There are many overvalued stocks in today’s market that I do not find myself excited about. However, we can still find some high-quality, undervalued dividend growth stocks in this overvalued market. For example, we covered Merck (MRK) and Bristol-Myers Squibb (BMY) in earlier articles. Both of these companies are in the pharmaceutical industrial which has lagged the overall market. That’s ok because it allows long-term investors to load up on shares. I have another undervalued dividend growth stock in a different industry that’s on sale at a reasonable price in today’s post. That company is Enterprise Products Partners, which is a high yield dividend growth stock.

Overview of Enterprise Products Partners

Enterprise Products Partners L.P. (EPD) is an American pipeline company that was founded in 1968. The Company is an American midstream natural gas and crude oil pipeline company with headquarters in Houston, Texas. The pipeline giant owns about 50,000 miles of pipelines for natural gas, oil, refined products, and petrochemicals. The company has storage capacity of about 260 million barrels of oil and refined products and 14 billion cubic feet of natural gas. The company operates through four segments: NGL Pipelines & Services, Crude Oil Pipelines & Services, Natural Gas Pipelines & Services, and Petrochemical & Refined Products Services. Today, the Company has a market capitalization of approximately $52.2 billion and currently trades hands for a little under $24 per share.

Source: Enterprise Products Investor Presentation

Enterprise Products Partners Dividend History, Growth, and Yield

EPD was hit hard during the COVID-19 beginnings. In January 2020, EPD was going for $28 per share. In the lows of March 2020, the Company was trading hands for $12.27. This represents a decline of 56% in less than two months. I love to take advantage of high-quality companies that have this kind of decline. I loaded up on shares of EPD with a cost basis of $13.84. I now have a dividend yield on cost of 13%. These are the many reasons why I love being a dividend growth investor. We will now look at Enterprise Products stock dividend history, its growth, and yield. We will then determine if it’s still a good buy at current prices.

Enterprise Products Partners Dividend Growth

Asa dividend growth stock, Enterprise Products has been raising its dividend for 22 years making the company a Dividend Contender. In those 22 years, EPD had an average dividend growth rate of ~6.1%. This is outstanding considering that midstream companies tend to have a high starting yield, which we will discuss later. EPD’s past 5-year dividend growth average is about 2.9%, and the previous 10-year average is approximately 4.5%. So, the dividend growth rate has slowed down compared to its trailing 22-year average. Also, note that the most recent dividend increase was only 1.1%. This is concerning as a dividend growth investor. As a dividend growth investor, we would like to see companies continue to grow its dividend faster than inflation.

Source: Portfolio Insight

Let’s not forget that EPD continued to pay its dividend during the most challenging period in the last 100 years. Where most businesses and industrials were cutting or suspending their dividends payments, EPD continued to pay out its dividend. That is very impressive. Especially considering the fact that the oil industry was hit very hard in 2020.

Enterprise Products Partners Dividend Yield

The company has a big dividend yield of 7.62% as of this writing. This is a great starting yield for those income-driven investors—especially those investors who are leaving the bond market looking for higher yields. Income-driven investors may want a 4.5% yield or higher. So EPD meets that criterion easily. 

EPD’s current dividend yield is eight basis points higher than its own 4-year average dividend yield of about 7.45%. I like to look at this metric because it gives me a good idea if a company that I am researching is undervalued or overvalued based on the current yield and 4-year average yield. Price and yield correlate with one another. If the price goes higher, then the yield goes lower. Vice versa as well.

Is the dividend safe? We should always ask this question if we are looking for an undervalued dividend growth stock to invest in. This is why it is important to look at the dividend payout based on earnings and free cash flow (FCF). However, since this is a midstream company and is built as a partnership instead of a C-corp tax filing, we must look at Operating Cash Flow (OCF) to determine if the dividend is safe for an investor. Thus, the company translates it profits as distributable cash flow per share instead of Earnings Per Share (EPS) like a conventional corporation.

Analysts predict that EPD will make $3.13 per share in operating cash flow. Using the dividend payment of $1.80 per share per year gives us a payout ratio of 57% based on OCF. Having a 57% dividend coverage with a dividend yield of over 7% gets me very excited for a stock like Enterprise Products.

On another note, capital expenditures have been decreasing for the past three years. The company spent ~$4.223 billion in 2018 and spent only about $3.287 billion last year. This helps increase FCF, which makes the dividend that much safer. Or the extra cash cab be used to pay off debt.  

Enterprise Products Partners Revenue and Earnings Growth / Balance Sheet Strength

Now let’s talk about earnings and revenue growth, which are the significant part of the metrics I like to evaluate about company. Without revenue growth, a company can’t have sustainable earnings growth and cannot continue paying out a rising dividend. Since we cover Enterprise Products stock today, we will skip on earnings because it is not relevant for midstream pipeline companies. Instead, we will look at the growth of operating cash flow.

For the past ten years, EPD has revenue that has been declining at a compound annual growth rate (CAGR) of -5.3%. The decrease of revenue has to do with sales of assets throughout the years. Also, crude pipelines and services were hit hard last year due to COVID-19 shutdowns, which hurt 2020 revenues significantly. However, for midstream companies, we must look at operating income, which tells a different story. In this same ten-year period, Enterprise Products stock grew operating income at a rate of approximately 5.6%. 

Operating cash flow has been growing ~5% annually for the past ten years. Last year’s OCF was down from $2.99 per share in 2019 to $2.76 per share for 2020, a decrease of -8%. Considering the challenging year that oil majors and midstream companies had in 2020, an 8% decrease is not alarming. Also, analysts expect EPD to make $3.13 per share in OCF for the fiscal year 2021, which would be a 13% increase compared to 2020.

Enterprise Products Partners Balance Sheet

Also, the company has a solid balance sheet. Currently, Enterprise Products stock has an S&P credit rating of BBB+, which is an investment grade—at the same time, sporting a low debt to equity ratio of 1.1, which meets my criteria of 1.5 or lower. Overall, this shows me that Enterprise Products stock is a high-quality company with excellent growth prospects and a solid balance sheet. 

Also, the company has a high-interest coverage ratio of ~4.4X, which has been shrinking from ~5.2X in 2019 and ~5.0X interest coverage ratio in 2018. This is a little bit of a concern because I like to see the ratio growing every year, which tells me that the company can pay its debt. But the overall Enterprise Products stock balance sheet is solid. 

Source: Enterprise Products Investor Presentation

Enterprise Products Partners Valuation

One of the valuation metrics that I like to look for is the dividend yield compared to the past few years’ histories. I also want to look for a lower P/E based on the past 5-year or 10-year average. Furthermore, I like to use the Dividend Discount Model (DDM). I use a DDM analysis because a business is ultimately equal to the sum of all the future cash flow that that business can provide. Since we are valuing Enterprise Products stock, we will use P/OCF.

Let’s first look at the P/OCF ratio. Currently, EPD has a P/OCF ratio of 7.7 based on Fiscal Year (FY)2021 earnings of $3.13 per share. The P/OCF is very low compared to the past 5-year P/OCF average of 10.1. If EPD were to revert back to a P/OCF of 10, we would obtain a price of $31.61 per share.

Now let’s look at the dividend yield. Like I mentioned, the dividend yield currently is 7.62%. Looking at EPD’s 5-year dividend yield average of about 7 %, there is a potential upside. For example, if EPD were to return to its 5-year average dividend yield, the price target would be $25.71.

The last item I like to look at to determine a fair price is the DDM analysis. I factored in a 9% discount rate and a long-term dividend growth rate of 3%. I use a 9% discount rate because of the high current dividend yield. The projected dividend growth rate is lower than its 10-year average but higher than the most recent increase. This gives us a fair price target of $30.90 per share.

If we average the three fair price targets of $31.61, $25.71, and $30.90, we obtain a reasonable, fair price of $29.41 per share. This gives Enterprise Products stock a possible upside of 22.5% from the current price of a little below $24.

Conclusion on Enterprise Products Partners – A High Yield Stock

Enterprise Products Partners is one of the best midstream companies to pick from in today’s market. The company has an excellent starting dividend yield of 7.62%, and it is roughly 23% undervalued to its fair price of $29.41 per share. This represents one of the most exciting and undervalued companies in today’s market. EPD continues to invest in major capital projects, with many expected to come online soon while continuing to provide investors long-term growing cash flow.