Enbridge Inc (TSX: ENB) is a Canadian oil and gas midstream company that has been rocking and rolling lately. With Canadian oil exports to the United States booming, the company is doing (well, facilitating) much business all across the continent. It also supplies 75% of Ontario’s natural gas.
So, Enbridge is one of the most important economic entities in all of North America. There is certainly some price level at which this stock is a screaming buy.
The question is, what is that level? And, is the stock there now?
Enbridge has been on an epic run lately, rising 125% in just five short years. As a result, it is no longer “cheap” by conventional metrics, trading at 26 times earnings while not being in what’s usually considered a ‘growth sector’ (though it has been growing lately). Additionally, ENB stock’s once-famous 7% dividend yield is now more like 5%.
It is certainly possible that Enbridge has become overvalued. But has it? Let’s find out.
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Growth potential
Enbridge owns an established network of oil pipelines that span North America. It can achieve some measure of growth by raising tolls, or signing on new customers when it has excess capacity. The company can also grow by building new pipelines. For example, it’s currently building a new pipeline segment in Illinois to transport 200,000 barrels per day. It’s also working on a $1.4 billion expansion on its Mainline and Flanagan pipelines, which will increase capacity by 150,000 barrels per day. It appears that there is some growth in Enbridge’s future. The projects in question are not massive compared to Enbridge’s liquid assets – the company has $1.7 billion in cash and $18 billion in current assets. Despite this fact, the amount of oil shipped is likely to be considerable. So I’d say that Enbridge’s new revenue streams will bring profit as well.
Dividend sustainability
My biggest gripe with Enbridge has always been its high dividend payout ratio. The payout is currently 128%, meaning that the stock pays out far more in dividends than it earns in profit. This doesn’t look so nice. On the other hand, the payout ratio based on operating cash flow is only 75% or so. I think Enbridge can probably keep its current dividend going, though it increases the financial cost of all of its expansion projects. Management seems to recognize the payout ratio as an issue, as it has been cutting the annual dividend increases to about 3%, down from a previous 10%.
Valuation
Last but not least, we get to the worst part of the analysis for Enbridge:
Valuation.
A valuation of 26 times earnings is pretty high for a pipeline. The stock also trades at 2.5 times sales and 3 times book. These multiples are lower than the market averages, but high for the energy sector. On a positive note, the stock only trades at 14.5 times operating income (EBIT). That’s actually a rather low multiple.
So on the whole, I’d say Enbridge is a low-conviction buy. I’m not buying it, but if I were if somehow “forced” to take a position in the stock, I’d choose long over short.
