For most of 2022, supply shortages, along with increasing energy demand have been pushing the prices of energy products, including crude oil and natural gas to levels not seen since 2014. Even more support for those high prices has come in the last month as Russia’s invasion of Ukraine has prompted the West to impose harsh economic sanctions on Russia and even to start considering a complete ban of Russian energy imports (this is a line in the sand that European countries, for whom Russia is their primary energy supplier, have been hesitant to cross).
The Energy sector has a broad carryover effect on multiple other sectors in the economy, which is why I have learned that it’s useful to pay attention to the price of crude oil and other energy commodities, like natural gas on the global market. Despite increasing attention on things like electric vehicles, “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. Oil and natural gas liquids (NGLs) are also used in a variety of other petrochemical applications and industries including plastics, home building, fertilizers, and pharmaceuticals to name just a few. It also means that when events threaten the stability of supply and price, the ripple effect could extend into just about every part of the global economy.
Over the last ten years, shale oil exploration and production have helped the U.S. narrow the gap between Brent (mostly oil from the Middle East) and WTI (the generalized benchmark for U.S. oil) crude production, with a major portion of shale oil coming from the Permian Basin 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 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 still-anticipated “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 it is well-established and recognized among its peers, with a very interesting fundamental profile that includes a large dividend and critical fundamental metrics like free cash flow and cash that have seen significant improvements over the past year. EPD’s management has also noted that operating margins ticked higher over the past year, driven primarily by strong export demand for natural gas liquids logistics and consumer-led demand for petrochemicals such as cleaning products and a built a useful backlog of pending orders into 2022. These look to provide a good tailwind into the new year year as previously suspended or deferred projects are carefully and deliberately brought back into production to keep pace with demand.
EPD peaked in June of 2021 at around $26 per share, dropped back towards the end of the year, and has followed the trend of increasing crude prices to a peak back around $26 and has slipped back a bit from that point to its current price around $24.50. When you consider that the conflict in Ukraine has already extended longer than Russia expected, and the even more extended effect it could have on the global economic picture in the months ahead, the general outlook is that energy prices should remain elevated for the foreseeable future. I think that strongly suggests that stocks like EPD could be a smart place to think about. What about the company’s fundamentals? Is it also a smart value? Let’s find out.
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 $53.5 billion.
Earnings and Sales Growth: Over the last twelve months, earnings increased by about 2%, while revenues were more than 61% higher. In the last quarter, earnings growth was flat, at exactly 0%, while sales were about 5% higher. The company’s margin profile is healthy; in the last quarter, Net Income as a percentage of Revenues in the last quarter was 9.05%, declining a bit from 11.42% over the last twelve months.
Free Cash Flow: EPD’s free cash flow is healthy and growing, at a little more than $6.35 billion over the last twelve months. That marks an increase from about $5.6 billion in the quarter prior and $3 billion a year ago. The current number also translates to a Free Cash Flow Yield of 11.86%.
Debt to Equity: EPD’s debt to equity is 1.06, which is a little higher than I prefer to see, but also isn’t unusual for stock’s in this industry; however the company’s margin profile indicates operating profits should be adequate to service their debt. Their balance sheet has been a bit of a concern, as liquidity was limited, but it has also shown significant improvement over the last two quarters; in the last quarter the company reported $2.96 billion in cash and liquid assets versus $28.1 billion in long-term debt, with no major near-term debt obligations. It is worth noting that cash increased from $611 million two quarters ago and $334 almost a year ago. Their operating margins are more than adequate to service their debt.
Dividend: EPD’s annual divided is $1.86 per share, which translates to a much larger-than-normal yield of about 7.57% 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 this year (from $1.80 prior to the latest earnings announcement) 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 $31.50 per share. That means that the stock is nicely undervalued, with about 29% upside from its current price. It is also worth mentioning that at the end of 2021, this same analysis offered a long-term target at $28 per share.
Technical Profile
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 about $20.50 in December to its peak this month at around $26. It also informs the Fibonacci retracement lines shown on the right side of the chart. After dropping sharply back a couple of weeks ago, the stock has found support a little below $24 and has been rallying higher, with immediate resistance very close tot he stock’s current price at around $24.50. A push above $24.50 should have room to between $25.50 and $26 where the stock’s last high occurred, while a drop below $24 should have limited downside to about $23 per share.
Near-term Keys: EPD’s fundamental strength is generally improving, with a very useful value proposition. Its high dividend also offers an interesting argument for the stock as a useful long-term buy-and-hold position. If you prefer short-term trading strategies, a push above resistance at $24.50 could offer a signal to consider buying the stock or using call options, with a useful target price at around $$26. A drop below support at around $24 has limited downside; the stock would really need to break below $23 to offer a signal to short the stock or buy put options, but in that case you could work with a price in the $21.50 to $21 level as a bearish profit target.