ET - Better High Yield Buy: Energy Transfer Or MPLX?

Summary

• ET and MPLX are high yield midstream businesses with investment grade credit ratings.
• MPLX has a vastly superior track record while ET is significantly cheaper.
• We compare them side by side and offer our take on which is a better buy at the moment.

Both Energy Transfer ( ET ) and MPLX ( MPLX ) are investment grade midstream master limited partnerships that sport attractive distribution yields. While their long-term track records are actually fairly close:

MPLX has a vastly superior track record over the past five years:

That said, ET is significantly cheaper today.

In this article, we will compare them side by side and offer our take on which one is a better buy right now.

MPLX Vs. Energy Transfer: Business Model

Both businesses enjoy pretty strong resistance to short-term swings in commodity prices thanks to their emphasis on fixed-fee, take-or-pay pipeline contracts as part of their midstream business models. Both businesses are also retaining a lot of cash flow after paying out distributions to unitholders, enabling them to not only self-fund capital expenditures but to also opportunistically reduce debt and deleverage their balance sheets.

MPLX's fully-integrated midstream business includes pipelines, gathering and processing, and storage assets. It also has a close interdependent relationship with its primary client and shareholder (Marathon Petroleum ( MPC )). That said, it is working on diversifying away from being solely dependent on MPC and now generates 46% of its business outside of MPC.

ET, meanwhile, is one of the largest and best diversified midstream businesses. Its cash flow stems from five different midstream subsectors and no more than 30% of its EBITDA is expected to come from any single subsector. Perhaps most impressive is that it services every one of the United States' major production basins, giving it an impressive midstream network and access to numerous growth opportunities. With only 10% of its expected 2022 adjusted EBITDA being commodity price sensitive and the remainder of its cash flows largely fixed to long-term inflation-linked fixed-fee take-or-pay contracts, ET is well positioned for the upcoming economic downturn.

MPLX Vs. Energy Transfer: Balance Sheet

MPLX has the slightly better credit rating at BBB compared to ET's BBB-, though ET is hoping to earn an upgrade to a BBB credit rating in the not-too-distant future.

ET's management said they expect to announce reaching their leverage ratio target of between 4x and 4.5x in their year-end report while having current liquidity of $2.32 billion (only 2.3% of total enterprise value). ET continues to prioritize improving its balance sheet, stating on its latest earnings call:

we're clearly looking at paying down as much as we can . There is still a little bit to go as far as getting what our free cash flow is going to be. But in fairness, we do have a very good capacity left on our revolver from our credit facility. So we've got options as to how to navigate that, and we're going to be careful. I don't really want to get out in front of it and try to preannounce. But you nailed it when you said looking at trying to pay down as much as we can of [2023 debt maturities] if not moving some of it to the revolver only because when you look out over the remainder of the year and you see what the free cash flow continues throughout the year, we have a lot of financial flexibility right now is the way I'd like to leave that, and we're going to play the best options we can of reaching all the targets that we want we're going after.

MPLX, meanwhile continues to deleverage its balance sheet as well and now reports a conservative 3.5x leverage ratio (its lowest level since 2017) and its debt maturity schedule is well laddered over the next decade. In fact, its expected annual free cash flow is expected to cover all of its upcoming maturities by at least 1.5x each year. As a result, it is in a very strong financial position.

MPLX Vs. Energy Transfer: Growth Potential

Both MPLX and ET continue to invest in opportunistic growth projects and analysts expect them to continue growing DCF per unit in the coming years, albeit at a fairly slow pace.

MPLX is expected to grow its distributable cash flow per unit at a 1.8% CAGR through 2026 whereas ET is expected to post a 1.6% DCF per unit CAGR over that same time span. Thus, this would appear to be a slight advantage for MPLX, though ET is a very close second.

On the distribution front, MPLX is expected to generate a 3.9% CAGR through 2026 whereas ET is expected to generate a 6.7% CAGR over that same time span. This makes sense given that ET has a much lower current distribution payout ratio than MPLX has (39.9% vs. 62.8%).

MPLX Vs. Energy Transfer: Risks

Despite all of their strengths and current performance momentum, MPLX and ET are not risk-free investments. Both are subject over the medium to long-term to the volatility of the energy market. While being commodity price resistant in the short term, as their midstream contracts expire, both will need to recontract in order to sustain cash flows. If energy prices are weak at the time, their pricing power will be reduced and cash flows will decline over the long-term.

Furthermore, MPLX is less geographically diversified as ET and also has much greater exposure to MPC. As a result, it is in a riskier position given its greater dependence on certain production basins and a single counterparty.

MPLX Vs. Energy Transfer: Valuation

While both businesses offer attractive distributable cash flow and distribution yields, ET is clearly significantly cheaper. Here is a side-by-side comparison of them:

ET's EV/EBITDA multiple is nearly two entire turns lower than MPLX's and it also trades at a meaningful discount to its five year average whereas MPLX trades at a slight premium to its five year average. ET's P/DCF is also way lower than MPLX's, making it a vastly superior cash flow machine.

Investor Takeaway

It is hard to pick against either of these MLPs as they both offer very attractive and safe distributions with further growth on the horizon. Additionally, their business models are set up to weather stagflationary periods quite well and have been performing well of late.

However, when picking between the two, we strongly favor ET given that it has greater distribution growth potential moving forward, its business model is more diversified and less dependent on another entity (like MPLX is with MPC), and offers considerably greater value at the moment. As a result, we hold ET as one of our largest positions at High Yield Investor and have high conviction in its future prospects.

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