CA - Brookfield Infrastructure: 6.8% Yield From Tangible Inflation Linked Assets

2023-10-27 17:20:42 ET

Summary

• Brookfield Infrastructure has sold off heavily over the last month and now offers a compelling 6.8% dividend yield.
• The quarterly distribution is 188% covered by funds from operation per unit.
• A near-term dividend raise is likely on the back of guidance for FFO to grow by a 12% compound annual growth rate over the next 3 years.

The sharp selloff of Brookfield Infrastructure Partners ( BIP ) ( BIPC ) over the last month has been surprising, an intensity that at times has seemed like we were back in the early days of the pandemic. At the core of the pullback is the 20 September Federal Open Market Committee meeting which saw rates paused at their current 22-year high of 5.25% to 5.50% but with a reiteration of a higher for longer mantra that the market has translated as carte blanche to wipe off 30% from the value from BIP since this date. To be clear, nothing has fundamentally changed with the September pause likely to be followed by the first consecutive rate pause since the Fed started raising rates when they next meet in a few days on 1 November 2023. The market is currently pricing in a 99.9% chance that the Fed keeps rates unchanged.

We're currently in the age of macro, a period JP Morgan's Jamie Dimon has described as the most dangerous time in decades. We're in the age of the macro and stocks might continue to trade down or flat against an uncertain macro backdrop. BIP owns a diverse portfolio of infrastructure assets from ports, data centers, pipelines, and toll roads. The company also owns transmission and telecommunication lines and recently added Triton International ( TRTN ), the world's largest container leasing company, in a cash and stock acquisition in which BIP invested $1.3 billion. BIP is rated investment grade BBB+ by Fitch with a total debt-to-equity ratio of 136% as of the end of its fiscal 2023 second quarter.

Around 90% of its long-term debt is at fixed rates with another $2.3 billion in liquidity available during the third quarter whose earnings BIP is set to report on 1 November 2023, before the market opens. The company last declared a quarterly cash distribution of $0.3825 per unit , unchanged from its prior distribution for what currently works out to be a 6.8% annualized dividend yield. This has grown at a 5.8% 3-year compound annual growth rate with BIP targeting continued dividend growth on the back of what's expected to be a 12% funds from operation per unit CAGR over the next 3 years.

FFO Expectations From Third Quarter And Remainder Of 2023

BIP is guiding for a full-year 2023 FFO per unit to range between $2.95 to $3 . This would represent growth of at least 24 cents per unit at the low end of the range. The company currently covers its current quarterly distribution to unitholders by 188% and also has two outstanding publicly traded preferred units; Brookfield Infrastructure Partners L.P. 5.125 CL A PFD13 Series 13 Preferred Partnership Units ( BIP.PR.A ) and Brookfield Infrastructure Partners L.P. 5.00% PFD A 14 Series 14 Preferred Limited Partnership Units ( BIP.PR.B ). They are both swapping hands with similar discounts to their $25 par value with the Series 13 trading for 62 cents on the dollar and with an 8.28% yield on cost to offer a compelling investment proposition to more risk-averse investors attracted to BIP's hard assets.

The third quarter should see the contribution of BIP's Canadian diversified midstream business whose Heartland Petrochemical Complex was offline for much of the second quarter which contributed to what was a $9 million decline in FFO year-over-year to $161 million from BIP Midstream segment during the second quarter. However, Heartland will only have its full contribution realized in the fourth quarter with this contribution to annual FFO included in the company's forecast for full-year FFO.

Valuation And The Dividend

Is BIP undervalued at its current level? It depends on what metric is used. The company is trading at a price to FFO per unit of 7.6x, with a forward FFO yield of 13%. The company has been able to maintain FFO growth against interest rate headwinds on the back of its largely fixed-rate debt financing structure and assets with long-term inflation-linked cash flows. The utility segment generated $224 million in FFO during the second quarter, an increase of 19% over the year-ago period with roughly half of this growth being driven by organic inflation indexation.

However, the company is still trading at a significant 67% premium to its book value of $6.17 billion as of the end of the second quarter. I don't think a move to trade at parity with book value is in play. This did not happen in 2020 and continued FFO generation strength and a string of what's set to be highly cash-generative acquisitions bolster BIP's long-term investment case. Critically, there will likely be another near-term dividend raise, hence, the dividend yield could move up to 7% assuming the unit price stays relatively flat from its current price. I'm not currently invested in BIP but will look to build a position after the FOMC November rate decision.

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