Enbridge (NYSE:ENB) It’s not an exciting company, but that’s actually one of the biggest draws here. That’s in addition to a very high dividend yield of around 7.4%. But to appreciate why you’ll be happy to buy this stock in a few years, you need to dig deeper into its business and how it’s returned value to investors over time.
Enbridge is more than just a midstream giant.
The energy sector is notoriously volatile, but not every company in the industry deserves that description. Upstream (drilling) and downstream (refining and chemicals) businesses are often extremely volatile, but midstream companies like Enbridge typically aren’t. That’s because midstream companies own the energy infrastructure (like pipelines) that connects upstream to downstream, and the rest of the world, and they charge huge fees for the use of their assets.
Enbridge is essentially a toll company. And since oil and natural gas are vital to the smooth functioning of the world, demand tends to remain strong even when energy Oil prices are weak. Oil pipelines account for about 50% of EBITDA, while natural gas pipelines account for about 25%. Here’s an interesting fact about Enbridge.
The rest of the energy giant’s business comes from regulated natural gas facilities (22% of EBITDA) and renewable energy investments (3%). Natural gas is cleaner than coal or oil and is seen as a transition fuel. Enbridge recently agreed to buy three natural gas facilities from Dominion EnergyEnbridge has increased its exposure to this energy sector from 12% to more than 22%. Regulated utility assets have a monopoly in the areas they serve in exchange for government approval of rates and investment plans. This tends to result in slow, steady growth over time. In short, Enbridge’s business has become more reliable because of this investment.
There’s also the renewables business, which is a relatively small part of the company’s other businesses. But clean energy is still a relatively small part of the global energy pie. Enbridge’s expansion into this area is essentially an attempt to use its carbon-fuel profits to change with the world as clean energy becomes more important over time. It’s a hedge for investors who aren’t ready to jump into renewable energy but recognize its growing role in the world.
What can investors expect from Enbridge?
Enbridge is a boring mid-sized company that’s slowly turning its business around in a cleaner direction. That’s not exactly an interesting story unless you consider its massive 7.4% dividend yield. Most investors expect the stock market as a whole to return about 10% a year, so Enbridge’s dividend alone should get you about three-quarters of the way there.
At the same time, these earnings support an investment-grade balance sheet. The distributable cash flow payout ratio is in the middle of management’s target range of 60% to 70%. The dividend has also been raised annually for 29 consecutive years. This is a reliable dividend stock and there is no reason to believe that the dividend is at risk. In fact, slow, steady earnings growth in the low single digits seems very likely to be a reasonable expectation.
So if earnings grow roughly in line with inflation, at about 3%, the total return investors can expect is probably about 10%, with the current yield of over 7% added to the 3% increase in earnings. Stocks typically rise along with their earnings over time to keep the yield constant, so market-like returns from this high-yield stock are not an unrealistic expectation. That’s hard to complain about, especially if you reinvest your dividends, which allows them to compound over time.
Enbridge’s fundamentals are good.
It seems likely that Enbridge can continue doing what it is doing. That will be enough to provide strong returns for investors, as we mentioned above. But what’s interesting here is that Enbridge’s dividend yield is historically high today. So it actually looks like it could be trading at a low price.
It’s entirely possible that this situation won’t change and that the yield will simply rise to a new range that reflects Enbridge’s business as it stands today. However, if Wall Street suddenly becomes more interested in the company, investors who buy today will get a boost from the increased demand for the stock. The base case is that Enbridge’s boring business is producing returns that are roughly market-like while the upside could be much higher. This seems like an attractive risk-reward balance, and you’ll regret missing out if you don’t jump on board soon.
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Robin Greg Brewer The Motley Fool has positions in Dominion Energy and Enbridge. The Motley Fool has positions in and recommends Enbridge. The Motley Fool recommends Dominion Energy. The Motley Fool has Disclosure Policy.
A few years from now, you’ll wish you had bought that undervalued, high-yielding stock. Originally posted by The Motley Fool