Over the years I’ve read numerous articles from a wide range of pundits warning investors to steer clear of MLPs because their EPS doesn't cover their quarterly distribution payouts. These misinformed warnings likely have scared plenty of individual investors away from a sector that's provided consistent, high tax-advantaged yields for years.
This quarter I’ve already received several questions from subscribers to MLP Profits and The Energy Strategist asking how MLPs can continue to pay out more than their earnings in distributions quarter after quarter. We addressed this common query in the most recent issue of MLP Profits, but given the level of interest in this group, it's important to clear up this common fallacy to a broader audience in this forum.
Earnings per share are an accounting construct and are a useful figure for evaluating results for most corporations. But earnings by definition include a large number of non-cash charges--expenses that don’t actually involve a company paying out any money.
The most common and prevalent non-cash charge to earnings for MLPs is depreciation. Most names in the group operate asset intensive businesses with expensive physical assets such as pipelines, terminals and storage facilities. Under traditional accounting, these assets depreciate over time; MLPs face astronomical depreciation charges on their huge asset bases.
But depreciation and other accounting constructs don’t represent a real cash charge or expense, nor do they affect a MLPs ability to pay distributions to unitholders. Because distributions are the group’s primary attraction, investors should focus on actual cash generated by the business--this cash forms the basis for the distributions paid to investors.
Distributable cash flow (DCF) is the most common measure of an MLP’s actual distribution power. To calculate DCF, companies add non-cash charges back into earnings and then subtract what’s known as maintenance or sustaining capital expenditure. Maintenance capital spending is an estimate of the amount required to ensure that existing assets remain in working order--that is, the actual cash amount the MLP must spend to sustain its business."
I could find plenty more articles which cover the same ground, as could you if you bothered. I think we have established pretty well that you are a newbie with no knowledge of MLPs and that all your spouting off is just showing complete ignorance.