Top picks 2012: ONEOK Partners

Formerly operating as Northern Border Pipelines, this natural gas and natural gas liquid (NGL) partnership was renamed ONEOK Partners LP (OKS) and started trading under that name in May 2006.

The company -- my top income idea for 2012 -- has three major businesses: natural gas gathering and processing, natural gas pipelines, and NGL.

ONEOK is a major player in gas basins in Oklahoma, Kansas, Wyoming, Colorado, and Texas. It gathers, fractionates, and transports NGL by pipelines to key market centers in Conway, Kansas, and Mont Belvieu, Texas.

The NGL segment owns 4,000 miles of gathering pipelines. It has interests in four fractionators that can produce 550,000 barrels of NGL products a day, an isomerization facility that converts butane to isobutane used to increase octane in gasoline, and seven storage facilities with 23.2 million barrels of capacity.

The company has consistently raised its distribution, typically in half- or full-cent increments, since 2006 when the partnership was reorganized.
In 2006 OKS distributed a split-adjusted $1.80 per unit; in 2011 it distributed a split-adjusted $2.325 per unit, for a cumulative growth rate of 29%.

Management's stated intention is to grow the distribution an additional 5% to 10% annually in 2012 and 2013, as recent growth projects boost cash flow.

The latest quarterly distribution of $0.595 per unit annualizes to $2.38 per unit, providing a forward yield of 4.4%.

Revenues have generally trended higher, with some hiccups along the way. Revenue of $7.7 billion in 2008 fell to $6.5 billion in 2009, recovered to $8.7 billion last year, and are projected to be $10.6 billion in 2011.

Diluted per-unit earnings follow a similar pattern. They reached $3.00 in 2008, fell back to $1.80 in 2008, plateaued at $1.75 in 2010, and are projected to increase to $2.45 in 2011, after adjusting for a 2:1 stock split in July.

Trading at 13 times cash flow, OKS is in line with its pipeline peers, but given its stellar five-year distribution growth rate of 5.5% annually versus just 4.1% for its peers, OKS deserves to be trading at a premium valuation.

Between 2011 and 2014, OKS plans capital investments of between $2.7 billion to $3.3 billion, roughly 65% of which will be allocated to expanding NGL gathering, fractionation and pipeline capacity.

These investments, plus those made in previous years, should provide the basis for future revenue and earnings growth as well as distribution increases.

ONEOK has shown strong historical distribution growth and has promised to continue raising the distribution going forward. As a result, the yield on cost should continue to improve over time.