Enbridge Inc (ENB) is a popular high yield stock for income investors. The company is also a popular dividend growth stock since it is a Dividend Contender having raised the dividend for 24 consecutive years. But with that said, Enbridge’s dividend safety metrics have deteriorated since 2016 due to the large number of shares issued for the merger with Spectra Energy Corp and some inconsistent operating results. Note that Enbridge bought Spectra for $28 billion in an all stock deal in 2016. Enbridge bought the remainder of Spectra that it did not own for $4.4 billion in 2018. Since then the stock price has trended down from its peak in mid-2015 and not yet recovered to that level. In my opinion, even though Enbridge could serve as an income stock, small investors should be cautious and be aware that the dividend is not as well covered by earnings or cash flow as in the past.
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Overview of Enbridge
Enbridge is one of the largest energy infrastructure companies in Canada and the U.S. The company traces its roots to 1949 and is headquartered in Calgary, Canada. Today, Enbridge operates in five business segments: Liquids Pipelines, Gas Transmission and Midstream, Gas Distribution, Green Power and Transmission, and Energy Services. The crown jewel of Enbridge’s operations is arguably the regulated Mainline system in Canada. The company also owns regional oil sands pipelines and regulated natural gas pipelines. The stock trades on both the TSE and NYSE.
Selected Data for Enbridge (NYSE)
|Market Cap||$60.8 billion|
|P/E Ratio (FWD)||15.7|
Enbridge Dividend and Safety
Enbridge’s forward dividend is now $3.24 CAD ($2.43 USD) giving a dividend yield of about 6.0%. This is more than triple the S&P 500’s average of ~1.9%, which seems to make it a good option for those seeking a high yield stock for income. But with that said, Enbridge’s dividend safety has weakened over the years, especially since the Spectra merger.
From an earnings perspective the dividend is not well covered. The current payout ratio is roughly 125% based on the forward dividend of $2.43 and consensus 2020 earnings per share of $1.95. This is above my threshold of 65% and suggests that the dividend is not safe. Note that the payout ratio has been over 100% since 2017, which his also troubling from the context of dividend safety. The main problem is large amounts of stock issued in 2016 and 2017 for the Spectra merger. Additional shares were issued in 2018. This impacted earnings per share and the payout ratio at exactly the wrong moment, which is when oil prices were declining. The share count in 2015 as about 847 million. It is now more than doubled to over 2,020 million at end of 2019. Furthermore, Enbridge continued to raise the dividend each year. With lower earn gins per share and high dividend per share, the payout ratio has been elevated.
Enbridge’s payout ratio should return to a more normal level if commodity prices rise, volumes grow in the company’s pipelines, and stock issuance is limited leading to higher earnings. However, it is not clear if this will occur at this juncture. Oil prices are now lower and seemingly will be depressed for the foreseeable future.
Enbridge dividend safety from the perspective of free cash flow has also deteriorated.
In 2019, operating cash flow was $9,398 million CAD and capital expenditures were $5,492 million CAD giving free cash flow of $3,906 million CAD. The regular dividend required $5,973 million CAD giving a dividend-to-FCF ratio of roughly 153%. Note that the dividend required less than $1 billion CAD in cash before 2016. But the large number of shares issued for the Spectra merger resulted in a jump in the cash required to pay the dividend. In addition, the dividend has been raised by a decent amount each year since the merger. The larger share count combined much lower oil prices and greater cash amount for the dividend has reduced dividend safety.
Debt has also increased dramatically over the past decade and especially after 2016. Short-term debt now stands at $5,302 million CAD and long-term debt is $59,842 million CAD. This is offset by only $648 million CAD in cash, equivalents, and marketable securities. This has led to a high leverage ratio of a little over 5X. Note that a leverage ratio of over 2.5X is concerning in my opinion from the perspective of dividend safety. Enbridge can meet its obligation though, since interest coverage is about 4X. This is OK but not great.
The dividend safety metrics are not encouraging. So far, Enbridge continues to raise the dividend annually. But with arguably poor coverage ratios for earnings and free cash flow, and low cash on hand, Enbridge must use debt to pay the dividend. This can only go on for so long. It reminds me of Kinder Morgan Partners several years ago, which continued to pay a robust dividend while increasing debt and share count. Eventually, the company was not able to issue new debt and the dividend was cut.
Enbridge’s Competitive Advantages, Risks, and Moat
As one of the largest pipeline companies, Enbridge probably has a wide moat due to its scale and network. The cost and regulatory hurdles that need to be overcome for a new competitor are substantial. Hence, it unlikely that Enbridge will face significant competition for its network of pipelines. In addition, operational risks are low but financial risks are higher due to the heavy debt load.
Final Thoughts on Enbridge Dividend
Despite the high dividend yield and the potential as an income stock or dividend growth stock, I am not a big fan of Enbridge. The main issue for me is the poor dividend safety metrics. This is probably not a popular opinion but unless the metrics improve, the high yield is not worth it in my opinion.
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This article was originally published as a guest post on March 12, 2020 at Reverse The Crush. A version was then published on this blog. It was updated on September 22, 2020.
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