Energy Transfer: Last Chance To Jump Aboard Before The Recovery

Summary

Energy Transfer has seen their unit price remain sluggish throughout 2021 following their distributions being halved in late 2020.

Thankfully management is indicating that distribution growth is poised to return in early 2022, which is supported by their surging free cash flow.

Even if their distribution growth never returns, their units are already priced accordingly with the market assigning no value to most of their free cash flow.

If their distributions grow modestly, their intrinsic value is an extremely impressive over 70% higher and thus investors can generate very significant alpha.

I feel that a new era of distribution growth will see the market recognize their immense value and thus I believe that maintaining my very bullish rating is appropriate.

koyu/iStock via Getty Images Introduction

The United States midstream giant, Energy Transfer ( ET ) has seen its unit price remain sluggish despite fluctuating across the months since the beginning of the Covid-19 pandemic that ultimately saw its distributions halved. When looking into 2022, thankfully, they should enter a new era of distribution growth that should reignite interest in their out-of-favor units, which makes the end of 2021 possibly the last chance to jump aboard before the recovery. Background

Despite initially fighting to sustain their distributions throughout the first nine months of 2020, sadly they relented and as a result, they were halved during the fourth quarter to the disappointment of many income investors, myself included. Whilst 2021 has not seen any distribution growth, this appears poised to change with a new era of growth on the horizon as soon as early 2022, as per the commentary from management included below. Additionally, our strong performance in 2021 opens the door for the potential to begin returning value to our unitholders in the form of distribution increases and/or buybacks beginning next year.” – Energy Transfer Q3 2021 Conference Call.

Following this supportive commentary from management, it begs the question of whether they could afford to reinstate their previous distributions one day in the future. Thankfully, the arguably most important determining factor for their future distributions has been performing strongly, being their cash flow performance. Image Source: Author

Despite seeing their operating cash flow of $7.361b during 2020 decrease 8.63% year-on-year from their result of $8.056b during 2019 due to the severe economic downturn, it has thankfully already recovered strongly as operating conditions improve. Throughout the first nine months of 2021, they already generated a massive $9.423b of operating cash flow, thereby representing a very impressive 65.77% year-on-year increase versus their equivalent result of $5.455b during 2020.

Although to be fair, they saw a sizeable one-off boost during the first quarter of 2021 thanks to the Texas Winter storm but even if looking at their third-quarter results in isolation, they still generated operating cash flow of $2.263b, which annualizes to $9.052b. If the same logic is applied to their second quarter of 2021 operating cash flow of $2.005b, it annualizes to $8.02b and thus shows that at a minimum they are broadly back to the same annual rate as during 2019 before the downturn and barring another sudden economic downturn, this should continue into 2022 and beyond. This recovery provides a solid base to see their free cash flow surge in 2022, especially with their growth capital expenditure forecast to fall in tandem, as the slide included below displays. It can be seen that their guidance for 2022 and 2023 shows their growth capital expenditure is forecast to decrease by $1b at the midpoint versus 2021 to only $600m per annum. When combined with their maintenance capital expenditure that has been $371m for the first nine months of 2021, which annualizes to approximately $500m, it should see their total capital expenditure for 2022 and 2023 come in at approximately $1.1b. When subtracted from their estimated operating cash flow of $8.5b at the midpoint, it leaves an estimated free cash flow of approximately $7.4b or more aptly, $6.15b after further subtracting their usual circa $1.25b per annum of miscellaneous cash expenses that are detailed beneath the graph included above.

This very impressive free cash flow could easily afford to not only cover their previous distributions but even continue deleveraging at the same time. Even after completing their recent acquisition of Enable Midstream that sees a further 374,649,049 units issued for a total of 3,080,504,221 after combined with their latest outstanding count of 2,705,855,172, their quarterly distributions of $0.305 per unit would cost $3.758b with their current distributions obviously only costing half this amount […]

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