There’s some solid reasoning for this as well. The company has paid a lucrative dividend for a long time.
But now that we continue to move forward through the COVID-19 pandemic, the oil and gas industry (which was already in a bear market prior to the pandemic) is getting hit even harder.
Junior producers and even some major producers in Suncor’s (TSE:SU) case were slashing dividends at rates we have never witnessed before.
However, did Canadian investors make a huge mistake throwing a blanket outlook over both producers and pipelines? Or is Enbridge’s dividend on its way to inevitable cut as well?
Prior to getting started, I’d just like to drop this 5 year performance chart from 3 popular pipelines here in Canada. As you’ll see, Enbridge is one of the worst performing of the bunch, and is one of the primary reasons that although I own both Enbridge and TC Energy, my largest holding is TC.
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Enbridge (TSE:ENB) dividend and stock analysis
Enbridge is an energy generation, distribution, and transportation company that has operations in both the United States and Canada. Currently, the company is the fifth largest stock by market capitalization in the country, and the fourth highest in terms of companies that currently pay a dividend.
The company has pipeline systems that serve both oil sands distribution and natural gas. It’s flagship asset is the Canadian Mainline system. Enbridge is often touted as a monopoly in the pipeline sector, amassing over 27,564 kilometers of active crude pipelines across North America. The company delivers more than 3 million barrels of crude oil every single day, equating to about 25% of the crude oil produced in North America.
It wasn’t that long ago that major producers like Suncor and Canadian Natural Resources were urging the government to make sweeping changes to the operations of Enbridge’s mainline network, citing it as essentially unfair.
The company often locks up producers in long-term take or pay contracts, which makes Enbridge’s cash flows and the dividend more reliable.
The company also has a number of projects in its developmental pipeline, including multiple offshore wind farms that have the potential to generate 1 gigawatt in gross power capacity. In fact, the company recently announced in June 2020 that it would be moving forward with its Fecamp project, which is expected to add 500 megawatts of capacity and a 20 year fixed-price contract.
Although we do appreciate Enbridge’s growth, as it does allow them to increase cash flows and keep raising the dividend, we understand that this is a company that has more or less hit a plateau, and we don’t expect a crazy amount of share appreciation. So, lets get down to the brass tacks and look at the company’s primary attraction, it’s juicy dividend yield.
Enbridge dividend analysis
At the time of writing, COVID-19 has wreaked havoc on Enbridge’s share price. We’ll get to valuation shortly, but I wanted to highlight that as it is a primary factor for the company sporting a 8.39% dividend yield, which most would deem unsustainable.
If we look at Enbridge’s chart in terms of historical dividend yield, we can clearly see where Enbridge’s stock price took a dive. As you know, the lower a stock’s price goes, the higher the yield is if the dividend rate stays the same.
The company had historically yielded in the high 5% range prior to spiking to the mid 9% range in March. So, is it sustainable?
On a trailing 12 month basis, Enbridge is currently paying out 126% of earnings. For most investors this would be cause for concern, however it’s important for a company like Enbridge that we look at both the free and operating cash flow payout ratios. In this case, the dividend is still suspect, but it looks much safer than strictly looking at earnings.
Market Cap: $78.16 billion
Forward P/E: 14.48
Dividend Growth Streak: 24 years
Payout Ratio (Earnings): 126.56%
Payout Ratio (Free Cash Flows): 89.28%
Payout Ratio (Operating Cash Flows): 65.92%
1 Yr Div Growth Rate: 9.99%
5 Yr Div Growth Rate: Premium Members Only
Stocktrades Growth Score: Premium Members Only
Stocktrades Dividend Safety Score: Premium Members Only
The company is currently paying out 90% of free cash flows and 65% of operating cash flows towards the dividend. To compare this to another prominent pipeline company Pembina Pipeline (TSE:PPL), it paid out around 133% of free cashflows towards the dividend in 2019.
Overall, the company has actually increased its distributable cash flows year-over-year and the company expects to generate $5.143 billion in DCF in 2020, an increase when compared to 2019.
Considering we are in the midst of a global pandemic that has wreaked havoc on oil prices, this is a strong sign. This also bodes well for the company’s dividend, which I think is safe.
I’ve can’t count the amount of times I’ve come to Enbridge’s defense when somebody accuses the dividend of being on the brink of being cut. They see a high payout ratio and assume the dividend is close to being cut.
But the fact remains, Enbridge has raised dividends for 2.5 decades and has grown its dividend at a 16% clip annually over the last 5 years. These are some of the best growth streaks and dividend growth rates in the country.
There’s no questioning that Enbridge’s stock price is currently in the dirt.
The mass panic and ultimate selloff of many companies in the oil and gas sector left Canadians who were paying attention with some bargains, Enbridge being one of them.
Enbridge is currently trading at 15.3 times forward earnings. This is a significant discount to what it typically has traded at over the last 5 years (20.4) and the company is also trading at a price to book valuation of 1.3, levels at which we’ve never seen a blue-chip stock like Enbridge trade at.
Now, don’t get me wrong, there are reasons for undervaluation.
The oil and gas industry is expected to struggle, and although we’re seeing Enbridge trade at valuations we haven’t witnessed in some time, we’re also seeing the company post historically low numbers in terms of return on equity and net margins on a trailing 12 month basis.
On a whole, Enbridge is one of the more expensive pipeline companies in the country. Some companies like Pembina Pipe and TC Energy can be had, from strictly a valuation standpoint, for less than Enbridge. However with it being an industry leader and sporting a huge dividend yield, I’m not surprised investors are willing to pay a premium for the company right now.
Overall, Enbridge’s dividend should be safe
If there’s one thing I’ve come to learn, especially in 2020, it’s to expect the unexpected. Do I think Enbridge’s dividend is safe, and well covered by cash flows? Yes.
Do I think investors looking solely at the company’s payout ratio in terms of earnings are making a mistake? Yes.
But does that make it a guarantee the company maintains its dividend? No.
We still could see a cut. Yes, pipelines do have less reliance on the price of oil when compared to say a producer, however these companies still can’t survive in low commodity environments for long.
An investment in Enbridge for its dividend is going to require one to be willing to withstand the inevitable volatility the oil and gas sector is going to bring for the foreseeable future. This is not a low risk investment, and if you’re an investor with a quick trigger finger in terms of selling, this may not be for you. Some people stick to more stable investments, like Canadian financial institutions such as TD Bank (TSE:TD), or RBC (TSE:RY)
Furthermore, if you’re not willing to accept the fact that although unlikely, a dividend cut would inevitably cause significant losses in capital due to the share price dropping, Enbridge is probably not for you.
However, the ability to grab market-beating returns strictly from the dividend with one of Canada’s largest companies and longest consecutive dividend growers is no doubt appealing.