Home / Business / 3 major dividend stocks for profit from America's energy boom – EOG Resources, Inc. (NYSE: EOG)

3 major dividend stocks for profit from America's energy boom – EOG Resources, Inc. (NYSE: EOG)

(Source: imgflip)

I am a big fan of investments in dividend growth, especially in quality blue chips that have strong secular growth winds that can drive strong cash flow and payout growth for several years or even decades.

Five years ago, I started my analyst / investment writing career at The Motley Fool, which specializes in energy distribution. Thus, I have had a very close look at the global energy markets and the incredible increase in US shale oil and gas production.

In this article I would like to tell you why I am very bullish on the oil and gas industry and consider it a good sector for income development investors to take advantage of in the next few years.

More importantly, I would like to highlight Exxon Mobil (XOM), EOG Resources (EOG) and TransCanada (TRP) as three major candidates for your diversified revenue growth portfolio.

Each is an industrial savings offering investors different things, ranging from a sky-high dividend growth, a very generous and steadily growing return, to rock solid and recession / commodity price insensitive cash flow.

So let's take a look at why I think the energy sector is so attractive right now and why these three layers will in particular generate large returns over the next few years and are good for good purchases today.

Why I am so fancy on American energy

Despite what some people believe the demand for oil and gas will not decrease at any time soon. In fact, it is likely to continue to rise for not only the next few years, but for decades.

Source: IEA

(Source: XOM Investor Presentation)

This is due to a continued fast-growing world population, rapid economic growth in emerging markets and a need to deliver base load power (via natural gas power plants) to The Very Fast EV The assumption is that many fears will kill the demand for oil.

Source: EIA

For example, the US Energy Information Administration expects that natural gas's share of the total electricity generation market will actually increase slightly by 2050.

Leading the way to global growth growth is the United States, whose slate revolution has already made it largest oil producer and as the international energy agency expects to deliver 70% of the raw supply growth over the next five years.

Source: IEA

And since US refineries have been built to handle acidic crude oil (with higher sulfur content) and US shells are low-sulfur (sweet) Oil exports will continue to rise rapidly and possibly make America the world's leading raw exporter .

Source: IEA

Many investors are worried that the world's increasing focus on climate change means that the demand for oil and gas will fall off a cliff in the next few years. In reality, oil prices are likely to remain high over time thanks to the natural decline of older oil products (5% to 6% per year), which means that even assuming the Paris climate targets, much more investment is needed to balance supply and demand.

So far, no large country has come close to delivering on its Paris agreements, which Björn Lomborg recently pointed out in a large article

The 2015 climate agreement in Paris is an excellent example of this. Countries made a grand commitment to keep global temperature rise well below 2 ° C over pre-industrial levels, but all their promises together contribute to less than 1% of what is needed . New analysis shows that only 17 countries – including Algeria and Samoa – actually fulfill their commitments in most cases because they promised very little . "- Björn Lomborg (emphasis added)

In fact, most of the Paris signatories, including the self-right and probably green EU, in 2017 increased carbon dioxide emissions. The United States led the way to actually reducing carbon dioxide emissions, precisely thanks to cheap shale gas accelerating The transition from coal to gas-fired power plants

In 2017, US per capita carbon dioxide emissions hit a 67-year low thanks to the increase in shale gas, which disadvantaged environmental activists and politicians are working to stop, but the truth is that without major investments in new production and midstream

(Source: XOM investor presentation)

According to IEA's latest five-year forecast by 2040, it will need to invest $ 21 trillion for new oil and gas supplies, a total of over half a trillion barrels of crude and 2.1 quadrillion cubic feet of gas, even if the world becomes serious about climate change (which objectively it never has), the world will need about $ 14 billion in new investment and 370 billion barrels of new raw material.

The point is that the age of oil and gas does not go away at any time, and is likely to be for decades, as the demand for oil and gas is growing steadily, but at a slower rate.

However, given the natural downturn, older field prices mean that the rising world population and rapid growth in emerging markets are likely to drive higher, not lower, crude prices over time, which will greatly benefit Exxon, EOG Resources and TransCanada investors .

So let's take a look at why I think these three energy stocks are some of the best ways for dividend growth investors to benefit from both higher oil prices in the future, but also the overall North American energy banana.

Exxon Mobil: The safest oil giant for conservative high-yield investors

Exxon is a legend in the oil industry, which is part of Rockefeller's standard oil sample and pays uninterrupted dividends since 1882 (137 years). It is one of only three dividend aristocrats in the energy sector (CVX and HP are the other two) and has paid rising dividends for 36 straight years. The next quarterly declaration will see an increase that will extend this route to 37 years and set up Exxon to become the first oil company's dividend king (in 2032).

[Källa: Enkelt säkra utdelningar]

Even more impressive is the fact that Exxon has retained a remarkable consistency in the payout level despite being in a high-capital-intensive, volatile cash flow industry.

(Source: XOM investor presentation)

And its payout growth has not only been impressive in absolute terms but also in comparison with the other five integrated oil giants. Only fellow Aristocrat Chevron (CVX) has come close to matching Exxon's dividend growth over the past decade.

It is aware of the strongest balance sheet in the industry, including a debt ratio of 9% and an AA + credit rating. Net debt / EBITDA Interest coverage ratio S&P credit rating

Average interest cost

Exxon 1.6 AA + 2.2% 2.2% Safe Level [1.5] or less [10] or higher BBB or higher NA Industry Average 0.7 11.5 NA NA

(Sources : Easily Secure Dividends, Guru Focus, FAST Graphs)

All oil companies must use the debt under oil accidents to fund Capex and keep dividends. Therefore, a fortress-like balance is important for all blue chip energy investors. Exxon's conservative debt (the strongest balance sheet in the industry) is what makes it a level 10 quality SWAN share according to my new Sensei Quality heading.

(Source: XOM investor presentation)

This heading refers to dividend security, business model risk and management quality to determine the overall quality and risk profile of the company and is based on an 11-point scale, 9 or higher, earning a company's SWAN status .

Remember the long-term industry's growth forecasts? Well, Exxon's share of $ 21 billion in capex (based on the global market share) required to supply the world with oil and gas is $ 30 to $ 35 billion a year. That's exactly what management, now under the direction of Darren Woods (27 year-old corporate veteran), plans to spend the next few years.

(Source: XOM investor presentation)

According to management, it is now time that 20 years in the best way get a higher return on capital for new production expenses, with an average of about 20% in the next few years .

In 2018, the management led its new growth plan which required over $ 200 billion in capex by 2025 ($ 64 billion in 2019 and 2020) and was expected to lead to

  • increasing production by 25% from 4 million bpd oil equivalents
  • Increased chemical production by 30% (40% in North America and Asia).
  • 20%, 20% and 15% ROCE on production, refining and chemical.
  • 19659065] The profit from refining and chemical will double
  • profits from oil and gas production will triple (assuming an average global oil price of $ 60).

It was expected to send operating cash flow (and free cash flow as the fund dividend) rising by at least 100% over that time. By the way, revenue would triple in 2025, assuming an average oil price of $ 60.

(Source: XOM Investor Presentation)

In fact, the management of $ 80 made the company generate $ 52 billion in free cash flow by 2025. Even assuming a 6.5% growth that would mean $ 32 billion in retained FCF (FCF minus dividends) to repay debt, buy back shares or invest in renewable energy.

(Source: XOM Investor Presentation)

Well, the management's latest management takes these boom characters and raises them a little higher. Exxon now expects that even if commodities would collapse to $ 40, it is growth plans that would increase profits and cash flow by 40%.

(Source: XOM investor presentation)

Similarly, cash flow outlook has increased, with Exxon now expecting a 7% long-term FCF growth, which may be higher per share if it resumes repurchase. To help finance this growth plan, the company plans about $ 20 billion in non-core assets by 2021, some of which will actually share repurchases according to their CEO.

(Source: XOM Investor Presentation) [19659071] Everyone tells us that Exxon, even assuming it's only $ 60, is expected to generate $ 190 billion in free cash flow over the next six years, 53 percent of them going against dividends that leave $ 90 billion to repay debt, buy back shares and diversify operations into renewable energy sources.

But what will Exxon's exact impressive growth do in the next few years? There would be many growth catalysts including

  • Guyana: where reserves are now expected to reach 5.5 billion barrels and Exxon expects to produce 750,000 bpd by 2025
  • Brazilian offshore: where it owns 2.3 million hectares (up 840 000 last year) and can generate more than 10% return on capital for just $ 40 oil prices
  • The Permier Basin: production increases to about 1.4 million bpd before 2024, from 300,000 today (and accounts for over 25% of total enterprise production )

In the past year, Exxon has gone from strength to strength. For example, in December, the company announced its 10th offshore discovery in Guyana. It was part of a string of five discoveries in 2018 that drove Guyana reserve estimates up 60% last year alone. In 2019, Exxon has made two further major discovery discoveries off the coast of Guyana.

[Källa: Exxon Earnings Presentation]

Exxon has sent a second exploration vessel to search for more lucrative oil spills and the reserve calculations are now up 10% in 2019 to over 5.5 billion, an increase of 450% from 2015. But Guyana is hardly the only promising growth catalyst that blows away expectations.

(Source: XOM Investors presentation )

Exxon's offshore prospects continue to improve with Guyana and Brazil offering massive reserves with break-even prices of $ 40 or less. In fact, Brazilian offshore would actually produce about 25% return on investment while Guyana would be close to 40% at $ 60 current and $ 71 on average in 2018.

But while Exxon's offshore prospects have never been brighter, its US shale assets even more impressive.

(Source: XOM Investor Presentation)

The company's Permian area holds an estimated 10 billion barrels of oil equivalent (and grows rapidly) in over 20,000 drillable wells. 7,400 of them are expected to generate over 10% return on capital even at $ 40 oil. The company only massively increased its future growth management for this formation, which doubled them from last year's already impressive growth calculations.

(Source: XOM investor presentation)

Exxon's plans to increase production in Permian five times before 2024, so it sends 55 rigs to the formation this year (up from 42 in 2018). In addition, the company expects to improve economies of scale and new fracking 3.0 tech (including AI-driven real-time drilling analysis) to cut production costs to just $ 15 a barrel, down from a previous $ 20 estimate.

For contexts before 2014-2016 oil replacement drilling costs for slate were about $ 85, showing how incredibly efficient and adaptable the industry in general and Exxon in particular has been.

(Source: XOM investor presentation)

Exxon alone expects 2023 to allow Permian to generate $ 5 billion in free cash flow, indicating that the US superformation, which can hold up to $ 250 billion in remaining reserves, can burn a gusher off money for many years to come (it is potentially the largest oil stock ever discovered). And that is even if the oil price would crash 33% to $ 40.

(Sources: Rystad Energy, Rattler Midstream S-1)

Exxon has invested in slate aggressively for several years, including through the purchase of Bass Energy of SEK 6.6 billion in 2017. It doubled its Permian reserves to 6 billion, and the reserves have since climbed through organic discoveries and further acquisition of bolts on land.

And thanks to the ever lower production costs, Exxon expects that 2025 will be able to generate over 10% return on capital in Permian even at $ 35 a barrel. In other words, Exxon's profitability, which has risen in recent years, is expected to continue to improve for at least the next six years, but possibly much longer.

But upstream is not even the only area of ​​growth focus that the company has. As you can see Exxon's lucrative investment portfolio, any target return on capital is at least 15% worldwide and includes its subsequent refining company and the high margin petrochemical segment.

(Source: XOM Investment Presentation)

Petrochemical demand is expected to exceed global economic growth at a faster rate until 2025 and likely far beyond. This is because emerging markets such as China and India create an insatiable demand for plastics, pharmaceuticals and all different products that require petrochemicals such as ethylene and propylene.

[Källa: XOM-investerarpresentation]

And if all that wasn't enough, Exxon plans to become the world's second largest producer of liquid natural gas by 2025.

(Source: XOM investor presentation) [19659102] LNG demand is expected to grow faster than gas or oil demand, including an increase of more than 70% by 2030 alone. This is because countries such as China and India are massively increasing their number of natural gas-fired power plants, as they try to both increase their economies and improve their historic horrible air quality.

Ok, so Exxon has several huge growth paths and plans to spend as crazy to increase its production and downstream capacity over the next few years. But what gives me confidence that the management can actually deliver on the bullish growth goals?

(Source: XOM investor presentation)

It would be the industry-leading management group that historically has delivered the best return on capital of all oil products. This includes over the past three years when the oil crisis in 2014-2016 pushed down every oil producer's profitability.

(Source: XOM investor presentation )

It is a profitable leading management who believes that it can keep for the next six years, with a return on capital doubling even if the oil price is flat over that time. And remember that several years of massive underinvestment in new production means that oil prices can rise much higher to $ 80.

And for anyone who has been disappointed in the company's flat production over the past decade, it is certain that Exxon has always taken a long-term approach. That is why it led the industry to new discoveries that have resulted in its proven reserves constantly rising over time.

(Source: XOM investor presentation )

Therefore, Exxon expects, when combined with the largest capex budget in the industry, that production grows steadily and relatively fast over the next six years.

Exxon is basically one of my favorite oil integrations, thanks to the great combination of excellent management (shown by industry-leading return on investment)

  • several major growth catalysts
  • the strongest balance sheet in the industry (so it can be implemented on the ambitious growth plan)
  • the best dividend points for their peers (both the longest and the fastest growth)
  • But while Exxon is undoubtedly a good company that does not mean it does not have its share of risks to consider before investing.

    Risks to Consider

    While Exxon may be a SWAN stock, it does not mean that there are no risks that investors need to consider.

    (Source: JPMorgan Asset Management)

    The company's cash flow (and share price) are very sensitive to crude prices, which can be insanely volatile. In fact, in the past decade we have seen no less than three oil problems where raw disturbed 40 +%. While Exxon has shown that it can maintain a rising dividend during such periods, anyone needing to sell stocks to fund expenses (like retirees with a similar 4% rule) needs to have an impact on their portfolio design and asset allocation.

    Make sure you have enough cash and bonds (which appreciate during recessions / bear markets) so you don't have to sell quality dividend stocks at foursome prices.

    Then there is execution and political risk to consider. Not only in the United States, where politicians often attack oil companies over climate change, but also abroad. Exxon is a global company and has previously had problems in volatile countries such as Russia, Nigeria and Venezuela. The quality management team can adapt to these changes, but any setbacks can create major risks that can damage the stock, plus the long-term growth prospects make it even more difficult to estimate.

    It is the greatest risk for everyone when you own Exxon or any oil company. Oil projects can be very expensive and take several years to build. Good capital allocation (and finally cash flow and dividend growth) requires trained guesstimates to change over time when more data comes in.

    While most companies / authorities / analyst models show that global oil and gas development is rising for decades to come, it is always possible that these estimates may be too high. A slower global economic growth, for example during a recession, can damage Exxon and the industry as a whole in the short term, while the long-term oil growth that falls can create a smaller growth path than current calculations.

    And we can not forget about how long it takes for the age of oil and gas to stop, at some point it is likely that. Exxon and all oil and gas related companies, while potentially large long-term investments in dividend growth, are not "buy and hold forever" shares.

    EOG Resources: The Most Direct Way to Benefit from Higher Oil Prices

    EOG is my favorite cleaning oil company because of several factors. One is the company's high quality (it's a level 10 SWAN on my quality scale).

    The other is the excellent dividend points, which are almost unmatched in their industry.

    (Source: Simply Safe Dividends)

    EOG has passed over a quarter of a century without lowering the dividend. While the payout does not grow every year, total growth is sensational. The best of all this very safe dividend is to grow to 19% CAGR, according to management. The 19% payout level is to return EOG to its previous long-term trend that it has achieved since 1999 (through no less than four oil problems and the financial crisis).

    (Source: EOG Profit Presentation)

    In fact, the reasons for owning the best independent oil company in America (in my opinion) can be summarized by the company's long-term goals outlined by its CEO Bill Thomas as the last conference call.

    "Our long-term playing field is simple: being one of the most successful companies in all sectors of S & P 500 . Our goal is that delivers double-digit returns and double-digit growth throughout the product price cycles In addition to high returns and disciplined organic growth, our goal is to generate free cash flows that support a growing dividend and an unclear balance sheet ] that enables the company to benefit from other options, such as company supplement that meets our strict premium investment standard or potential opportunities to buy back shares when the value accretive Our goal of double-digit returns, double-digit growth and free cash flow sets EOG in line with the best companies in all sectors of the market. "" – Bill Thomas (emphasi s added)

    Those are some bold words, but exactly what blue-chip dividend investors want here. But be sure that EOG does not blow smoke when it says it wants to be one of the best companies in America. Just look at its impressive 2018 results

    • 19% production growth
    • 31% payout rate
    • A record $ 1.7 billion free cash flow
    • net debt / capital down to 19% from 25%
    • returns in one capital of 15% (against a target of 15% and a long-term average of 12%)

    What is the key to such impressive growth, while at the same time quickly subletting and reinforcing an already bunker as a balance sheet? It would be the excellent management team that has focused on delivering return on investment (15% in 2018 against a target of 8% for quality oil companies).

    EOG does not grow for its own sake, and the management fee is tied very closely to the return on capital. 90% of the production comes from the American shells, which, as we have seen with Exxon, quickly becomes one of the most profitable sources of oil in the world.

    (Source: EOG factsheet)

    While the company has some overseas operations, it focuses on maximizing very profitable production growth resources. EOG is a major player in all of the hottest US slate formations, including the mighty Permian basin.

    Last year, the EOG's replacement rate (new reserves / production) was an industry leader 238%, as it found an additional 400 million net barrels of reserves at an average cost of just $ 9.33. This means that EOG now has 2.9 billion barrels of proven reserves representing approximately 11 years' worth of current production. EOG has been one of the best oil companies to improve efficiency since the oil accident. This includes a reduction of 30% of the reserve exchange costs since 2014.

    But the thing I most love about EOG is the management's very high standard for investing shareholder cash. Between 2009 and 2014, when few oil companies actually earned a return on investments over the capital cost, EOG could do this. And since 2016, it has focused on premium drilling sites (90% of wells that drill this year) as it defines to be able to generate 30% internal return after tax of $ 40 oil and $ 2.5 natural gas.

    Basically translating into EOG that needs oil to be $ 55 to achieve double-digit returns on capital, making it one of the lowest and most profitable oil companies in America. And according to the CEO, the company plans to steadily reduce costs over time and increase profitability by ever improving the use of fracking technology and better economies of scale. In 2019, EOG expects to reduce drilling costs by 5% and exploration costs by 10%.

    Helping EOG's profitability is that it is highly vertically integrated, at least as far as the oil companies go. It owns its own frack sand mine and designs most of its material needs (such as tubing and drilling mud) in the house. This makes it better to control quality and keep costs over time (down 6% in 2018).

    (Source: EOG Profit Presentation)

    This is what allows EOG to continually reduce oil prices on which it earned double-digit returns. The ultimate result of EOG's high-quality drilling site focus has been industry-leading profitability, which gives my highest score for management quality (which is primarily focused on good capital allocation).

    (Source: EOG presentation presentation)

    With profitability standards you may think that the company does not have many high return sites. But you were wrong.

    EOG says it has 9,500 remaining drilling sites, which corresponds to 13 years of drilling stock. Of these 8,000, "premium" sites are expected to deliver 30 +% return. There are about 20,000 total drilling sites that represent a 20 to 30 year drilling list. In recent years, EOG's drilling mode has increased by 3,500, as it continues to explore land it already owns plus acquires through M & A.

    (Source: EOG Profit Presentation)

    Even better, EOG has a good job to upgrade their drilling sites from standard to premium, with their expertise in fracking (it was one of the first oil companies to adopt the practice and have lots of experience) and improved material designs. For example, in 2019, the company upgraded more places to premium than it drilled, which means that it not only increased production and profits at an impressive rate (the result jumped 400% that year), but its premium-exceeding demand also grew with the establishment of the 2018 blockbuster year.

    This means that EOG should not run out of premium sites to keep production and cash flow rising for many years, even if the oil price is flat or down. If they rise, as I expect them, EOG will swim in cash.

    In 2019, their $ 6.3 billion plans required 740 net gross plans to drive 12% to 16% production growth, a level that few of their smaller peers (or any oil exchanger) can hope to continue. 65% of the materials and services needed to achieve this year's growth plan have already been secured within only the first two months of the year. Business interest Net debt / EBITDA Interest coverage ratio S&P credit rating

    Average interest cost

    EOG Resources 0.7 17.7 A- 3, 6% Säker nivå 1,5 eller mindre 10 eller högre BBB eller högre NA Industrins genomsnitt 3.0 10.6 NA [19659037] NA

    (Källor: Enkelt säkra utdelningar, Gurufokus, FAST Grafer)

    Men precis som med Exxon är EOGs balansräkning en fästning. Hävstångsförhållandet är lågt, det är mycket högtäckande räntetäckning och det har en av de bästa kreditvärdigheterna hos ett oberoende oljebolag och därigenom låga lånekostnader nästan fem gånger under avkastningen på investerat kapital.

    Och mellan 2018 och 2021 planerar EOG att betala ner 3 miljarder dollar på sina 6,1 miljarder dollar skuld, vilket gör en av de starkaste balansräkningarna i branschen ännu säkrare. Det gör det möjligt att behålla sin säkra utdelning och fortsätta investera i tillväxt med hög marginal, även om oljepriserna kraschar i $ 30-talet.

    Faktum är att balansräkningen är en viktig orsak till att EOG har en så stark utdelningstillväxt, bland annat att kunna behålla eller till och med öka utdelningen under fyra oljeolyckor under de senaste 20 åren och den stora lågkonjunkturen. Det beror på att dess operativa kassaflöde, tack vare sina super låga kostnader, kan täcka både dess kapital och utdelning med bara 50 US-dollarens oljepriser.

    (Källa: EOG-vinstpresentation)

    Om oljepriset går högre än inte bara kommer EOG att uppnå sitt långsiktiga tillväxtmål på 19%, men det kommer att kunna opportunistiskt köpa tillbaka många aktier som kommer att leda till FCF / andel tillväxt för att påskynda ännu mer.

    I grund och botten är EOG det som jag anser vara den högsta kvalitet fristående oljeblåchipen och SWAN-beståndet som är bäst positionerat för att dra nytta av US-skifferbommen och högre oljepriser. Men naturligtvis, som med alla företag, finns det risker att tänka på innan man investerar.

    Risker att överväga

    EOG kan vara ett SWAN oljebolag men det är ett oljebolag ändå. And unlike Exxon, it doesn't have a downstream segment to buffer cash flow during oil crashes (refining and chemical profits usually go up when oil prices drop).

    In addition, unlike most years, when EOG has hedged 50% of its production to lock in guaranteed prices, in 2019 it's chosen a bold move to not hedge and thus gain any upside potential should crude move higher. But of course, if we were to get another oil crash, then it's cash flow could fall significantly.

    And while EOG's management is excellent in terms of overall capital allocation, that doesn't mean it doesn't make mistakes. In 2015, the first full year of the 2014 to 2016 oil crash, it wrote down $6 billion worth of goodwill on previous acquisitions it made. Fortunately, management has said it has no plans for further large scale M&A given its enormous backlog of premium drill sites which it can spend the next decade profiting from.

    Finally, investors need to remember the one major downside of shale production. While new wells can be brought on-line quickly and relatively inexpensively (and that cost is falling over time), shale wells also have very fast decline rates of up to 90% within the first year (then it tapers off).

    (Source: EOG earnings presentation)

    And while EOG's first mover advantage in shale means its expertise is among the best of its peers (thus its initial production levels are among the best), ultimately EOG needs to keep drilling a lot of new wells to maintain steady production, much less grow it at double-digits per its long-term goal.

    In other words, EOG represents one of the highest quality blue-chips in US oil BUT it still has a risk profile that makes for highly volatile cash flow and a stock price very sensitive to crude prices.

    TransCanada: A High-Yield Dream Stock With Far Less Commodity Risk

    For those that want to profit from North America's energy boom and higher oil prices over time, but don't want the cash flow volatility that comes with owning energy producers, midstream is the place to look for your high-yield, dividend growth needs. TransCanada is one of my top blue-chip recommendations in this industry.

    TransCanada is North America's second-biggest energy infrastructure operator, thanks to being founded in 1951 and having over 60 years to build out a continent-spanning network of pipelines, gathering, and storage assets. In fact, since 2000 alone the company has spent over $63 billion building out its infrastructure network. A network that consists of over 60,000 miles of gas and crude pipelines that carry 20% of Canada's oil and 25% of all the natural gas used in North America.

    (Source: TransCanada investor presentation)

    Those cash-rich assets include such gems as the NGTL and Mainline systems, which supply 75% of Canada's natural gas takeaway capacity from Western Canada's Sedimentary Basin or WCSB, which holds the continents largest deposits of natural gas.

    (Source: TransCanada Investor Presentation)

    It also owns the Keystone crude pipeline, the second biggest on the continent, which connects Canadian crude production to key refining and export capacity in the Midwest and Gulf Coast, respectively.

    The company also owns 6.6 GW worth of regulated electric production capacity (from 11 power plants serving over 6 million customers), further providing it with steady and recession resistant cash flow.

    The stability of the distributable cash flow or DCF (midstream equivalent of FCF and what funds the payout) is imperative. TransCanada's DCF is incredibly stable thanks to being so highly diversified and the great nature of its contract profile.

    For example, the NGLT and Mainline gas pipelines have volume committed "take-or-pay" contracts with an average remaining duration of 10 years. This means customers reserve space on the system and whether or not any gas gets shipped, TransCanada is guaranteed to get paid in full. These contracts are nearly entirely with investment grade counterparties, including regulated utilities, meaning little default risk.

    Keystone's 20-year initial contracts have 13 years remaining and 90% of that capacity is covered by these volume commitments (the most regulators would allow).

    The Mexican pipelines have 25-year volume committed contracts as well, and overall TRP's average remaining contract is for over 10 years in duration. Initial contracts range in length from 15 years to 100+ years.

    (Source: TransCanada Investor Presentation)

    In total 95% of cash flow is either regulated or under long-term take-or-pay contract, meaning extremely low cash flow variability, no matter what the economy or oil & gas prices are doing.

    (Source: TRP corporate profile)

    This highly stable and recession-resistant cash flow is what's allowed TRP to deliver 19 consecutive years of dividend growth, and at an impressive 7% growth rate. That rate is expected to increase to 8% to 10% dividend growth through 2021, supported by some of the most rapid cash flow growth of any midstream blue-chip (level 9 SWAN stock on my quality scale).

    The company's short-term growth plans include expanding its pipeline capacity by about 1.8 million bpd in the next few years, which should make that long-term growth forecast achievable.

    (Source: TRP corporate profile)

    And in the long-term, its growth backlog, including Keystone XL and related projects, is about $35.3 billion (including the shadow backlog), the largest in the industry. $27 billion of that is expected to be completed by 2023 and $15 billion is already under construction. All those projects have already secured long-term contracts for the majority of their capacity, including for 93% of Keystone Xl's capacity.

    Company Debt/Adjusted EBITDA Interest Coverage Ratio S&P Credit Rating

    Average Interest Cost

    TransCanada 5.1 4.4 BBB+ 4.4%
    Safe Level 5 or less 2 or more BBB- or higher NA
    Industry Average 4.4 4.5 NA NA

    (Sources: Simply Safe Dividends, earnings presentation, Gurufocus, F.A.S.T Graphs)

    As importantly, TransCanada's balance sheet is one of the strongest in the industry, which is why it's tied with other midstream blue-chips (like EPD, MMP, and ENB) for the highest credit rating in midstream (BBB+). That locks in low borrowing costs that make it easier to grow profitably and is what's likely to help keep the dividend growth record strong.

    (Source: TRP corporate profile)

    TRP has managed to achieve its impressive cash flow and dividend growth while steadily deleveraging its balance sheet, which is an industry-wide trend. By the end of 2019 management expects the leverage ratio to be under 5. Not just is that a level seen as safe by the credit rating agencies and bond investors, but it's a level management has said it plans to maintain over time.

    (Source: TRP corporate profile)

    That strong balance sheet, when combined with TransCanada's industry-leading low DCF payout ratio (just 42% over the past 12 months) is what supports a self-funding business model. TRP's growth prospects are entirely independent of its share price, which makes a low-risk investment thesis even safer.

    Today TransCanada has $7.5 billion in liquidity available under its revolving credit lines, in addition to retaining nearly 60% of DCF to fund its ambitious growth efforts.

    Basically, TransCanada is one of the biggest, best run, and fastest growing blue-chips in the thriving midstream industry, and the decades-long energy boom represents an excellent long-term growth runway. That's because, based on the latest estimates from various energy agencies and industry reports, the total amount of North American midstream growth spending needed through 2050 is over $1 trillion.

    That means that even giants like TransCanada are likely to deliver generous, safe and steadily growing dividends not just for many years to come, but likely for decades.

    Risks To Consider

    TransCanada has some important factors pertaining to its dividend that investors need to be aware of. The first is that the payout is in CAD which means there is short-term currency fluctuations that can make the USD dividend each quarter slightly variable. While this tends to cancel out over time, those who need rock steady income (like retirees looking to pay bills) need to keep this in mind.

    The other thing to know is that as a Canadian company taxable accounts are subject to a 15% Canadian tax withholding (retirement accounts are not). Fortunately, a US tax credit offsets the entire amount for most US investors (other than the highest income earners). But just $300/$600 per person/couple of your total foreign tax withholdings (across all foreign stocks in all portfolios) can be taken using the standard 1040 tax form.

    For figures above this amount the more complicated Form 1116 is required. While TRP doesn't use a K-1 tax form (which many investors want to avoid) its foreign status can potentially make for tax prep complexity of its own.

    As for business model risk, the biggest issue for TransCanada (and all midstream operators) is execution on its growth backlog. The Keystone XL pipeline is a perfect example of how large and complex pipeline projects can often get tied up for years in the courts, as environmentalists try their best to stop anything that helps grow North American energy production.

    Keystone XL was begun in 2008, but the $8 billion project was canceled in 2015 when President Obama revoked its regulatory approval in the US. President Trump then reversed that decision, and the company obtained enough volume committed contracts to proceed with the project. But then the project got delayed again due to the Nebraska Supreme court reviewing its approval in that state.

    Analysts expected the project to eventually get completed (in 2022) but the pipeline suffered yet another setback on March 18th when the US Ninth District Court of Appeals refused to overturn an earlier ruling by the US District court overseeing Montana, which blocked that section of the pipeline.

    TransCanada says this setback could cost it $900 million and delay the project by a full year (due to the timing of pipeline construction, which is seasonal). It's always possible that the project might have to be canceled again, in the face of never-ending court delays and a possibly much more hostile US president (to the energy industry) in 2021 and beyond. Keystone underpins about $15 billion or 45% of the company's total potential growth backlog, and so the cancellation of that project would represent a significant blow to the company's growth potential.

    Fortunately, management, led by CEO Russ Girling, a 25 year veteran of the company, is more than capable of adapting to these challenges. Girling has been CEO for over eight years now, and before that served as both CFO and COO. While great management can't guarantee that every project makes it to completion, I'm confident that TransCanada will be able to deliver its generous and safe dividend along with very steady payout growth.

    Execution risk merely means that the growth rate of that very safe dividend is more in doubt than management's bullish guidance might initially indicate.

    Total Return Profile: All 3 Will Likely Beat The Market Over The Coming Years

    What drives my investing recommendations (and portfolio buys) is a stock's total return profile which consists of four things, yield, dividend safety, long-term growth prospects, and valuation. These are what historically determine total returns.

    Company Yield TTM FCF Payout Ratio Expected Long-term Cash Flow Growth Total Return Expected (No Valuation Change)

    Valuation-Adjusted Total Return Potential

    Exxon 4.1% 84% 7% to 8% 11.1% to 12.1% 12.2% to 14.3%
    EOG Resources 1.0% 28% 11% to 19% 12% to 20% 11.1% to 22.7%
    TransCanada 4.7% 42% 7% to 8% 11.7% to 12.8% 13.5% to 14.5%
    S&P 500 1.9% 33% 6.4% 8.3% 2% to 8%

    (Sources: Simply Safe Dividends, F.A.S.T Graphs, Morningstar, analyst estimates, Moneychimp, Multpl.com, Yardeni Research, Gordon Dividend Growth Model, Dividend Yield Theory)

    Exxon and TransCanada are offering highly attractive yields at least double that of the broader market. EOG's yield is paltry but growing at almost 20% over time, making it a great income growth investment. All three stocks have very safe dividends thanks to sustainable and stable or declining (in the case of Exxon) cash flow payout ratios. Remember Exxon is targeting a long-term payout ratio of 52%.

    The other half of dividend safety is the balance sheet, and we've already seen how all three blue-chips have safe debt levels and very strong investment grade credit ratings.

    In terms of dividend growth Exxon is likely to stick to its historical 6% to 7% payout growth rate, TRP is likely to deliver 7% to 8% over time and EOG will be the growth rockstar with 19% CAGR per management guidance.

    This means that, excluding valuation changes, each energy stock should deliver solid long-term double-digit total returns, which is far superior to the 2% to 8% long-term returns the S&P 500 is expected to see in the coming years (per analyst estimates according to Morningstar).

    But better yet, at today's prices all three stocks are also undervalued, meaning that investors can enjoy a nice little valuation boot that will enhance those already attractive potential returns.

    Valuation: All 3 Energy Stocks Are Likely Good Buys At Today's Prices

    (Source: Ycharts)

    Exxon and TransCanada have had a solid start to the year while EOG has not. But the good news is that all three stocks are still good to great buys right now. That's based on my favorite valuation method for blue-chip dividend stocks, dividend yield theory or DYT. This is the only strategy that asset manager/newsletter publisher Investment Quality Trends has used since 1966.

    (Source: Investment Quality Trends)

    Decades of market-beating returns (and the best risk-adjusted track record of any newsletter over the past 30 years according to Hulbert Financial Digest) give credence to this approach. DYT simply compares a stock's yield to its historical yield, because unless the thesis breaks, yields tend to cycle around a relatively stable level that approximates fair value.

    Company Yield 5-Year Average Yield Estimated Discount To Fair Value Long-Term Valuation Boost
    Exxon 4.1% 3.6% 12% 1.2%
    EOG Resources 1.0% 0.7% 23% 2.7%
    TransCanada 4.7% 3.9% 17% 1.8%

    (Sources: Simply Safe Dividends, Dividend Yield Theory, Moneychimp)

    Today DYT says all three companies are trading at discounts to fair value, implying a nice long-term valuation boost as their yields return to historical norms. EOG's estimate might be somewhat suspect because the low yield/fast growth rate means that few investors own it for income. So to confirm I look to Morningstar's three-stage long-term discounted cash flow models.

    Company Morningstar Fair Value Estimate Discount To Fair Value

    Long-Term Valuation Boost

    Exxon $90 10% 1.1%
    EOG Resources $85 -9% -0.9%
    TransCanada $53 14% 1.5%

    (Source: Morningstar)

    Morningstar's fair value estimates on XOM and EOG assume $55 long-term oil prices, which would represent a roughly 10% decrease from current levels. This means that the above fair value estimates might be overly conservative if oil prices average $60 or more, as Exxon and most analysts expect.

    But Morningstar is known for some of the most conservative growth estimates and assumptions on Wall Street so it's still useful to see what they consider a good price for any blue-chip. In this case, Morningstar's estimate agrees with DYT on XOM and TRP but they consider EOG slightly overvalued.

    I personally disagree given my belief that strong demand/supply fundamentals will result in higher oil prices than Morningstar is baking into its models. Thus I split the difference between Morningstar's FVE and DYT and estimate EOG to be about 7% undervalued.

    • Exxon: 12% undervalued = strong buy
    • TransCanada: 17% undervalued = strong buy
    • EOG: 7% undervalued = buy

    Based on my personal valuation scale that makes all three stocks worth buying today, though Exxon and TransCanada are the stronger buy recommendations for new money today.

    Bottom Line: These 3 Energy Dividend Growth Stocks Are Great Ways To Profit From The Ongoing US Energy Bonanza

    Don't get me wrong, I know that the oil & gas/midstream sectors aren't for everyone. Some people simply wish to avoid it entirely, whether on personal/moral grounds, or a desire to only invest in "buy and hold forever" stocks, which none of these three are.

    However, if you are comfortable with the energy sector's risk profile and don't mind crazy high stock price volatility at times, Exxon, EOG, and TransCanada are great long-term investments.

    Exxon is the ultimate oil SWAN stock, with the dividend aristocrat offering the best payout growth record in the industry. Management's long-term growth plans are highly ambitious but I'm confident that its fortress-like balance sheet and quality leadership can deliver on them, resulting in 6% to 7% long-term dividend growth and market-beating total returns.

    EOG Resources is the most direct beneficiary of the American shale boom and rising oil prices. The company is a low-cost industry leader, capable of surviving another oil crash with its dividend intact as it proved during the last four commodity crashes. And that 19% long-term dividend growth plan makes this low-yielding hyper growth stock a potentially attractive buy at today's roughly 7% undervalued price.

    TransCanada is one of the largest energy infrastructure giants on the continent and a great way for high-yield dividend growth investors to profit from North America's energy boom, but without the inherent cash flow volatility that comes from actual energy producers. I fully expect TransCanada to become a dividend aristocrat in a few years, and deliver some of the midstream industry's top growth rates for many years to come.

    Disclosure: I am/we are long XOM, TRP, EOG. I wrote this article myself, and it expresses my own opinions. Jag får inte ersättning för det (annat än från Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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