Stock story: Enbridge

A stranglehold on North American energy infrastructure that girds against any switch from fossil fuels.

Stock story: Enbridge

Enbridge is North America’s leading energy infrastructure company. The Canadian-based company owns liquids pipelines, gas transmission assets, gas distribution networks and renewable generation assets. The company operates the largest liquids pipeline network in North America, transporting about 25% of crude oil produced in the region and serving more than 75% of the region’s refineries.

Enbridge operates the second-largest gas transmission pipeline network in North America, moving about 20% of the natural gas consumed in the US. In addition, the company operates the largest gas distribution system in North America and owns 1.8 Gigawatts of contracted renewable generation capacity.

About 98% of Enbridge’s cash flows are secured by cost-of- service regulation or long-term take-or-pay contracts, which means that less than 2% of the company’s cash flow is sensitive to movements in commodity prices. While Enbridge bears volume risk on its cost-of-service regulated pipelines, the company serves some of the most economically advantaged regions and refiners in the world – factors that have delivered consistently high levels of asset use.

Reflecting these helpful characteristics, Enbridge delivered distributable cash flow per share above the mid-point of management’s pre-pandemic guidance in 2020, despite the disruption to global energy markets caused by the global health crisis and an oil price war between Saudi Arabia and Russia.

The company has introduced guidance for EBITDA growth of about 6% in 2021, supporting growth in distributable cash flow per share of around 4%. Over the next three years, management expects to deliver growth in distributable cash flow per share of 5% to 7% p.a., with 4% to 5% of annualised growth attributable to the company’s C$17 billion secured capital program and a further 1% to 2% of growth generated through cost and productivity levers.

In the longer term, Enbridge will need to navigate the transition to a global economy that is less reliant on fossil fuels – a potentially significant challenge for a business that derived about 97% of group EBITDA from the delivery of crude oil and natural gas last year.

Yet concerns that decarbonisation will erode Enbridge’s stable cash flows over the investment horizon appear premature. Virtually all reputable forecasting agencies expect global energy demand to increase to 2040. The International Energy Agency, for instance, forecasts a 7% increase in demand for oil and a 29% increase in demand for natural gas during this period. While much of this demand is likely to emanate from emerging Asian economies, IHS Markit, an energy markets consultancy, forecasts that Canadian oil-sands production will increase by nearly 40% over the next decade, which suggests that demand for Enbridge’s liquids pipeline system will remain robust in the medium term.

Enbridge’s natural gas transmission and distribution assets are expected to be similarly resilient. Natural gas remains the primary fuel for power generation in the regions served by Enbridge’s gas transmission network, a paradigm that is unlikely to change in the medium term, given the long useful lives of electricity-generating fleets and the need to ensure security of supply in an energy market that embeds a growing share of intermittent generation.

The dominance of natural gas as a feedstock for space heating loads in Enbridge’s Ontario gas distribution network appears even less likely to be challenged over the investment horizon. Heating a home with natural gas in Ontario is about 60% cheaper than heating with electric appliances, creating a compelling value proposition for households. Moreover, the region’s brutal winters see peak demand for natural gas reach levels about three times the existing capacity of the electricity network, implying that full electrification of the system would carry a cost that is unlikely to be accepted by consumers or tolerated by policymakers seeking re-election.

Sources: Company filings.

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