Dividend Investing Ideas Center
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The carnage in the oil and gas sector has finally come to a head for many firms. Fighting dwindling cash flows and profits, and relatively high debt loads, many have taken the hard step of cutting their dividends. The list of dividend cutters reads like a who’s who of energy titans. ConocoPhillips (COP ), Kinder Morgan (KMI ), and Devon Energy (DVN ) are just some of the energy stocks that have recently taken their dividends to the woodshed. And like many dividends in trouble, these three companies sported some pretty eye-popping yields before slashing them.
So with pipeline firm Williams (WMB ) yielding a whopping 14.48%, investors must be thinking a dividend cut has to be in the cards. Nothing yields that much while being risk-free.
While that’s true, for WMB, and its high yield, the risks may be well taken care of, meaning investors may want to snag that 14% dividend for their portfolios.
WMB’s promise lies in its focus on natural gas. The firm operates one of the largest pipeline systems dedicated to the fuel, including plenty of gathering lines in key producing fields, like the Marcellus shale, fractionation, processing capacity, as well as plenty of interstate trunk lines. All in all, more than 30% of all the natural gas produced in the country passes through Williams’ system every day.
Given how important natural gas is to our future, this huge system of natural gas-dedicated pipelines makes WMB one of the best candidates to play the continued growth of the energy source.
It also makes Williams prone to nasty price swings.
Pipeline companies are great in the sense that they aren’t really affected by the underlying price of the commodity flowing through their lines; they just sit back and collect a fee for the use of their system. However, the lower-for-longer price environment for oil and natural gas is proving that idea slightly wrong. WMB might be immune, but its major system users like Chesapeake (CHK) and Southwestern Energy (SWN) are not.
Low prices have crippled cash flows at these producers as well as at others. For some, bankruptcy risk is very real. That’s left pipeline operators like WMB holding the bag. It’s also left investors in these pipeline firms exposed.
WMB’s on-again, off-again merger with rival Energy Transfer Equity (ETE) was also helping to push up the company’s yield. ETE agreed to buy WMB for around $38 billion to create the world’s largest pipeline operator. However, since that deal was announced about six months ago, the energy landscape has continue to shift downwards. The various values of all the moving pieces have been corrupted and complicated by the new lower price environment.
That and prices being paid by ETE have thrown some cold water on whether or not the merger will take place. With nothing potentially going right with the deal, investor pessimism is incredibly high. As a result, the merger saga and lower energy prices have pushed WMB shares down and pushed up the firm’s yield.
In the face of all of this, WMB managed to raise its dividend payment by 10% at the beginning of March. Don’t worry, there are plenty of reasons why Williams can keep that going in the future.
For starters, WMB has been willing to negotiate to keep customers and stay alive. SWN recently struck a deal with Williams for lower rates on its pipelines in order to save it some CAPEX costs. In exchange for giving Southwestern a break, WMB has been able to secure additional gathering rights, which means lower rates for more volume in the future. WMB struck a similar deal with Chesapeake. If those deals fall through and there is a bankruptcy scenario, whoever scoops up the pieces will have to use WMB’s gathering lines.
As for the merger, a failed one might be better for WMB’s future and its dividend. According to the complex terms of the deal, ETE will pay Williams a termination fee of $1.48 billion as well as a termination fee of $410 million as reimbursement to Williams Partners, L.P. (WPZ). All in all, that $1.89 billion in cash can be used to retire debt, shore its balance sheet and improve its coverage ratio. Further, it looks like ETE and WMB might be thinking about ending the failed relationship, according to various news sources.
As for WMB itself, its latest earnings report showed some improvement. The pipeline firm reported adjusted EBITDA of $1.07 billion for the fourth quarter. That was a 25% year-over-year increase and was fueled by a 36% increase in fee-based revenue at WPZ. WPZ managed to increase distributable cash flows by 169.9% year over year, which is important as WMB’s only assets are its ownership of WPZ.
Is WMB’s huge yield without risk? No. But are some of the risks perhaps being overstated by the market? Most definitely. Williams has one of the largest natural gas pipeline networks in the country and that network is producing the goods when it comes to earnings and cash flows from WPZ. The merger, which may not happen, is providing a major distraction. Investors may want to capitalize on this and buy WMB.