One of the most consistent companies in the midstream space, Enterprise Products Partners (EPD 0.56%), is looking to ramp up its spending on growth projects as it begins to see a strong set of project opportunities in front it. At the same time, the pipeline operator continues to put up good results, with a solid showing in its third quarter.
The stock pays a highly attractive distribution with a 7.2% forward yield. Let’s dig into the company’s Q3 results to see if now is a good time to buy the stock, as it looks to supercharge growth.
A model of consistency
With a steady, predominantly fee-based business model, Enterprise doesn’t tend to give investors too many surprises, which is a good thing. This stayed true last quarter, as the company delivered solid growth.
In its third quarter, Enterprise’s total gross operating profit increased 5% to $2.45 billion. Its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) also rose 5% to nearly $2.44 billion.
It produced distributable cash flow (DCF) of $1.96 billion, a 5% increase. Meanwhile, its adjusted free cash flow was $943 million. DCF is similar to free cash flow, except that operating cash flow is only reduced by maintenance capital expenditures (capex) and not growth capex. With the company directing more money toward growth projects, its adjusted free cash flow was down year over year.
Based on its DCF, Enterprise’s distribution coverage ratio was 1.7x. It ended the quarter with leverage of 3x, which it defines as net debt adjusted for equity credit in junior subordinated notes (hybrids) divided by adjusted EBITDA.
What all these fancy acronyms show at the end of the day is that Enterprise is generating a lot of cash flow that it is directing toward its distribution and growth projects, while keeping its debt levels at appropriate and manageable levels. Free cash flow will likely dip as it allocates more of this cash flow toward growth, and the company has started to spend slightly more in distributions and capex than it is generating in operating cash flow.
While that is something to monitor, Enterprise’s balance sheet is one of the best in the midstream space, and it has increased its distribution for 26 straight years. There is nothing in Enterprise’s history that indicates it will spend recklessly, but it will take advantage of attractive projects when it sees them, and it has fortified its balance sheet to do just that.
As for the distribution, it currently sits at $0.525 a quarter, up 5% from a year ago. I would expect Enterprise to continue to increase it in the years ahead.
Image source: Getty Images.
Growth projects
After backing off growth projects coming out of the pandemic, Enterprise has begun to ramp up its spending. This year, it expects to spend between $3.5 billion to $3.75 billion on growth projects. That is up from a low point of just $1.6 billion spending in 2022.
It will also increase its growth capex even more next year, in part due to its recent acquisition of Pinon Midstream, with plans to spend between $3.5 billion to $4 billion. That’s up from a prior outlook of $3.25 billion to $3.75 billion.
Enterprise currently has $6.9 billion in projects that are under construction. Many of these projects are not set to come online until the second half of 2025, and a few won’t until 2026. It noted that it has produced about a 12% return on invested capital over the past decade. That means that if the company spends $4 billion on growth projects, it should eventually lead to around $480 million in additional annual gross operating profit.
Enterprise said it is one of the few companies in the midstream space with the assets to benefit from increased natural demand from the data center buildout and the increased energy usage from artificial intelligence. While it could not quantify the opportunity, it said this is one of the best signals in natural gas that it has seen in a long time.
After the current period of outsized spending on growth projects, Enterprise does expect to settle back into a lower range thereafter.
An attractive valuation
One of the most common ways investors value midstream companies is by using an enterprise-value-to-EBITDA (EV/EBITDA) multiple. This is because building long-life pipelines and other midstream assets is a capital intensive business. This metric takes into consideration the debt the companies take on for these projects, while removing the non-cash depreciation costs that get spread across the life of these assets. By using EV/EBITDA, spending on these projects is captured in its net debt, while EBITDA gives investors a better picture of the company’s current operating profitability.
On that front, Enterprise trades at a forward EV/EBITDA multiple of 9.5 times based on 2024 analyst estimates. That is well below the multiple the stock traded at before the pandemic, and well below where the midstream industry as a whole has traded in the past. Between 2011 and 2016, midstream master limited partnerships (MLPs), on average, traded at a 13.7 times EV/EBITDA multiple.
EPD EV to EBITDA (Forward) data by YCharts.
With Enterprise seeing some of the best growth opportunities it has seen in a long time, now looks like a great time to buy the stock. Investors are getting a stock with a 7%-plus yield from a company with a history of consistently increasing its distribution, which is trading at a historically low valuation with strong growth in front of it.
