An Attractive 7.1% Dividend Yield From a Resilient Energy Company

The S&P 500 has doubled off its bottom last year and climbed to new all-time highs. Consequently, it has become hard for income investors to identify attractive stocks with high dividend yields. Oneok, Inc. is a bright exception. The stock is offering a 7.1% dividend, which is safe for the foreseeable future thanks to the resilient business model of the company. In the current market environment, when a stock offers a high yield, it usually signals that its dividend is at risk. However, Oneok appears to have a secure dividend payout, making the stock attractive for income investors. Business Overview Oneok is an energy company based in Tulsa, Oklahoma. It engages in the gathering and processing of natural gas, it provides services in the business of natural gas liquids (NGLs) and owns natural gas pipelines (interstate and intrastate). The company has a 40,000-mile network of NGLs and natural gas pipelines and provides midstream services to producers, processors and customers. Its assets are ideally positioned in the major shale basins, Permian and Bakken. More than 10% of the total U.S. natural gas production goes through the network of Oneok. Most energy companies are highly cyclical due to their sensitivity to the cycles of oil and gas prices. Oneok is superior in this aspect, as it has a fee-based business model, which is remarkably resilient to the cycles of the energy sector. The NGLs segment of Oneok generates approximately 90% of its earnings from fees, which are hardly affected by the prevailing prices of NGLs. The segment of natural gas gathering and processing generates 85% of its earnings from fee-based contracts while the division of natural gas pipelines generates more than 95% of its earnings from fee-based contracts. Overall, approximately 90% of the earnings of Oneok are fee-based, meaning the company is hardly affected by the gyrations of commodity prices. Recent Earnings In 2020, most energy companies saw their earnings collapse due to the coronavirus crisis, which caused a fierce global recession. Oneok was inevitably affected but its distributable cash flow per share decreased only 13%, from $4.84 to $4.23. Such a performance amid one of the most severe recessions in history is a testament to the robust business model of Oneok, particularly given the hefty losses posted by many energy companies. In the second quarter of this year, Oneok proved that it has fully recovered from the pandemic. It reported an 86% increase in NGL volumes in the Rocky Mountain region and a 52% increase in natural gas volumes processed in the Rocky Mountain region over last year's quarter. As a result, it nearly doubled its distributable cash flow, from $301 million to $570 million, and posted a strong dividend coverage ratio of 1.37. It also provided rosy guidance for the full year. It expects distributable cash flow per share between $4.81 and $5.48. At the mid-point of $5.15, this guidance implies record results, with 22% growth over last year. The strong performance will result from higher volumes of NGLs and natural gas in the Williston Basin, lower pipeline costs and the contribution of recently completed growth projects. Growth Prospects Thanks to some major growth projects in recent years, such as fractionation services in the Permian Basin, the company has grown its distributable cash flow per share at a 10.9% average annual rate over the last decade. This is undoubtedly an admirable growth rate for a midstream energy company. Even better, Oneok has ample room for future growth. It recently completed growth projects worth $5 billion. These projects will significantly enhance the cash flows of the company in the upcoming years. For instance, the NGL capacity in the Rockies Region has nearly doubled over last year, from 161,000 barrels per day to 299,000 barrels per day in the most recent quarter. Even better, the capacity can expand further with minimal capital requirements. Investors should also be aware of the secular growth of the demand for natural gas. Most countries have environmental policies that aim to reduce the consumption of coal and oil. However, these policies do not aim to reduce the consumption of natural gas, which is considered the cleanest fossil fuel on earth. Therefore, investors can rest assured that the business of Oneok will continue to benefit from this secular tailwind for decades. It is also worth noting that Oneok's management is disciplined in investing in high-return projects. While all managements claim that they invest in high-return projects, the management of Oneok is credible thanks to the exceptional growth record of the company. Dividend Analysis Oneok is currently offering a 7.1% dividend yield. Fortunately, it has a much more resilient business model than most energy companies. Thanks to its fee-based model, the company enjoys fairly reliable and predictable cash flows. As a result, it can operate with a higher amount of leverage than the average energy company, without facing liquidity issues. This advantage of Oneok was evident in the coronavirus crisis last year, when the company achieved strong cash flows while other energy companies were bleeding cash. This helps explain the strong BBB- credit rating of Oneok. In the first half of this year, Oneok posted a strong dividend coverage ratio of 1.48, with its distributable cash flow exceeding its dividend by $399 million. Given also the aforementioned expected contribution from recently completed growth projects, the dividend appears to be safe for the foreseeable future. It is also important to note that Oneok has raised its dividend for 25 consecutive years. Such a long dividend growth record is exceptional in the energy sector, whose cyclicality forces nearly all the companies of the sector to cut their dividends every few years. As the 25-year period includes the Great Recession, the collapse of the price of natural gas in 2014-2015 and the pandemic crisis in 2020, it is evident that Oneok can defend its dividend even under the most adverse business conditions. The only risk for the dividend is a scenario of a prolonged pandemic. Such a scenario could result from a major mutation of the virus, which would render the existing vaccines useless. However, while such a scenario cannot be excluded, it has a low probability of materializing. Even if the pandemic takes a turn for the worse, the U.S. government is not likely to impose the unprecedented lockdowns it imposed last year. In other words, the worse seems to be behind Oneok in reference to the pandemic. Final Thoughts When a stock offers an abnormally high dividend yield, most investors dismiss it without performing due diligence, fearing that the dividend will be cut upon the next downturn. While many high-yield stocks are risky, there are a few exceptions in this rule. Oneok is offering a 7.1% dividend, which is safe for the foreseeable future thanks to the strong coverage ratio of the company, its resilient business model and its growth prospects.

An Attractive 7.1% Dividend Yield From a Resilient Energy Company

While many high-yield stocks are risky, there are exceptions to this rule.

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