Energy Transfer Had a Terrible Quarter: Here’s Why It’s Still a Buy

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Energy Transfer (NYSE:ET) limped into 2021. The midstream giant posted terrible fourth-quarter results to end 2020 as its earnings and cash flow slumped because of turbulent oil market conditions. That pushed its full-year numbers below 2019’s level.

However, while the fourth quarter was a tough one for the master limited partnership (MLP), better days appear to be ahead. That means it looks like a compelling buy.

A twist of pipelines with a bright sun shining through.

Image source: Getty Images.

Diagnosing the tough quarter

Energy Transfer’s adjusted EBITDA declined by 6.4% during the fourth quarter, while its distributable cash flow fell almost 10%. The primary culprit was its crude oil transportation and services business, which posted a 23.5% earnings decline. That was due to lower oil prices, which weighed on production volumes on its Texas and Bakken pipeline systems. Prices also affected the money it makes on the difference between oil it buys in production basins and sells into market centers.

The company’s natural gas liquids (NGL) and refined products segment also faced some headwinds during the fourth quarter. Earnings in that business unit fell more than 5% because of lower NGL prices and weak demand for gasoline blending activities because of the pandemic.

Multiple sources to fuel its recovery

While lower oil prices affected some of Energy Transfer’s operations during the fourth quarter, that headwind should fade in 2021. Crude prices are already up more than 35% this year and pushing toward a two-year high. Volumes should rebound back to their pre-pandemic levels in the coming months and could head even higher by year-end if demand picks back up. That leads the MLP to forecast that its earnings will rebound in 2021 to a range of $10.6 billion to $11 billion, about 3% higher than 2020’s level. However, there’s plenty of upside to that forecast if volumes surge because of higher oil prices.  

While earnings are on track to improve, Energy Transfer’s capital spending is on pace to fall about 50% this year. Furthermore, it could drop another 50% or more in the 2022 to 2023 timeframe. The company is on track to produce a growing stream of excess cash after paying its 7.5%-yielding dividend. The MLP initially expects to use that money to repay debt. That should take some of the pressure off of its unit price, which has slumped 35% since the start of 2020.

Another catalyst for balance sheet improvement is Energy Transfer’s pending merger with Enable Midstream (NYSE:ENBL). The two MLPs recently agreed to a $7.2 billion deal. The transaction will add $1 billion to its bottom line. Furthermore, it will enhance its credit profile and asset footprint while generating at least $100 million in annual cost savings.

Despite all these catalysts, units of Energy Transfer currently trade at dirt a cheap price. As mentioned, the MLP has lost about a third of its value since the start of last year, even though its earnings are only marginally lower, leaving it trading at less than 8 times its earnings. Meanwhile, it’s even cheaper after factoring in its upcoming combination with Enable, which it bought for a reasonable valuation. Given that cheap price, Energy Transfer could start using some of its excess cash to buy back equity once it gets its balance sheet back on rock-solid ground.

Poised to bounce back big-time

Energy Transfer had a lousy fourth-quarter because of the oil market’s continued weakness as it recovers from the pandemic. However, with vaccines rolling out and OPEC maintaining its support, crude prices have rocketed out of the gate in 2021. Thus, Energy Transfer’s earnings should improve. Meanwhile, its free cash flow should soar because of lower spending and its upcoming merger with Enable Midstream. That will enable the MLP to quickly get its balance sheet in tip-top shape, which would allow it to start buying back some of its dirt cheap equity. When adding in its high-yield dividend, this combination of catalysts could give the MLP the fuel to produce big-time total returns, which is why it looks like a buy despite its terrible fourth-quarter showing.

 

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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