EUR 850.00 For Business Accounts Only

Morningstar | Best Idea Enbridge: Line 3 Is Likely Delayed Again, but Our Long-Term Thesis Remains Intact

On June 3, the Minnesota Court of Appeals reversed the state Public Utilities Commission's approval of Enbridge’s Line 3 environmental review. The court’s ruling was based on the review not addressing the potential impact of an oil spill into the Lake Superior watershed. The court’s decision now sends the environmental impact statement back to the commission, but most importantly, it calls into question the previous approval of the pipeline’s certificate of need and route pipeline, which were approved in June 2018 and relied on the existing environmental review. Enbridge has the option to appeal the decision to Minnesota’s Supreme Court.

At this time, Enbridge’s next steps are unclear. But its likely that an additional environmental review will be needed, and the project will need to restart the approval process with the commission once the review is completed. Accordingly, we expect Line 3 to be delayed about a year until the end of 2021, if not longer. Despite the delay in the project, we don’t expect any material changes to our $46 (CAD 62) fair value estimate and wide moat rating. Our long-term forecasts also remain intact. We still expect Line 3 to add significant cash flow to the company’s operations over the long term and that the 2020 10% target dividend growth remains safe.

The stock is down over 4% on the news, but we see it as another overreaction. However, as we detailed in our May Select Report, “Enbridge's Long and Winding Road Leads to Significant Upside," we don't expect the market's concerns will be fully addressed for some time, which can lead to volatile swings in the stock, like the current overreaction. But we advise investors to stay the course while getting paid a handsome 6% (and growing) dividend. In the end, we believe Enbridge's long and winding road will lead to 25% upside.

In addition, safeguards remains in place if Line 3 falls through. Unlike competing pipeline proposals, the Line 3 replacement project is a NEB-approved integrity replacement project. The integrity replacement status allows Enbridge to recover the additional capital expenditures, operating costs, and a healthy return on capital associated with the replacement even if the pipeline expansion is not placed into service. Accordingly, the company is currently constructing the replacement where it has been approved: Canada, Wisconsin, and North Dakota. In an integrity replacement scenario, we assume that Line 3 replacement isn't approved in Minnesota and doesn't add pipeline capacity. Instead, the existing pipeline in Canada, Wisconsin, and North Dakota is replaced and Enbridge charges shippers a higher IJT to accommodate for the increased capital and operating expenditures. Our fair value estimate falls to $44 (CAD 58) from $46 (CAD 62), but still provides over 15% upside. We expect annual EBITDA to fall about CAD 600 million from our base case, but we still expect Enbridge to be in a strong position to maintain its dividend growth.

Please refer to our May 2019 report, "Enbridge's Long and Winding Road Leads to Significant Upside," for a deeper dive into the stock's upside.

For a detailed look into Canadian crude market and pipeline trends, please refer to our January 2019 Energy Observer, "Pipeline Expansions Are Canada's Lifelines."