U.S. Markets open in 4 hrs 48 mins

Better Buy: Buckeye Partners vs. NuStar Energy

Matthew DiLallo, The Motley Fool

Last year was a brutal one for Buckeye Partners (NYSE: BPL) and NuStar Energy (NYSE: NS). The master limited partnerships (MLPs) both cratered more than 30% on the year, due to the pressure of their weakening financial profiles after they overpaid for acquisitions, which ultimately forced them to slash their distributions to investors.

However, both have taken steps in recent months to improve their finances, which have them on the right track to turn things around. While that makes their high-yielding distributions -- both of which are more than 9% at the moment -- more attractive, investors should still think twice before buying either one.

A scale weighing coins

Image source: Getty Images.

Biting off more than they could chew

NuStar Energy's troubles started in April of 2017 when it agreed to pay $1.475 billion for Navigator Energy Services, which was an oil midstream company focused on the Permian Basin. It was a lofty price to pay because it valued Navigator at more than 20 times earnings, which was well above the 12 to 15 times average of similar acquisitions. As a result, the transaction significantly weakened NuStar Energy's financial metrics as its distribution coverage ratio, for example, fell from an already tight 1.06 times before the deal to a dangerously low 0.66 times in the quarter after its closing. While the company believed that Navigator's growth potential would eventually make the deal a winner, it put itself in a tight spot by paying such a high price for the business.

Buckeye Partners also made a major acquisition in early 2017, buying a 50% stake in VTTI's global marine terminal business for $1.15 billion. That deal, the subsequent purchase of VTTI's MLP, and the company's other expansion efforts came at a high cost as Buckeye had to issue a significant number of new units to finance these investments. As a result, Buckeye Partners' distribution coverage ratio fell from an already thin 1.08 times in the first quarter of 2017 to a worrisome 0.91 times in early 2018. While the company believed that these investments would pay off over the long run, it paid a high cost for this growth.

Making moves to fix the problem

With NuStar Energy's unit price plunging throughout 2017 and early 2018, the company made several moves to try and stabilize its finances. In early 2018, the company agreed to acquire its parent to simplify its structure as well as reduce costs. It also cut its distribution 45% so that it could retain cash to help finance expansion projects. The company would go on to sell its European operations later in the year for $270 million to boost its balance sheet. As a result of these moves, NuStar Energy's distribution coverage ratio was up to a more comfortable 1.38 times by the third quarter of last year, while its leverage was on track to end the year at 4.2 times, down from 4.7 times earlier in the year.

Buckeye Partners, meanwhile, made some similar moves. In November, the company sold its entire stake in VTTI for $975 million as well as a package of non-core assets for another $450 million. In addition to that, the company slashed its distribution 40% so that it too could retain cash to fund expansion projects. These moves helped boost Buckeye's distribution coverage level up to a more comfortable 1.35 times while reducing its leverage ratio to less than 4.5 times so it could maintain an investment-grade credit rating.

Still not enough since there are better options for investors

Both MLPs have come a long way in the past year, as the moves they made have significantly improved their financial profiles. As such, they could have big-time bounce-back potential in the future. However, they're not out of the woods yet. One remaining concern is that their leverage ratios are still above the 4.0 times comfort zone of most MLPs these days, which could continue weighing on their valuations in the coming year. Because of that, these companies will likely focus on continuing to reduce leverage in the near term, meaning it could be a while before they start returning more cash to investors. That's why I think income-focused investors are better off looking elsewhere, with these five top-tier high-yield dividend stocks being a great place to start.

More From The Motley Fool

Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.