Recent Buy

buyThe broader market continues to show strength on the back of speculation that the Federal Reserve will continue Quantitative Easing because the economy has not shown that it is strong enough to continue a recovery by itself. Whether or not QE continues or tapers, and whatever the reason the broader market continues to be modestly overvalued really matter not to me. I don’t focus on major macroeconomic trends or try to predict the future, and my success doesn’t hinge on my ability to do so. My success simply hinges on my ability to find wonderful businesses and buy equity positions in these businesses at attractive prices relative to their intrinsic value. I believe that equity positions in high quality businesses is the best way to build wealth over the long haul.

As such, I decided to put more cash to work into what I believe is a high quality business trading for an attractive price on a long-term basis.

As part of my Recent Buy series, I try to let my readers know of any equities I purchase soon after the transaction is completed. This is just one way I try to document my progress toward early retirement and financial independence.

I purchased 35 shares of Oneok, Inc. (OKE) on 6/10/13 for $43.95 per share.

Oneok is a diversified energy company. They operate in three segments, including: Oneok Partners, Distribution and Energy Services (Energy Services to be discontinued April 1, 2014, however).

This is a really interesting company. While they are one of the largest natural gas distributors in the United States, serving over 2 million customers throughout Oklahoma, Texas and Kansas and while they also have the Energy Services segment that primarily markets natural gas and related services to other natural gas distribution companies, electric-power generators and industrial customers, the primary reason I invested in OKE is for the sole General Partner and 43.4% ownership of Oneok Partners, L.P. (OKS). This is the real growth engine behind the company, and makes this company one of the premier midstream energy companies in America.

Oneok Partners, L.P. (OKS) is a Master Limited Partnership that focuses on the gathering, processing, storage and processing natural gas and natural gas liquids.

OKE’s future growth will be largely dependent on the growth of OKS because they not only own 43.4% of the Limited Partner units, but also 100% of the Incentive Distribution Rights, which effectively grants OKE an increasing share of the cash flow the partnership generates. Combine a growing payout directly to OKE via the IDR (because they are the sole GP), along with growing payouts to the Limited Partners (of which OKE owns 43.4% of) and one can see how this investment can provide superior cash flow returns to an investor. Another factor that continues to tie OKE’s success to OKS is the fact that OKE continues to purchase OKS common units while simultaneously buying back OKE shares. If OKS continues to grow and focus on high ROE projects, OKE will continue to see outsized returns from the partnership. OKS has announced $4.5 billion of growth projects through 2015 and OKE has targeted dividend growth of 65-70% between 2012 and 2015.

I’ve discussed why I’m such a fan of ownership stakes in General Partners of well-run Master Limited Partnerships before. I’m long Kinder Morgan, Inc. (KMI) and discussed some of the thesis behind that ownership stake, as well as a little on how a General Partner and Incentive Distribution Rights (IDR) works here.

OKE has experienced significant growth since purchasing the majority of the General Partner of Northern Border Partners in 2004, then later in 2006 becoming the sole General Partner and renaming it Oneok. Before that they were primarily a utility company (and still operate as one). OKE is a dividend growth stock, and has been growing the dividend for 11 years. The 10-year dividend growth rate stands at 15.1%, and it isn’t slowing down. The dividend increased by 18% in 2012 over 2011’s payout. The most recent dividend increase was earlier this year, in which OKE increased the quarterly payout from $0.33 per share to $0.36 per share. That’s an increase of 9%, and I think there’s a chance it might increase again. The payout ratio stands at 86.2% of earnings, but as stated earlier earnings are not necessarily a great way to analyze the profitability of a GP of an MLP. It’s better to focus on cash flow and Limited Partner/IDR distributions.

Focusing on the value of a company is what I pride myself on, and I’m comfortable buying shares in OKE at current prices. OKE is up 2.53% YTD, while the S&P 500 is up just over 14% YTD. More importantly, it’s down 14.64% since April 22 and on the day of purchase it was down 1.83%. I purchased shares in OKE at the same price they were going for in December of 2011. The P/E ratio of OKE is currently just over 26, but this can’t really be compared to a typical utility because of the obvious MLP/GP structure and the growth behind that. Also, as an asset-heavy MLP there is significant depreciation which negatively affects earnings.

Using a Dividend Discount Model and a very conservative 7% long-term dividend growth rate (well below the historical average) and a 10% discount rate I get a Fair Value on shares at just over $51 per share. I believe OKE shares are currently attractively valued after the significant drop in price over the last month or so. Shares are trading for less than 10% above the 52-week low and I think a comfortable margin of safety exists at the current price.

OKE offers me an entry yield of 3.28% on my purchase price, which is obviously attractive factoring in the historical and targeted dividend growth. This purchase adds $50.40 to my annual dividend tally based on the current quarterly payout.

I currently have 35 positions in my portfolio after this purchase, as this was another new investment (I’m on a roll!).

Some current analyst opinions on my recent purchase:

*S&P rates OKE as a 3/5 star Hold with a Fair Value Calculation of $34.50.

I’ll update my Freedom Fund in early July to reflect my recent addition.

Full Disclosure: Long OKE, KMI

Thanks for reading.

Photo Credit: Stuart Miles/FreeDigitalPhotos.net

Comments

  1. Anonymous says

    toom2summit here,

    Great buy, they weren’t even on my radar until now. I just fully allocated myself to utilities through PPL but I like OKE now that I’ve looked at it as well, I may trim some PPL to add OKE to get a little diversification in this sector. I think the utility sector as a whole is still attractive right now.

    • says

      Took2Summit,

      OKE is a bit hard to compare to most other utilities because of the unique structure they have, but certainly the underlying natural gas utility operations offer some stability. However, this company will live and die by OKS.

      I think OKE offers some fantastic value right now. They went on a huge run, but they’ve come back down to earth over the last six weeks or so. The combination of yield and growth is quite appealing here.

      Best regards!

  2. Spoonman says

    Thank you for the informative post. I’ve been watching OKS and OKE for a while now. I’m still trying to decide which of the two would complement my portfolio more.

    Again, it’s great to see that you are able to find value in this difficult enviroment.

    • says

      Spoonman,

      Glad you enjoyed it and found some value from it!

      I think both are great investments at current prices. OKS will obviously give you the bigger payout now, with lower expected growth going forward because of the IDR payments up to the GP. OKS will also come with the tax consequences that come with owning MLP units. I think both are very suitable and appealing investments, depending on your objectives.

      Best regards!

  3. Anonymous says

    35 positions for a porfolio of your size seems extreme to me. I am surprised you keep adding one after another new small positions. The transaction fees, research, tracking, updating will start becoming very time intensive.

    • says

      Anonymous,

      Thanks for stopping by!

      I eventually plan to hold 40-45 individual positions. I’m nearing that number, so my entry into new investments is going to slow. I like that number because it diversifies my dividend income enough to where one company’s dividend cut won’t have an extraordinarily large impact on my income when I’m living off my dividends.

      However, I disagree with you that 35 positions is too many for a portfolio my size. I don’t see how it matters if you have 35 positions with $2,000 in each or 35 positions with $1,000,000 in each stock. You’re still invested across 35 companies and mitigating risk. And transaction fees are irrelevant. Whether I took the capital I used for my investment in OKE and invested that with a company I already owned (say KO, CVX or MDT) matters not as I still would have had to pay the $7 commission fee to my broker (Scottrade).

      In the end, we must all find what works best for us. I find that 40-45 positions works for me because I think there are 40-45 high quality companies that exist within the dividend growth universe and I’d like to own a piece of all of them. For some, only owning a piece of 5 or 6 companies is better. For others, 20 is perfect. We must all do what befits our individual situations and temperaments best.

      Take care!

    • says

      I’m planning on about 40 companies also, each holding about 2.5% of the portfolio’s value. That would help me sleep a night, knowing that if per chance 1-5 companies dropping their dividend and going bankrupt over night would not put me in the bread line/soup kitchen. Not to mention the previous scenario is highly unlikely.

    • says

      me myself and I,

      I agree completely. There’s definitely a “sleep at night” factor involved when you’re investing across 40+ companies. At that level of income diversification I’m not going to lose any sleep over worries of a dividend cut.

      Best regards!

  4. says

    I’ll have to look closer but it looks like a good buy. I don’t have any exposure to MLPs except for my KMI position so a little diversification there would be nice. That’s great that with only a 7% DGR it’s fair value is well above your purchase price. I’m curious how some of these MLPs will fair once the DG slows. It’s such a capital intensive business that either requires growth through huge pipeline construction or through acquisitions. Looks like another good buy though. My positions are growing as well although I’m hoping to start adding to my current positions for a while, except a few that I want to start new positions in.

    • says

      Pursuit,

      I think there is definitely a margin of safety here. The 7% growth rate I used is well below the historical rate, and likely below what will actually come to pass.

      I’m curious about the future of the MLP’s as well. Obviously there is still a very attractive underlying business (the transport of energy) that will be profitable regardless of the prices of the commodities being transported, even with less growth in the future. However, I think we’re safe for a while here as there is a massive build-out occurring here in the U.S.

      Take care!

    • says

      Actually given that we’re trying to become energy independent MLPs should still fare well. I’m curious if in most contracts to transport through their pipelines they have an automatic yearly increase per whatever unit they measure in like O has with the rents. If they have an automatic scaling of 3-5% that should support FFO growth of 5-7% without further growth of the pipeline network.

    • says

      Jake,

      Glad you liked what I presented. Take a look at it and see what you think. There is a lot to like here, but only you can tell if this investment suits you.

      Good luck.

      Best wishes!

  5. Anonymous says

    Hi Jason!

    Keep up the frugality, investments & writing. Inspiration for all of us!

    But you could do well whitout the new ad-banners, makes the page almost unreadable.

    Alex, Sweden

    • says

      Alex,

      Thanks for stopping by! I appreciate the support from Sweden. :)

      Thanks for the kind words. I’m glad you find inspiration here. That’s why I do this and open myself up to the world.

      I apologize about the ad concern. I was playing with some settings and a new account yesterday. I have already changed that. I hope it’s better for you now.

      Best regards!

  6. says

    Hi DM, I don’t know how you find them, but you really have a special nose. Very great pick if I hold it many years, then the dividend should “snowball” Thanks !

  7. Onassis says

    Very great purchase, Jason!
    And 35 companies – there is a lot of power!
    I think, if you look on your portfolio on your screen, you have to scroll a LONG time from the beginning to the end! ;-)

    Best regards!
    Onassis

    • says

      Onassis,

      Thanks so much!

      35 companies is indeed amazing. I feel so privileged and proud to own a piece of 35 high quality companies that are paying me for my ownership stake. It’s wonderful being a business owner! I can’t wait to get to the point where the portfolio is complete and I own a piece of 45 amazing companies. That would be averaging 15 companies per month paying me dividends. Most people have 1 source of income (their job), while I’ll have 46 (my equity investments and my day job).

      Best regards!

  8. says

    Wow that company has had huge dividend growth over the last decade, really since about 2000 they put the pedal to the metal. Is that sustainable though? They have a high payout ratio with 7b in debt any idea if they’re financing some of the dividend payments? I’m no expert yet so I’ll defer to your wisdom.

    • says

      Captain,

      The high payout ratio isn’t concerning, as earnings isn’t the best way to determine profitability in the MLP structure (similar to a REIT). The best way to determine profitability for the GP is cash flow from distributions on units and IDR payments.

      As far as debt goes, these entities typically have higher debt because they are very asset heavy and there is a lot of infrastructure and build-outs involved.

      I hope that helps!

      Best wishes.

  9. says

    Nice buy with a great dividend growth rate. I certainly will take a closer look at OKE. Hope that the stock market continues to tank because right now I’m out of cash.

    I was wondering if you diversify your portfolio buy sector and industry and how much do you allocate by sector/industry. Is there a predefined maximum and which industry/sector has your preferences?

    • says

      Trader666,

      I certainly hope we see a correction as well. Although I’ve already deployed a large part of my available cash, cheaper shares always get me very excited! :)

      I do try to diversify my portfolio, but it isn’t something I think a lot about and I don’t have predetermined ratios or anything like that. I look at quality, value and fundamentals first. Sector diversification is very low on my list. Certainly I like exposure to as many industries as possible so that I can mitigate correlation risk, but in the end I’m looking at diversification on an income level mainly. That is, I’m looking to diversify my income streams as much as possible so that if one company cuts their dividend payout, I can still pay my bills on the other 40+ other sources of dividend income.

      Take care!

  10. says

    Congrats for your HEAVILY diversified portfolio :)

    I Just bought my 10th (11th if I add the only common stock I have) stock today, a Canadian industrial REIT.

    Do you plan to reinforce your positions at one point? Or just continue to buy new ones until you reach 40/45 stocks?

    • says

      JF Baconnet,

      Thanks so much! The portfolio is very nicely diversified at this point. I think I’m in a great spot here.

      Congratulations to you on your 10th position! That’s fantastic. For many, 10 positions is more than enough. It’s all very individualistic.

      I actually am completely agnostic as far as adding new positions or buying additional equity in current investments. I simply take a look at what I’m already invested in, what’s on my watch list, what’s attractively valued and what I already have exposure to. For instance, there are a couple companies that I feel are attractively valued in my portfolio – like CVX, PM, BNS and BBL. But I’m already over exposed to PM and CVX is already a fairly large investment for me as well, so I don’t particularly feel it’s prudent to add more capital to either company. BBL is a position I plan on being very small, so I’m okay there too. And BNS is on my list for perhaps some more capital, but I don’t want to get too crazy with financials, as I already have capital invested with TD, BNS, WFC SBSI and AFL. So as a sector I’m pretty fully allocated, even if BNS is a small investment and it’s attractively valued.

      That’s just some of the thoughts that go through my head when looking at where to allocate capital. :)

      Best wishes!

    • says

      Jason,

      Thanks for stopping by.

      I think shares are fully valued here. I used a pretty conservative model to value the shares. Also, the spin-off can create additional value for shareholders so there could be still some pretty significant upside here. I’m not crazy about today’s prices, but I don’t think the company is overvalued either.

      Best regards!

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