Enbridge (ENB 2.29%) is not an exciting company, but that's really part of management's plan. It is designed to generate reliable and growing cash flows that it can use to pay investors a reliable and growing dividend. With 29 years' worth of annual dividend increases, the Canadian energy company has clearly lived up to the plan. However, the stock is still down materially from its highs, which income investors should probably view as a buying opportunity.
What does Enbridge do?
Enbridge is a North American energy giant that is usually lumped into the midstream sector. That makes logical sense, given that, historically, around 57% of its earnings before interest, taxes, depreciation, and amortization (EBITDA) came from oil pipelines, with another 28% from natural gas pipelines. That sums up to roughly 85%, which is a very big number. The rest of the business had been broken down between a natural gas utility (12% of EBITDA) and renewable power investments (3%).
Image source: Getty Images.
Most of its assets, however, have similar revenue dynamics since they are either regulated, fee-based, or contract-driven. That allows this toll taker to generate a reliable stream of cash flow regardless of what oil and natural gas prices are doing. In fact, despite an attractive 7% dividend yield, the distributable cash flow payout ratio is still well within the company's 60% to 70% target range.
That, meanwhile, is backed by a strong balance sheet, with the company's debt-to-EBITDA also within management's target range, which in this case is between 4.5 and 5 times. To be fair, that's higher than most midstream companies, but it is also lower than most utility companies. That is where the story gets a bit more interesting.
Enbridge is getting more boring in 2024
Although Enbridge's core midstream operations have always been fairly reliable, it is in the process of buying three more regulated natural gas utilities. Once 2024 has drawn to a close, natural gas utilities will grow from 12% of EBITDA to 22%, drastically increasing the reliability of the company's cash flows. This move will also solidify the company's long-term capital spending plans, as it will increase the regulated spending that management has lined up for the future.
Oil and natural gas pipelines will still be a huge part of the business at 50% and 25% of EBITDA, respectively. But this already reliable company will become even more reliable after it completes the three natural gas utility acquisitions it has in the works. And that will not only help to support, and justify, the company's higher leverage levels (than midstream peers), but also help to build the foundation for long-term growth.
As Enbridge absorbs the three natural gas utilities and works to pay down the leverage it will take on to fund the deal, it expects distributable cash flow growth to hover around 3% or so. But after 2026, the expectation is for distributable cash flow growth of around 5%. During both periods, the dividend should grow at around the same rate as distributable cash flow growth.
Bringing it all together
Maybe you are thinking that 3% to 5% dividend growth isn't all that appealing. You have to add that to the fact that you are collecting a strong 7% dividend yield. Assuming the stock rises at the same rate as the dividend, to maintain the yield, investors will get a 10% to 12% total return with an investment in Enbridge. Yes, the yield will account for the lion's share of your return, but that's not a bad thing if you are trying to live off of your dividends in retirement. In fact, if dividend growth does average around 3% to 5% over the longer term, you will not only keep up with the historical growth rate of inflation, but the dividend's buying power will grow over time.
The big risk here might be that you don't take advantage of the fact that Enbridge's stock is down some 30% from its 2015 peak and 20% from its highs in 2022. Clawing back those price declines would materially diminish the yield and you could end up missing out on the opportunity to lock in a reliable income stream for decades to come.
