While the broader markets are trading near all-time highs, the energy sector has underperformed significantly over the last two years. Investors now expect growth stocks to take a breather and the market rally to broaden as capital-intensive companies are poised to benefit from cooling inflation and lower interest rates.
In this article, I have identified two cheap energy stocks that trade at a sizeable discount to their intrinsic value. Let’s dive deeper.
Hess Midstream stock
Valued at a market cap of US$8 billion, Hess Midstream (NYSE:HESM) went public in April 2017 and has since returned close to 160% in dividend-adjusted gains. Despite its steady returns, Hess offers shareholders a tasty dividend yield of 7.3%.
Hess owns, develops, operates, and acquires midstream assets. It owns natural gas gathering and compression, crude oil gathering systems, and disposal facilities. The company also owns a natural gas processing and fractionalization plant in North Dakota.
Despite a challenging macro environment, Hess is forecast to grow adjusted earnings from US$2.08 per share in 2023 to US$3.2 per share in 2025. So, priced at 11 times forward earnings, the energy stock is cheap, given its high dividend payout and strong growth estimates.
Notably, its free cash flow is forecast to increase from US$621 million in 2023 to US$721 million in 2025. Given its outstanding share count, Hess will spend around US$600 million yearly on dividends, indicating a payout ratio of 83%.
Hess has raised its dividend payout from US$1.2 per share in November 2017 to US$2.74 per share in 2024. In the last five years, its dividends have grown by 11% annually.
Analysts remain bullish on the energy stock and expect it to gain 7% according to consensus price targets. If we include dividends, cumulative returns will be closer to 15%.
Whitecap Resources stock
Another mid-cap energy stock, Whitecap Resources (TSX:WCP) pays shareholders an annual dividend of $0.73 per share, which translates to a forward yield of 7.1%. Whitecap projects its funds flow to surpass $1.65 billion in 2025. Comparatively, its capital investment is forecast at $1.15 billion, which means its free funds flow will be close to $500 million. Comparatively, Whitecap will spend around $438 million in dividends.
The company’s capital investments over the next 12 months should drive its free funds flow and dividends higher over time. In fact, analysts tracking the stock expect dividends to grow by 8.4% annually over the next two years.
Between 2010 and 2014, Whitecap increased its funds flow at a compounded annual growth rate of 12% due to organic growth and acquisitions. Since June 2013, it has paid shareholders $2.1 billion, or $5.33 per share, via dividends.
Whitecap aims to generate around $4 billion in free funds flow through 2029, which suggests its dividend payout should continue to increase over the next five years. With excess funds flow, it aims to lower balance sheet debt and should be debt-free by 2029. Meanwhile, its capital expenditures totalling $6 billion in this period make it a top investment option right now.
Bay Street remains bullish on Whitecap and expects it to gain 30% over the next 12 months.
