Energy transfer (NYSE: AND) and Antero Midstream (NYSE: AM) are high-yield midstream companies. However, while their current yields are attractive, investors in both companies have suffered a sharp reduction in payouts as a result of the COVID-19 outbreak and the energy market. crash. ET halved its distribution from $0.305 per quarter to $0.1525 effective with its 11/19/20 payout and AM reduced its quarterly dividend from $0.3075 to $0.225 effective with its 12/12 payout. /05/21.
That said, both companies have made solid fundamental progress since those payout cuts and are now on stronger fundamentals with a positive outlook for the years to come. Overall, we prefer ET to AM at the moment, and share three reasons in this article.
#1. Better diversification
AM has a strong portfolio of fully integrated midstream assets that are 85% focused on processing and gathering natural gas in the lowest cost natural gas basin in the United States. Moreover, its only client – Antero Resources (AR) – retains a lot of cash flow and uses much of it to aggressively pay down debt in an effort to earn a premium credit rating. As a result, it should have no problem honoring its interim contracts for the foreseeable future. That said, AM activity is quite small and highly concentrated in terms of geography and counterparties, as it is largely dependent on a single pool and a single counterparty.
In contrast, ET has one of the most diversified midstream businesses in the market with a fully integrated portfolio of midstream assets that includes nearly 120,000 miles of pipeline in 41 states and a strategic footprint in all major production basins in the states. -United. It also generates a well-balanced revenue stream from various business segments, including midstream, intrastate and interstate natural gas transportation and storage, crude oil, NGL and refined products, NGL fractionation and various acquisition and marketing assets. As a result, ET transports about a quarter of all US natural gas, more than a third of all US crude oil, and exports about a fifth of global NGL exports. Additionally, its cash flow profile is very stable, with around 90% of its forecast adjusted EBITDA for 2022 coming from fixed-fee contracts.
As a result, ET exposes investors to much less downside risk than AM, resulting in a higher risk-reward ratio at the fundamental level.
#2. Better potential for payment growth
ET also offers investors vastly greater payout growth potential compared to AM.
AM’s management said on its latest earnings call that during the second quarter its free cash flow was just enough to cover its dividend. As a result, there is currently no possibility of increasing the dividend without going into debt to do so. Since AM’s credit rating is only a BB from S&P, AM is not in a position where he wants to do that.
In fact, while management expects to finally start generating positive free cash flow net of dividends in the second half of this year, it does not plan to increase the dividend in the near term. Instead, it plans to aggressively deleverage to improve credit rating and further strengthen the overall balance sheet by reducing its leverage ratio from 3.6x to below 3.0x.
As management recently stated:
Looking to the second half of the year and beyond, we expect to generate increasingly positive free cash flow after dividends. This was mainly due to the decline in capital as we completed some key growth projects such as Castle Peak station in the first half of the year. This allows us to start paying down debt and reducing our leverage towards our 3x target.
Looking to 2023, we expect EBITDA growth and lower capital to result in strong free cash flow after dividends. This trajectory is expected to continue through 2024 and beyond as volume increases, fee rebate with AR expires and capital decreases. The increase in free cash flow after dividends will lead to an increase in debt repayment and a reduction in our leverage towards our 3x target. We expect to achieve this 3x leverage target in 2024, at which time we will evaluate other capital return strategies.
By contrast, ET is in the midst of a rapid distribution growth spurt, which is fueled by a significant amount of net free cash flow generation from distributions. As management stated in its last earnings call:
On July 26, we announced a quarterly distribution of $0.23 per common unit or $0.92 on an annualized basis, which represents an increase of more than 50% compared to the second quarter of 2021.
As a reminder, future distribution level increases will be assessed quarterly with the ultimate goal of returning distributions to the previous level of $0.305 per quarter or $1.22 on an annualized basis…we will continue to assess the return of additional capital to our unitholders through distribution growth on a quarterly basis.
While AM isn’t even considering increasing its dividend until 2024 at the earliest, ET has already increased its quarterly distribution by more than 50% in a single year and very likely could increase it by another 33% over the next few years. next quarters. This extremely optimistic outlook for ET’s distribution growth should provide it with a much stronger stock price catalyst compared to AM, making it a more attractive short-term bet.
#3. Much better value
While ET’s vastly superior diversification compared to AM results in lower downside risk and its more compelling near-term payout growth potential also provides it with a larger near-term upside catalyst, the upside potential ET’s long-term outlook is also superior to AM’s in our view. . This is largely due to the fact that its valuation is currently more attractive.
While AM’s price to DCF 2022E is 7.4x and its price to DCF 2023E is 7.0x, ET’s price to DCF 2022E is only 4.7x and its price compared to the DCF 2023E is only 4.6x. Additionally, ET’s EV/EBITDA ratio is currently only 7.79x while AM’s is 8.67x.
Key takeaway for investors
Between its industry-leading diversification and stronger balance sheet that gives it a lower risk profile than AM, its strong potential for near-term distribution growth, and its considerably cheaper valuation, ET is a middle-of-the-road investment. much more convincing than AM is in our opinion.
The only reasons we think the AM might be worth buying instead of or in addition to the ET are because it’s more of a pure natural gas play, and that it also issues a 1099 tax form unlike the K1 tax. form issued by ET. We are evaluating ET a strong buy and AM a buy at this time.