I own many investments that generate passive income. I currently get the most income from Energy Transfer(NYSE: ET). That's due to my growing position and the master limited partnership's (MLP) high-yielding and steadily rising distribution.
I'm very comfortable with my outsized investment in the high-yielding MLP. Here's why.
Building a top income-producing position
I've had an interesting history with Energy Transfer. I first added the midstream giant to my portfolio in early 2020, right before the pandemic hit. That turned out to be terrible timing on the one hand, because the MLP proceeded to slash its distribution in half to preserve cash.
However, Energy Transfer used the additional cash it retained to shore up its financial foundation. It repaid debt, which steadily drove down its leverage ratio. That strategy has really paid dividends for investors. Today, Energy Transfer has a strong investment-grade balance sheet with a leverage ratio in the lower half of its 4.0-to-4.5x times target range.
That improving leverage ratio has provided Energy Transfer with increased financial flexibility. It has used that flexibility to rebuild its payout (its current payment exceeds its pre-pandemic level) and consolidate the midstream sector. Energy Transfer has closed several accretive acquisitions over the last few years, including buying Crestwood Equity Partners in a $7.1 billion deal last year.
Crestwood was one of my larger holdings. Because of that, it enabled me to consolidate two top income positions into one stronger investment. I've also added to my Energy Transfer position several times over the past few years, further increasing my income from the position.
An elite income investment
Energy Transfer checks all the boxes for me. The midstream giant produces lots of steady cash flow. Roughly 90% of its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) come from stable, fee-based sources. The MLP also has a well-balanced asset mix. That combination of stability and diversification helps reduce risk.
Meanwhile, the company distributes a conservative percentage of its stable cash flow to investors. It currently produces around $8.5 billion of distributable cash flow each year, while making about $4.5 billion of distributions. That low 53% payout ratio enables it to retain roughly $4 billion of cash each year for other initiatives, like growth capital projects, further debt paydown, and unit repurchases. With growth in capital spending expected to be about $3.1 billion this year (and $2 billion-$3 billion annually over the long term), Energy Transfer has ample financial flexibility before tapping into its strong balance sheet.
Energy Transfer's capital investments will help grow its distributable cash flow. In addition, the company has made several accretive acquisitions over the past year to further enhance its growth rate. On top of acquiring Crestwood, the company bought Lotus Midstream last year for $1.5 billion and recently purchased WTG Midstream for $3.1 billion. With a strong balance sheet, Energy Transfer has ample financial flexibility to make additional accretive acquisitions as opportunities arise.
The MLP's growing cash flow supports a steadily rising distribution. Energy Transfer aims to increase its payout by 3% to 5% annually by raising its distribution payment each quarter ($0.0025 per unit, or $0.01 annually). That's a healthy growth rate for a company that already offers a monster yield (nearly 8%).
It's also highly achievable. The estimated accretion from the WTG Energy deal alone ($0.04 per unit in 2025, increasing to $0.07 per unit in 2027) will support distribution increases for several years.
A very lucrative, bankable income stream
While my investment in Energy Transfer got off to a rocky start, it has grown into my largest passive income producer over the years. The company should deliver even more income to me in the future, given its plans to steadily increase its payout each quarter. With a strong financial foundation and stable cash flow, this looks like a very bankable income stream. That's why I plan to continue holding a large position in Energy Transfer, and will likely keep adding to it in the future.
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Matt DiLallo has positions in Energy Transfer. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
