2-for1 Sale
Over the past 15 years, Enbridge Inc. (TSX:ENB)(NYSE:ENB) has been one of Canada’s strongest-performing stocks in terms of total returns. Since 2000 Enbridge shares have increased over six times in value, and at the same time Enbridge has increased its dividend every one of those years at an average annual growth rate of 14%.
While the past year has seen Enbridge shares plunged 32%, many see this plunge as an opportunity. This is because Enbridge is currently executing a $38 billion capital program, which it is expecting to drive cash flow growth of 15-18% annually through to 2019 as well as dividend growth of 14-16% annually.
With this is mind, Enbridge seems healthier than ever. Despite this, there are some big long-term risks lurking under the surface, especially for Enbridge’s massive liquids segment, and these risks could put a massive damper on long-term returns.
Long-term oil sands growth is uncertain
While it is true that Enbridge has little direct exposure to oil prices, it has major indirect exposure to commodity prices. Enbridge’s existing projects have what is known as “embedded growth,” which means that these pipelines are set to grow earnings as volumes as well as tolls from them grow. However, Enbridge requires new investment opportunities to truly drive growth.
Currently, Enbridge’s largest segment by a large margin is its oil and liquids pipeline segment (74% of Q3 2015 earnings), and in order for this segment (and Enbridge as a whole) to continue to grow at a high single- or double-digit rate, this segment will need to see new investment opportunities.
Ultimately, this depends on long-term production growth from the oil sands, which is uncertain at this moment. Both Enbridge and the Canadian Association of Petroleum Producers (CAPP) are projecting strong oil sands growth of about 800,000 to one million barrels per day through to 2020.
After 2020, however, the picture is uncertain. In one scenario, CAPP sees no oil sands growth after 2020, and in their optimistic scenario, they see another 900,000 barrels per day coming online through this period. The scenario occurs ultimately depends on the price of oil. At current prices, no new oil sands projects are being sanctioned, and it’s possible that 2016 will see no new projects at all.
If oil prices do not recover to levels that make these projects economical, Enbridge could see its long-term growth limited. While U.S. tight oil producers have been cutting back in response to low prices (which should be a positive for prices), many experts expect this supply to come back online quickly once oil prices return to $50-65 levels.
Enbridge faces competition from other midstream companies
Enbridge is certainly prepared to meet any demand for energy infrastructure. For example, in order to meet one million barrels per day of production growth before 2020, Enbridge estimates that about 450,000 barrels per day of new pipeline capacity will take the oil to refineries. If growth after 2020 occurs, another 500,000 barrels of pipeline capacity will be required.
Enbridge has a plan to easily meet this demand. In 2017, Enbridge’s Line 3 Replacement will be complete, and this will unlock the pipeline’s current capacity of around 390,000 barrels per day, plus an additional 400,000 barrels per day of additional capacity.
This extra 400,000 barrels per day would be bottle-necked and unable to move, so Enbridge has a plan to expand downstream pipelines to allow the additional oil to move from Alberta via Line 3 into the U.S. and down to the Gulf Coast refinery complex.
This issue is that other pipelines are also in the approval process, such as Kinder Morgan’s Trans Mountain pipeline (which would take oil to the West Coast of Canada for export), or TransCanada’s Energy East pipeline. If these are approved, Enbridge’s expansions would not be as necessary.
While Enbridge has solid growth through to 2020, its growth afterwards depends on new investments. Currently, Enbridge estimates that it can grow its cash flow by 10% annually after 2020 with new investments and by 3% annually without. This means that while the end for Enbridge’s excellent growth pathway could be in sight, there is still some way to go.
