Energy infrastructure stocks have continued to take a hit this year, as investors flee the sector. This has attracted many of us who are in search of high dividend yields and cheap valuations. But are pipeline stocks good buys today? Or will higher interest rates and inflation be too much of a hit to their cost of capital and capital expenditure profiles?
Let’s look at three pipeline stocks that I believe are screaming buys today.
TC Energy
TC Energy Inc. (TSX:TRP)) is one of Canada’s energy infrastructure giants. Its assets consist of more than 92,600 kilometres of natural gas pipelines, 4,900 kilometres of oil pipelines, 653 billion cubic feet of gas storage, and 6.600 megawatts of power generation.
In the last few years, TC Energy’s stock has been hit hard for a few reasons. Firstly, its debt levels. With a debt-to-total capitalization of almost 65%, it’s clear that TC Energy is vulnerable to rising interest rates. The pipeline industry is heavily reliant on debt as a way to finance its capital-intensive business. This means that companies like TC Energy typically have heavy debt balances and sizable interest expense. So, when rates rise as much as they recently have, this poses a problem. In 2022, the company’s interest expense increased 10% to $2.6 billion. In the second quarter of 2023, it increased 28% to $791,000.
The other major issue that’s been driving down pipeline stocks is inflation. Again, this is a highly capital-intensive business. So, any cost inflation hits hard. An example of this is in TC Energy’s Coastal GasLink pipeline, which has felt this pressure. Its cost estimate has risen $14.5 billion, with the possibility of an even higher price tag if construction extends into 2024. This compares to the initial cost estimate of $6.2 billion.
In order to deal with its cash flow and debt issues, the company announced plans to spin off its oil pipelines business. It’s also divesting of certain other businesses. All of this is expected to generate over $10 billion in cash. TC Energy stock is currently yielding 7.34%.
Enbridge stock
Yielding 7.44%, Enbridge Inc. (TSX:ENB) is another pipeline stock that has taken a hit. In fact, Enbridge stock is down 13% since the summer of 2022.
But long-term investors can rest assured in the fact that Enbridge stock has 28 years of annual dividend increases under its belt. During this time period, its annual dividend has grown at a CAGR of 7.25%, to the current $3.55 per share. Essentially, the dividend today is 1,320% higher than it was in 1995.
While the current environment is challenging, Enbridge’s cash flow is predictable, and largely inflation-protected. Also, the company’s recent acquisition of three U.S. natural gas utilities will provide additional low-risk, regulated revenue and further position Enbridge for the energy transition.
Enbridge has been through challenging environments before. The bottom line is that the energy grid relies on Enbridge’s infrastructure, and this company is not going anywhere.
Pembina Pipeline
Lastly, we have Pembina Pipeline Corp. (TSX:PPL). Pembina is an integrated energy transportation and midstream provider. Its pipelines transport oil and gas produced mostly in Western Canada, and its diversified assets provide Pembina with revenue that’s substantially underpinned by fee-based, high take-or-pay contracts.
As a lesser-known pipeline stock, Pembina Pipeline’s stock benefits from a low valuation. In fact, it trades at a mere 8 times earnings, 1.7 times book value, and 7 times cash flow. Yet, many of the company’s financial metrics are better than its peers. For example, its debt levels are below its industry peers, its return on equity of 21% is significantly higher, and its payout ratio of 58% is significantly lower.
Today, Pembina is yielding a very attractive 6.4%. Armed with strong financials and industry fundamentals, Pembina Pipeline stock is looking good right now.
