer trades at an EV/EBITDA of 8.1 times based on 2025 estimates, well below historical levels and one of the lowest valuations in the MLP space.
The midstream MLP sector as a whole, meanwhile, is trading at a fairly large discount to just a few years ago, with the sector trading at a 13.7 times average EV/EBITDA multiple between 2011 and 2016. With the sector as a whole in better financial shape than during this period, the sector could see a higher valuation in the coming years if the midstream companies can demonstrate that they are AI energy winners.
Overall, given Energy Transfer’s current valuation and growth prospects, along with an attractive yield and growing distribution, the stock looks like a buy.
Do you now have to invest € 1,000 in energy transfer?
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Geoffrey Seiler has positions in Energy Transfer, Enterprise Products Partners and Western Midstream Partners. The Motley Fool recommends Enterprise Products Partners. The Motley Fool has a disclosure policy.
3 Reasons to Buy Energy Transfer Stocks Like There’s No Tomorrow was originally published by The Motley Fool
