For Now, This Stock’s 6% Dividend Yield Gets an “A” Rating for Safety

Like many other midstream master limited partnerships (MLPs), Spectra Energy Partners (NYSE: SEP) saw its share price annihilated as the price of oil fell from $90 per barrel to the $40 range.

This is a bit unfair, as midstream MLPs operate pipelines and storage facilities, and are generally not directly impacted by the price of oil. They’re not pulling the stuff out of the ground and selling it. The midstream companies simply charge a fee for transporting oil and gas along their pipelines or storing it in their tanks.

Since Spectra Energy began paying a dividend in 2007, the company has raised it every quarter without fail. Some of those increases have been tiny – a half of a cent in some cases – but the company has continually hiked the dividend.

[ad#Google Adsense 336×280-IA]The dividend boosts have been meaningful.

Over the eight years it has paid the dividend, the compound annual growth rate has been 9.4%.

The stock currently pays a 5.9% yield.

Impressive growth and a nice yield. But can it continue?

Last year, Spectra Energy generated $1.055 billion in distributable cash flow – a metric of cash flow used by MLPs. It paid shareholders $815 million in dividends for a payout ratio of 77.3%, right about at my comfort level of 75%.

This year, however, distributable cash flow is projected to fall about 9% to $958 million. If it does drop to the predicted level, cash flow will still be enough to pay what will likely be roughly $900 million in dividends, but that’s starting to cut it close. I prefer to see a bigger buffer.

The good news is the company is ahead of that $958 million pace, with $560 million in distributable cash flow through the first half of the year. And the second quarter’s total was higher than the first, even as the price of oil slid from the high $50s to below $38 per barrel.

Prior to the meltdown in the oil sector, Spectra Energy posted strong cash flow growth to go along with its ever-increasing dividend. This year has been quite unusual in terms of oil prices.

Even if oil prices stay low, oil companies will still need to store and transport product. And the price that a pipeline or storage tank operator charges is not tied to the price of oil. So there is no reason why Spectra Energy can’t once again enjoy growth in 2016 and beyond.

Management said to continue to expect 8% to 10% dividend growth and to expect distributable cash flow to eclipse the dividend payment by about 20%.

The company has a great track record as far as its dividend is concerned. Because of that and its cash flow, it gets the benefit of the doubt. But watch it closely when it reports year-end numbers. If the distributable cash flow can’t cover the dividend, I’d start getting a little concerned.

For now, Spectra Energy has earned the top Safety Net grade. But let’s see if the company can keep it.

Dividend Safety Rating: A

Hoping your longs go up and your shorts go down,

Marc

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Source: Wealthy Retirement