Part of taking a smart, value-based approach to investing in the stock market involves keeping track of information on industry and economic trends that are likely to have broad residual impacts on market activity. One of the sectors that I think has a broad carryover effect on multiple other sectors in the economy is Energy, which is why I have learned that it’s useful to pay attention to the price of crude oil on the global market. Despite increasing attention on things like electric vehicles and “green” technologies and solutions aimed at reducing carbon footprints, the plain and simple fact of the matter is that oil continues to be a key driver of economic stability all over the world. That even applies to the production of the material assets used in “green” technologies like electrical car batteries and solar panels, to name just a couple of simple examples.
That reality is a big reason that the Energy sector provides important information about a number of different aspects of the global economy. One of the those elements that is very interesting is the difference between U.S. oil production versus the rest of the world. The financial markets use futures contracts on two primary types of crude oil to track oil prices. Contracts for Brent crude are the basic barometer for oil produced mostly in the Middle East by OPEC countries, while West Texas Intermediate (WTI) crude contracts act as the gauge for U.S. crude.
Over the last ten years, shale oil exploration and production have helped the U.S. narrow the gap between Brent and WTI crude production, with a major portion of shale oil coming from the Permian Basin, which is located primarily in Texas and parts of New Mexico and Oklahoma. The challenge associated with U.S. production – and one of the things that contributed to keep oil prices relatively low prior to this year’s pandemic, which cratered demand for oil and many petrochemical products – is that exploration and production of shale oil has exceeded the capacity of midstream companies to transport the oil to its primary distribution centers before it is sold throughout the world.
Midstream oil companies include those that have been involved in the ongoing construction and maintenance of pipelines and storage facilities out of the areas of the U.S. that drive shale production, like the Permian Basin; limitations of existing pipeline and storage capacity have been the primary reason that inventory out of that area in particular remained stuck in the Basin through 2019 and kept the entire industry waiting for new pipeline projects to be completed. Many of those projects were delayed in 2020 because of the pandemic, but were near enough to completion that a resumption of activity in the expected post-pandemic phase should increase the flow of crude out of the Permian through the rest of this year.
Enterprise Products Partners (EPD) is one of the biggest midstream companies with operations in crude oil, natural gas and liquified natural gas (LNG) transport and storage among other things. EPD isn’t an easily recognizable company by name, but its fundamental profile is very interesting – including a large dividend – and its value proposition is extremely attractive. Assuming projections for a broader economic recovery in 2021 hold, Permian pipeline production should also continue to improve through 2021, as ongoing pipeline projects boost transport capacity. That means that companies like EPD are likely to be strong bets to grow profits in the next year. EPD’s management has also noted that operating margins ticked higher this year, driven primarily by strong export demand for natural gas liquids logistics and consumer-led demand for petrochemicals such as cleaning products. These look to provide a good tailwind for 2021 as previously suspended or deferred projects are brought back into production.
EPD picked up quite a bit of bullish momentum from October to mid-March, rising from a low at around $15 to a peak at nearly $24 per share. From that point the stock dropped back to a low points a little below $22, but has started to rally a bit again and is within range of that 52-week high at around $24. Does the stock still offer a useful value in spite of that increase, or has the stock’s rally into last month pushed it beyond a useful value level? Let’s dive into the numbers.
Fundamental and Value Profile
Enterprise Products Partners L.P. (Enterprise) is a provider of midstream energy services to producers and consumers of natural gas, natural gas liquids (NGLs), crude oil, petrochemicals and refined products in North America. The Company’s segments include NGL Pipelines & Services; Crude Oil Pipelines & Services; Natural Gas Pipelines & Services, and Petrochemical & Refined Products Services. The Company’s midstream energy operations include natural gas gathering, treating, processing, transportation and storage; NGL transportation, fractionation, storage, and import and export terminals, including liquefied petroleum gas (LPG); crude oil gathering, transportation, storage and terminals; petrochemical and refined products transportation, storage, export and import terminals, and related services, and a marine transportation business that operates primarily on the United States inland and Intracoastal Waterway systems. EPD has a current market cap of about $50.5 billion.
Earnings and Sales Growth: Over the last twelve months, earnings decreased by about -5.5%, while revenues declined -12%. in the last quarter, earnings improved by 6.25% while sales were 1.77% higher. The company’s margin profile is healthy on a yearly basis, but showing some signs of cyclical weakness; in the last quarter, Net Income as a percentage of Revenues in the last quarter dropped to 4.8% from 13.88% over the last twelve months.
Free Cash Flow: EPD’s free cash flow is healthy and growing, at almost $2.6 billion over the last twelve months. That marks a significant increase from about $1.5 billion in the quarter prior and $1.487 billion a year ago. The current number also translates to a Free Cash Flow Yield of 5.23%.
Debt to Equity: EPD’s debt to equity is 1.12, which is a little higher than I prefer to see; however the company’s balance sheet indicates operating profits should be adequate to service their debt. Their balance sheet also shows $1.15 billion million in cash and liquid assets versus $28.5 billion in long-term debt, with no major near-term debt obligations.
Dividend: EPD’s annual divided is $1.80 per share, which translates to a much larger-than-normal yield of about 7.85% at the stock’s current price. A number of other companies in the Energy sector have been forced to reduce or even eliminate dividend payments, so EPD’s ability to maintain their attractive dividend – and even increase it, by $.02 per share in the last quarter – is a solid sign of strength.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target at around $26 per share. That means that even with the stock’s increase over the last six months, the stock is moderately undervalued, with about 12% upside from its current price.
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The chart above covers the last year of price activity. The red diagonal line traces the stock’s increase from October 2020 to March of this year at a peak at around $24. It also informs the Fibonacci retracement lines shown on the right side of the chart. After dropping back to support at around $22 at the end of the March, the stock picked bullish momentum again, and has increased to within less than a dollar below that March peak at around $24. A push above $24 could provide about $2 of near-term upside, based on the distance from the last resistance break to that $24 peak. A drop below support around $22 should see the stock drop to around $20 where the 38.2% retracement line waits to offer secondary support.
Near-term Keys: EPD’s fundamental strength and value proposition make it look pretty attractive as a long-term investment opportunity; it’s high dividend also offer an interesting argument for the stock as a useful long-term hold. If you prefer short-term trading strategies, a push above resistance at $24 could be a good signal to consider buying the stock or using call options, with a useful target price at around $26. A push below $22 could be a signal to think about shorting the stock or buying put options, with next support at around $22.