Can Enbridge sustain its dividend?
Dividend yield have fallen to levels not seen in decades. With the S&P 500 with a double-digit rally this year, the average dividend yield on stocks in this index is now at a 20-year low of 1.3%. This makes it more difficult for income-oriented investors to find attractive opportunities.
It also causes them to question stocks with high dividend yields like Enbridge (NYSE: ENB), which currently stands at 7.2%. Here’s a closer look at whether Canada’s energy infrastructure giant can handle that big payout.
Exploring the numbers
Enbridge has one of the best dividend records in the energy sector. The company has increased its payouts in each of the past 26 years at a compound annual rate of 10%. Its steady growth has been fueled by its ability to consistently expand its energy infrastructure footprint while maintaining a strong financial profile.
The company has a low risk business model. It has a diversified business portfolio (gas pipelines, natural gas transmission and distribution infrastructure, and energy assets) guaranteed by government-regulated tariff structures and long-term contracts with financially sound customers. This provides Enbridge with sustainable cash flow. It typically pays 60-70% of that regular income through its dividend, keeping the rest to reinvest in expansion projects. The company complements this prudent payout ratio with a strong, high-quality balance sheet, giving it additional financial flexibility to grow.
Between the free cash flow retained after the payment of its dividend and its debt capacity while maintaining its quality balance sheet, Enbridge has approximately C $ 6 billion ($ 4.7 billion) in annual financial flexibility. The company can use these funds to invest in expansion projects – it currently has C $ 10 billion ($ 7.75 billion) remaining in spending on its projects guaranteed through 2023 – to buy back shares, repay loans. debts or make acquisitions. This level of reinvestment will support growth of 5 to 7% in annual cash flow per share. This should allow Enbridge to maintain its dividend growth streak.
The company clearly has the financial profile to support its current dividend.
So why the high yield?
Valuation is one of the determinants of Enbridge’s high performance. He has great confidence that he can generate between C $ 4.70 and C $ 5 ($ 3.65 to $ 3.88) in cash flow per share this year, thanks to his sustainable cash flow. With its stock price recently around $ 37, it is trading at less than 10 times cash flow. This is very cheap considering that the S&P 500 is currently trading at over 20 times its forward earnings. Due to its lower valuation and higher payout ratio, Enbridge offers a much higher dividend yield than most other dividend paying stocks.
There are a few factors weighing on Enbridge’s valuation. First, oil prices have been very volatile in recent years, which has hurt the industry. Some energy infrastructure companies have experienced declining billed volumes, reduced commodity profits and customer bankruptcies.
But this did not affect Enbridge’s earnings due to its very resilient business model. Only 2% of its cash flow is at risk in any given year due to its contract structure and focus on working with quality clients. However, the challenges of the sector weighed on the entire industry, including the valuation of Enbridge.
Another factor that appears to be holding back Enbridge’s stock price is the energy transition to cleaner alternatives. The global economy is rapidly decarbonizing. This raises concerns among investors that much of Enbridge’s infrastructure is becoming obsolete.
But despite the acceleration of recent years, the energy transition will take decades. This gives Enbridge time to gradually transition its business. It has already come a long way, shifting its mix of activities towards cleaner products. natural gas and renewable energy. Over the past decade, gas infrastructure has increased from 33% to 43%, while renewable energies have increased from 2% to 3%. These factors reduced its exposure to liquids pipelines from 65% to 54%.
This pivot will continue in the years to come. Enbridge has a large backlog of gas infrastructure and renewable energy projects under construction and development. It should be noted that it is building several offshore wind farms in Europe and investing in solar energy self-supply projects to reduce the carbon footprint of its liquid pipelines. Meanwhile, it has billions of dollars in low-carbon development opportunities to continue transitioning its business into the future.
These investments are expected to enable Enbridge to replace its carbon intensive cash flow while growing its business in the decades to come. This should allow the company to continue supporting its dividend.
A well-supported high yield dividend
Enbridge has no difficulty sustaining its dividend. The company generates sustainable cash flow and pays a reasonable portion of that money through the dividend. Combined with his strong balance sheet, he retains more than enough cash to grow his business at a healthy pace. And it is gradually cleaning up its carbon footprint, which should allow dividends to continue to flow and grow for years to come.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.