ENB:CC - Enbridge: One Of Our Top Energy Picks For 2024

2024-01-06 07:00:00 ET

Summary

• Enbridge Inc. shares have rebounded above $36 after a dip, and the company's outlook is stronger than ever.
• The company's primary lines of business are pipeline and energy, with a growing portfolio of renewable operations.
• Enbridge offers significant potential growth in legacy networks, business lines, and renewable projects in Europe.
• Enbridge is one of our top energy picks in 2024.

This article was coproduced with Wolf Report.

You might recall an article we wrote just a few weeks ago titled, Enbridge: We're Backing Up The Sleigh :

"...as long as it skirts around this $35/share level, the company is a superb investment here."

When Enbridge Inc. ( ENB ) dipped, and an alert that had been dormant for a long time came to life, we acted quickly.

Now, a month and more later, we're very pleased that we did, because the shares we bought at less than $32/share, are back up above $36, and the company's outlook is actually stronger than in a long time.

We invest in companies like Enbridge in two ways - either we go for the common shares, if we view them as appealing enough (or if that's the only option), or we're open to investing in the debt/prefs as well.

With Enbridge, we've done both.

We added the prefs (Canadian ones) when those were attractive - but now we've added the common shares as well.

We're not touching these shares unless the company's NYSE ticker goes above $50/share, depending on the market at that time, and in this article, we'll clarify again to you why that is.

Enbridge for 2024 - one of the best long-term energy plays

So, the reason we're looking at potentially investing even more in Enbridge if or when the valuation and upside as well as my allocation guidelines allow, is that the fundamentals for Enbridge really speak for themselves.

With a market cap of over $70B and a credit of BBB+, despite some climate and ESG risks, we don't see many realistic things that could severely impact this company.

Enbridge's primary lines of business are pipeline and energy, specifically the transportation of commodities, not just crude oil, but natgas and various other liquids. This is then added to by a portfolio of impressive renewable operations.

It goes without saying that a company like this is bound to see some volatility related not only to general energy pricing trends but to the sentiment regarding the company's operations as well.

We haven't been invested in Enbridge for long. Not in the prefs, nor in the common shares. That's because we have very stringent return requirements.

We want a good possibility of making market-beating returns even if the company develops worse than the market expects.

The upside is easy to find. That sort of upside is not easy to find.

Enbridge today is a very impressive operation.

The company, generally speaking, is a play on a growing global energy demand, and we believe that demand is well-recorded and justified.

At the right price, this is the reason why we believe the company could see some very good returns. That, and, you know, the fact that energy demand is going to rise without a doubt.

We do not think you'll find many analysts that take a vastly different stance to what you see there.

The company quite recently merged with Spectra, which has added a non-trivial amount of solid backlog and project assets to its portfolio.

It's re-balanced what Enbridge does and now provides the company with a business mix that's 49% liquids and 47% gas, with a growing, current 4% renewable business.

It also provided geographic diversification for the company, with a renewable target eventually of upwards of 8-10% of the operations.

Enbridge has many fundamental arguments for why investing in it is a great idea.

Owning one of the best pipeline franchises in North America is only one of them, the company is also N.A.'s largest natural gas utility, where it has the opportunity to use much of the proceeds to add to a growing renewable and carbon capture portfolio which eventually will reward shareholders even higher.

The error made by many investors is valuing what the company gives or does, relative to the broader market or to the company's potential debt investments at a too-high rate.

If you bought this company during its height in 2014-2015, you would have annualized returns of less than 1.5%, and that's with dividends.

Without dividends, it's negative 4% per year.

It once again shows you the crucial lesson on valuation and when to buy as well as when not to buy.

Historically, speaking, the company has troughed around 6-8x P/FFO, with heights of 9.5-11.5x P/FFO/OCF.

That gives us a fairly easy and narrow trading range where a savvy, valuation-oriented investor could say that this company might be attractive, and its 7.6%+ yield would be a very good idea to invest in.

More on that valuation later - because while we've seen recovery, that does not mean the opportunity in this stock is "over" here.

In fact, we might say that the current time offers a very good opportunity to "get in" on Enbridge before things get too expensive.

The company's primary upside is significant potential growth not only in the legacy networks and business lines, but in significant renewable and other projects in Europe.

The company expects significant growth from its renewable portfolio in 2024E. Enbridge is already acquiring more as we speak, with 7 operating landfill-to-RNG facilities across NA, enhancing the company's lower carbon characteristics, and generating immediately accretive DCF.

This should be music to your ears. It certainly is to ours.

Headwinds and downside risk are limited to increased cost levels and mainline tolls - but as we noted in the previous article, the company remains confident in its guidance.

The main problem we see the market and analysts mostly having with Enbridge is that they estimate the company at a far too high level.

Enbridge is a great company, but due to the many alternative investments available in energy, and in Enbridge energy in the form of debt investments, we believe that you must invest at the right valuation here in order to make a rate of return that pleases, while also maintaining a realistic stance to the potential downward risk.

Enbridge does not, or at least rarely does, go below a certain level - but if you as some suggest, buy the company well over $39 for the native ticker, then you might see some poor returns.

Let me clarify some of the risks that we believe are pushing the company down.

Enbridge Risks & Upside

The company's size and very legacy-heavy mix of business lines make the company a natural target for environmental interest groups and political pushes.

We're seeing this in the current challenges to the 3 and 5 line, as well as the stake in the Dakota Access Pipeline.

None of these projects are, as we see them, bad per se , nor is the company in any fundamental risks from these pushes, but they represent both the potential for underperformance if you buy too high and the potential for outperformance if you can buy cheap.

Additionally, and to the same points, the company's infrastructure still carries a fairly large portion of the oil sand mix from Canada. This is one of the least ESG-friendly sources of crude and is another chip on many ESG investor's shoulders.

Some analysts argue that the company has yet to prove its renewable business line. We say that the company is currently doing this, and while there is a risk to these investments, we view them as more limited than other colleagues.

We also have upsides worth considering that are not spoken of enough.

With the cancellation of the Keystone XL project, the company is in a choice spot to capture new project expansions due to increased demand from players who were counting on Keystone.

The dividend that we're seeing for Enbridge is also secure and can conceivably grow at least 3% p.a for at least the next few years. This fights off inflation, and makes the 7.6%+ yield "solid." That means it's a very solid play for income investors also.

However, let's clarify the problem with the valuation.

Enbridge Valuation

As we said, the issue with Enbridge is that most analysts vastly overestimate the company's target share price.

So let's make this very clear.

Enbridge above $37/share for the NYSE ticker is not something we would buy under any, current circumstances.

We made it clear that under $35/share, the company has a great upside.

Under $38/share, the company still has a very solid upside here, and you can still get your 15% under relatively conservative estimates and assumptions.

Below $32/share is where you want to buy, but we don't foresee us going back to that all that soon.

The reason that you want to get in below $37/share, is that this is the point where the 15% annualized upside to a conservative mid-point 10-year P/FFO of 10x disappears.

Once you go above $37, you're locking in the potential for a sub-standard market return.

The lower you buy here, the lower you need Enbridge to perform.

At current cost basis, we only need Enbridge to manage a 7.5-8x P/FFO for the next few years to lock in my 15%+ annualized RoR. Guess how likely we consider this to be?

That doesn't mean that today's buy-in is bad.

As we're writing this, the market shows the company trading at around $36, which means the upside to 9.6x P/FFO is like this.

We always invest in the native, and due to FX and some shifted estimates, the Canadian ticker has a slightly better upside above 15%.

Very few analysts have the company at a "fair value" target of $37/share.

We're definitely in the minority here.

Looking at the native ticker and translating CAD to USD, most analysts give the company somewhere along a $39-$42/share target, with some going as high as $45/share.

If the first number in the NYSE share price becomes a "4," you can bet that we're going to be looking at what we can get from alternative investments to Enbridge.

But at $36/share, we're telling you that it might be your last chance to annualize 15% in this company for the foreseeable future if it keeps climbing - and selling is something we won't do until we hit that $40/share or close to it.

So, as usual, this is about valuation.

We give you our final thesis for a company for 2023. It's Enbridge, and here it is.

Thesis

• Enbridge is a class-leading investment in the energy sector, with a solid overall upside at the right price. The right price, as we see it, is below $35/share to really ensure that upside here, and not going higher than $37/share. And as we're writing this article, the company is trading at this, or below this level.
• We believe Enbridge represents one of the safest income investments in the entire NA energy sector, based on how the company has been developing its portfolio for the past decade. However, given the slew of investment options including prefs, you want to be sure to pick the "right" avenue to enter this investment.
• At under or around $36/share, we believe the company represents a great value and an upside over 15% per year conservatively. Due to this, we say "BUY" here, but it's teetering on the edge of not being investable.

Remember, we're all about:

• Buying undervalued - even if that undervaluation is slight and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.
• If the company goes well beyond normalization and goes into overvaluation, we harvest gains and rotate my position into other undervalued stocks, repeating #1.
• If the company doesn't go into overvaluation but hovers within a fair value, or goes back down to undervaluation, we buy more as time allows.
• We reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

Here are our criteria and how the company fulfills them (italicized).

• This company is overall qualitative.
• This company is fundamentally safe/conservative & well-run.
• This company pays a well-covered dividend.
• This company is currently cheap.
• This company has a realistic upside that is high enough, based on earnings growth or multiple expansion/reversion.

Enbridge isn't cheap, but it's buyable here.

Taxes: Enbridge issues 1099 tax forms, and because it's a Canadian business, foreign tax is withheld on their dividend payments (unless held by a U.S. investor in a retirement account). Consult your tax professional.

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