ENBA - Enterprise Products Partners Q4 Earnings: 2 Very Important Takeaways

Summary

• EPD just released Q4 and FY2022 results.
• The company provided two very important updates that significantly impact the investment thesis.
• We discuss these in detail and offer our updated outlook on EPD.

Enterprise Products Partners ( EPD ) just released Q4 and FY2022 results which only further strengthen its case for being the top blue chip Sleep Well At Night (i.e., "SWAN") midstream stock. For those who wish to check out the headline numbers, you can check out Seeking Alpha's detailed summary here .

Instead of boring you with a repetition of those numbers in this article, I will devote my focus to diving into two very important updates provided by management on the earnings call that significantly impact the investment thesis. In this article, we discuss these in detail and offer our updated outlook on EPD.

Important EPD Update #1: A Fortress Balance Sheet Is Getting Even Stronger

EPD's leverage ratio continued to plummet thanks to retaining cash flow and growing EBITDA at a faster pace than expected, ending the year with adjusted EBITDA of $9.3 billion. As a result, the net debt to EBITDA ratio fell from 3.1x at the end of Q3 to 2.9x at the end of Q4. This gives them enormous leeway relative to their previous leverage target range of 3.25x - 3.75x.

However, management is not stopping there, announcing that it has reduced its target leverage ratio range by half a turn to 2.75x - 3.25x. While EPD already had one of the most conservatively positioned balance sheets in the sector, it is now headed to a league of its own. Compared to fellow BBB+ rated peers like Enbridge ( ENB ), TC Energy ( TRP ), and Magellan Midstream ( MMP ), EPD's leverage ratio is vastly lower. They explained this long-term conservative approach to managing the balance sheet on their earnings call :

To support our financial goals to responsibly grow the partnership and provide our limited partners with a growing and resilient stream of cash distributions over the long term, we believe we have entered into a new era in which it is wise to have a stronger balance sheet than historical norms in the energy industry. We are seeing our customers in the E&P, refining and petrochemical sectors do likewise. As a result, we are lowering our target leverage ratio from 3.5 times to 3.0 times, plus or minus a quarter of a turn. That is a range from 2.75 times to 3.25 times. And as we've noted earlier, our leverage for 2022 we ended at 2.9 times. So we're in good shape with regard to this new target.

As a result, the business is in phenomenal territory to weather any headwinds that may come its way and its distribution looks safer than ever. Furthermore, EPD is also now very well positioned to capitalize on attractive opportunities as they come along. As management went on to point out:

We would be willing to temporarily take our leverage ratio above this target zone, if necessary, to complete an acquisition or an organic growth project that is strategic to the partnership...between the Navitas deal and then the two deals that we did at the end of 2022, we are interested in asset acquisition opportunities that make sense that can come in and bolt on to our system and get good returns on capital that way. And that's where the lower leverage gives us flexibility to come in and do these cash transactions to do that.

Meanwhile, investors can rest assured that the BBB+ credit rating is also in phenomenal shape, leading management to state:

I can't envision a scenario where we would come in and take leverage up to a level that would threaten a BBB plus rating.

Important EPD Update #2: More Clarity Around Future Distribution Growth

Another very important update to the EPD thesis is that management made a firmer commitment to higher distribution growth moving forward:

I think over the last, call it the last 18 months, we've shown -- we've sort of completed that pivot to go from an externally funded model to an internally funded model. And we had slowed distribution growth there for about three years or so. And over the last, call it 18 months, we've taken that distribution growth back up to about 5% area. So we have increased the pace of distributions. And then the buybacks, we continue to do that opportunistically. So we feel like we're in good shape to execute on opportunities that come to us in 2023, 2024. So we feel like we're sort of checking the box of returning capital and all of the above and also maintaining lower leverage at the same time.

This statement is significant because, while management had recently increased the pace of distribution growth, there was not a firm commitment to doing so moving forward. Instead, management had emphasized that growth was merely dictated by their payout ratio. Since times were good for the energy industry, there was a case to be made that this was just a short-term acceleration in the distribution growth rate.

However, now with management significantly reducing the leverage on the balance sheet and stating on the earnings call that they have "increased the pace of distributions to the 5% area" with a very strong distribution coverage ratio of nearly 2x, it appears like the company is set on a new course of growing the distribution in the 5% annualized range for the foreseeable future. When combined with the 7.6% distribution yield, the $250 million worth of buybacks in 2022, and management's strategic bolt-on acquisitions and growth investments, the total return profile at EPD looks quite compelling, especially compared to its increasingly low risk profile.

Investor Takeaway

EPD continues to grind out solid results quarter after quarter like clockwork, making it arguably the most dependable and lowest risk high yield common equity in the entire stock market.

The announcement that the company would be reducing its target leverage ratio by half a turn is crucial to the thesis because it moves EPD from a Low Risk investment to a Very Low Risk investment in our view and - as management effectively admitted on the earnings call when pressed by analysts - gives it an A- credit rating caliber balance sheet, though they likely plan to deny such a credit rating increase for various strategic reasons. This makes its yield even more bond-like and makes it even more resistant to interest rate and macroeconomic volatility.

The indication from management that it views 5% as its new annualized dividend per share growth rate is significant as well because it makes EPD into more than just a bond-like high yield security; it makes it a solid DGI investment as well. As a result, we view it as more attractive than ever at its current price and rate it a Strong Buy. We believe it should trade at an EV/EBITDA of at least 10x right now, so we put our Buy Under Price at $28.5.

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