Inter Pipeline Ltd (TSX:IPL) is an incredible dividend stock. The yield now stands at 7.8%, and as the company has raised the payout every year for more than a decade, it’s a good bet that the dividend will continue to increase.
For every $6,410 that you invest in Inter Pipeline stock, you’ll receive $42 in cash payments every month. That’s $500 per year. Good luck getting that type of income generation anywhere else.
This company isn’t all about income, either. Since 2009, the stock price has tripled.
Think all of this is too good to be true? It’s not. In fact, the reason for Inter Pipeline’s success is a permanent feature of its business model.
Understand why this works
Pipelines have long been one of the best investments in Canada. Look up any pipeline company and you’ll discover impressive returns.
The largest pipeline company in North America is Enbridge Inc, which has a $110-billion market cap. Its dividend stands at 6%. Like Inter Pipeline, it has raised this payout each year for more than a decade. Also like Inter Pipeline, Enbridge stock has performed terrifically, rising 500% since 2002. Another Canadian pipeline company, TC Energy, shows similar traits.
What’s so special about these stocks? Their secret weapon is actually built into the businesses themselves.
Owning a pipeline is akin to owning a highway, except in many cases, it’s the only road out of town. Without the ability to transport their output, energy producers would cease to exist. That’s why they’re often willing to pay anything to get their product to market.
A perfect case study is the fall of 2018, when regional oil prices fell more than 80%. Some Canadian crude was selling below US$15 per barrel. U.S. crude, meanwhile, was still selling at prices above US$50 per barrel. Why the disconnect? One word: pipeline capacity.
Canada has had a structural shortage of pipeline capacity for years. It’s not hard to figure out why. Energy production continues to explode, yet pipelines can take years to build, not to mention billions of dollars. The industry has been playing catch-up for quite a while.
When energy production surged unexpectedly in 2018, pipelines were pushed to their limits. With no means to ship or store their oil, local operators bid to the death to secure capacity. This case study proves just how much customers need pipelines.
When investing in pipeline stocks, it’s hard to go wrong. For dividend investors, however, Inter Pipeline looks like the best pick.
Why Inter Pipeline?
Inter Pipeline’s juicy 7.8% dividend isn’t the only reason to invest in this stock. Over the years, management has built strategic infrastructure that will give the company even more leverage over its customers, reducing earnings volatility and boosting pricing power.
For example, Inter Pipeline now generates around 20% of its cash flow from natural gas processing facilities. It operates three plants strategically located on the TransCanada Alberta System. This is a value-add service for customers, and last year contributed nearly $500 million in additional EBITDA.
Despite a $9.3 billion market cap, the company has $3.7 billion in growth projects underway. These initiatives should help drive the stock price higher, but also provide continued cash flow generation to support the 7.8% dividend.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.
The Motley Fool owns shares of and recommends Enbridge. Fool contributor Ryan Vanzo has no position in any stocks mentioned.