Enterprise Products Partners (EPD): A Compelling Long-Term Investment Opportunity

Introduction to Enterprise Products Partners (EPD)

Enterprise Products Partners (EPD) is a leading player in the energy infrastructure sector, specializing in the production, processing, transportation, and storage of natural gas, natural gas liquids (NGLs), crude oil, and petrochemicals. As a master limited partnership (MLP), EPD operates a unique business model that has historically provided strong cash flow generation and attractive yields to investors. Despite its solid fundamentals and consistent performance, EPD has underperformed in the market since it was first highlighted as a Long Idea in January 2023 and again reiterated in May 2024. The company’s strong position in the oil and gas industry, coupled with its attractive risk-reward profile, makes it a compelling investment opportunity for long-term investors.

EPD’s business is strategically positioned to benefit from numerous factors, including rising oil and gas production and demand, a robust “toll-taker” business model, significant investments in future demand, strong cash flow generation, and a cheap valuation. The company’s ability to capitalize on these factors while maintaining a disciplined approach to capital allocation underscores its potential to create significant shareholder value in the coming years.

What’s Working in Favor of Enterprise Products Partners

The U.S. oil and gas industry continues to demonstrate remarkable resilience and growth, with 2024 marking the seventh consecutive year that the United States produced more crude oil than any other country. U.S. crude oil production reached a record average of 13.2 million barrels per day (Mb/d) in 2024, up from 12.9 Mb/d in 2023. This upward trend is expected to continue, with production projected to grow to 13.6 Mb/d in 2025 and 13.7 Mb/d in 2026. This consistent growth in oil production has been a key driver for EPD, as the company is well-positioned to benefit from increasing demand for oil and gas.

In addition to crude oil, U.S. NGL exports have also seen consistent growth. Since 2010, NGL exports have risen from 194 thousand barrels per day (Mbbl/d) in January 2010 to 3,280 Mbbl/d in November 2024. This growth in NGL exports has been a significant tailwind for EPD, as NGL Pipelines & Services represent the company’s second-largest segment by revenue, accounting for 34% of total revenue. The continued expansion of NGL production and exports is expected to further bolster EPD’s financial performance in the coming years.

EPD’s “toll-taker” business model has been a key factor in its success. This model allows the company to generate revenue based on the volume of commodities transported through its pipelines and processed in its facilities, rather than on the commodity prices themselves. This structure provides a high degree of revenue stability, even in volatile energy markets. In 2024, EPD achieved record volumes across several key segments, including a 10% year-over-year (YoY) increase in natural gas processing inlet volumes, a 6% YoY increase in total equivalent pipeline volumes, a 3% YoY increase in NGL fractionation volumes, and a 6% YoY increase in marine terminal volumes. These volume increases highlight the company’s ability to scale its operations effectively and capitalize on growing demand for oil and gas.

Capitalizing on Future Demand

Enterprise Products Partners has been actively investing in additional capacity to meet future oil and gas demand. At the end of 2024, the company had $7.6 billion of major capital projects under construction, with $6 billion of these projects expected to be completed in 2025 and begin generating cash flow. These projects include two natural gas processing plants in the Permian Basin, the Bahia NGL pipeline, Fractionator 14, the first phase of an NGL export facility on the Neches River, and the expansion of ethane and ethylene marine terminals. Management has noted that these projects are supported by long-term contracts, which further enhances their viability and potential to generate consistent cash flow.

In addition to these projects, EPD is also building a new export terminal in Orange County, Texas, which is expected to come online in phases between the third quarter of 2025 and the first half of 2026. The company is also adding a 900 Mbbl refrigerated ethane tank to its ethane terminal at Morgan’s Point, which will enable higher loading rates. These investments demonstrate EPD’s commitment to expanding its infrastructure and positioned the company to capitalize on future demand for oil and gas.

Quality Fundamentals and Strong Financial Performance

Enterprise Products Partners has a strong track record of financial performance, with revenue and Core Earnings growing by 6% and 11% YoY, respectively, in the third quarter of 2024. Over the longer term, the company has grown its revenue and Core Earnings by 2% and 8% compounded annually from 2013 through the trailing-twelve-months (TTM) ended in the third quarter of 2024. This consistent growth underscores the company’s ability to generate strong and sustainable profitability.

In addition to its revenue growth, EPD has also improved its profitability margins over time. The company’s net operating profit after-tax (NOPAT) margin increased from 7% in 2013 to 13% in the TTM ended in the third quarter of 2024. Similarly, its return on invested capital (ROIC) improved from 10.7% to 11.8% over the same period. These improvements in profitability margins highlight the company’s ability to generate strong returns on its investments and its disciplined approach to capital allocation.

EPD has also been a reliable source of income for investors, with 2024 marking the company’s 26th consecutive year of increasing its distribution. The company’s distribution yield currently stands at 6.4%, providing investors with an attractive source of income. In addition to its distribution, EPD has also been actively repurchasing its units, with $188 million and $219 million worth of units repurchased in 2023 and 2024, respectively. The company has $1.1 billion remaining under its current authorization for unit repurchases, which provides additional support for investor returns. When combined, the distribution and repurchase yield provide investors with a total yield of approximately 6.7%.

Challenges and Risks Facing Enterprise Products Partners

Despite its strong fundamentals and attractive risk-reward profile, there are several challenges and risks that investors should be aware of when considering an investment in Enterprise Products Partners. One of the key risks is the expectation of slower growth rates in oil and gas production in the coming years. While demand for oil and gas is expected to continue growing, the rate of growth is projected to decline after a record year in 2024. According to energy executives at the Argus Global Crude Summit, oil output in the Permian Basin is expected to increase by 250,000 to 300,000 barrels per day in 2025, which represents a decline from the 380,000 barrels per day growth seen in 2024. While this growth is still positive, it represents a deceleration from previous years and could impact EPD’s ability to grow its volumes and revenues.

Another key risk facing EPD is the structural risks associated with its status as a master limited partnership (MLP). As an MLP, EPD is subject to certain risks, including potential conflicts of interest between the general partner and unitholders, as well as the risk of significant unitholder dilution. These risks are inherent in the MLP structure and could have negative implications for investors. However, the company’s cheap valuation relative to its non-MLP peers helps to mitigate these risks. As of the TTM ended in the third quarter of 2024, EPD’s price-to-economic book value (PEBV) ratio was 0.8, compared to an average PEBV ratio of 2.5 for its non-MLP peers. This significant valuation discount reflects the market’s concerns about the MLP structure, but it also presents an attractive opportunity for investors who are willing to take on these risks.

Strong Upside Potential for Enterprise Products Partners

Despite the risks, Enterprise Products Partners has strong upside potential based on its current valuation and future growth prospects. At its current price, EPD’s PEBV ratio of 0.8 implies that the market expects the company’s NOPAT to permanently fall by 20% from its TTM levels. This expectation seems overly pessimistic, given that EPD has grown its NOPAT by 5% and 7% compounded annually since 2018 and 2013, respectively. Using a reverse discounted cash flow (DCF) model, it is possible to quantify the cash flow expectations embedded in the current stock price and explore alternative scenarios that could drive upside for investors.

In the first scenario, if we assume that EPD’s NOPAT margin falls to 10% (below its five-year average of 16% and its TTM margin of 13%) and that revenue grows at a modest 3% compounded annually through 2033, the company’s NOPAT would decline by 1% compounded annually over the next decade. In this scenario, the stock would be worth $33 per unit, which is nearly equal to the current price. This scenario implies that the company’s NOPAT in 2033 would be 7% lower than its TTM NOPAT, reflecting a permanent decline in profitability.

However, if we assume a more modest decline in NOPAT margin to 12% and maintain the same revenue growth rate of 3% compounded annually through 2033, EPD’s NOPAT would grow by 1.5% compounded annually over the next decade. In this scenario, the stock would be worth at least $42 per unit, representing a 27% upside to the current price. This scenario demonstrates the potential for significant upside if EPD is able to maintain its profitability and achieve modest growth in revenue over the next decade.

Should EPD achieve profitability growth more in line with its historical levels, the stock has the potential for even greater upside. Comparing EPD’s historical NOPAT to the NOPAT implied in the DCF scenarios highlights the significant upside potential that exists if the company is able to continue growing its profits at a rate closer to its historical average. With its strong fundamentals, attractive valuation, and significant growth potential, Enterprise Products Partners represents a compelling investment opportunity for long-term investors willing to take on the risks associated with its MLP structure.

In conclusion, Enterprise Products Partners is a high-quality company with a strong track record of financial performance, a solid business model, and significant growth potential. While there are risks associated with its MLP structure and the expectation of slower growth rates in the oil and gas industry, the company’s attractive valuation and strong fundamentals make it an attractive investment opportunity for long-term investors. With its cheap valuation, strong cash flow generation, and potential for significant upside, EPD is well-positioned to deliver strong returns for investors in the years to come.