The proposed expansion of the Keystone pipeline is probably
the most hated energy project in America.
The project has become a rallying cry for environmentalists
who claim the harvesting of oil sands in Alberta poses
unacceptable risks to the ecosystem.
Last week, The New Yorker published an extensive article
describing how Tom Steyer, a California billionaire and former
hedge-fund manager, is spending millions of his own fortune to
defeat the measure.
That's interesting, especially considering that Steyer's
hedge-fund, Farallon, invested in fossil-fuel companies. From the
"After being criticized by some Republicans for holding some
investments in the fossil-fuel industry, including stock in
Kinder Morgan, which has proposed extending a rival pipeline to
Keystone, Steyer said that he would fully divest his portfolio of
its "dirty energy" holdings within a year."
The pipeline has also become a political issue. During last
year's presidential race, President Barack Obama refrained from
taking a strong stand on the project despite heavy pressure from
the left, while Mitt Romney claimed that if forced to do so he
would, "build it myself."
But what much of the commentary on the topic fails to mention
is that most of the Keystone pipeline has already been built and
is currently in operation.
The existing line runs east from Alberta and then cuts south
through the Dakotas and Nebraska. It then splits into two
directions, with one route heading east toward refineries in
Illinois and the other running south to Cushing, Okla.
The current controversy is really over a pipeline extension
known as Keystone XL, which would create a more direct route from
Alberta to Nebraska and from Oklahoma to the Gulf. If approved,
the Keystone XL would increase Canada's oil exports to the U.S.
by as much as 830,000 barrels a day.
So, the question for investors is this: If Keystone XL is
approved, which companies stand to profit?
The most obvious is
, the company that has submitted the proposal for the
TransCanada's cash flow is derived from natural gas (62%),
oil/liquids (16%), and energy (22%), which includes natural gas
||Copyright © 2013 TransCanada Corporation
TransCanada's natural gas pipeline business is
already one of the largest on the continent, with more
than 35,000 miles of pipe transporting 15 billion cubic
feet a day.
TransCanada's natural gas pipeline business is already one of
the largest on the continent, with more than 35,000 miles of pipe
transporting 15 billion cubic feet a day. The company currently
transports approximately 20% of North America's natural gas.
Analysts expect earnings before interest, tax, depreciation
and amortization (EBITDA) to increase from CA$700 million (about
$679 million) in 2012 to more than CA$1.7 billion in 2017. This
estimate would mean a mouth-watering 20% increase in the
company's compound annual growth rate (CAGR).
However, if the XL pipeline is delayed, that growth rate could
be cut in half.
Some analysts have postulated that the crude could be shipped
by rail. But Greg Gentry,
Valero Energy's (
general manager in Port Arthur, Texas, disagrees, saying Canadian
producers "would have to drop the price of their crude" if they
were to ship by rail, according to the New Yorker article.
If he's right and the threat of rail competition is not
economically viable, this bodes well for TransCanada.
Furthermore, with all the hoopla in the press about Keystone
XL, a big new development for TransCanada has largely gone
In August, TransCanada announced plans to begin building its
CA$12 billion, 1.1 million-barrel-per-day Energy East Pipeline
project from Alberta to the Atlantic coast at Saint John, New
Brunswick. The project is being supported by the Canadian
government to the tune of CA$5 billion over 20 years.
So whether U.S. environmentalists like it or not, Alberta's
oil sands will be harvested and sold. How they are shipped, and
to whom, are the only real questions.
While not exactly dirt cheap, TransCanada's share prices have
fallen 7% this year, and the stock is trading 11% below its
At a forward price-to-earnings (P/E) ratio of 18 and a current
price-to-book (P/B) ratio of 2, shares of TransCanada are trading
slightly below industry averages. I believe shares are fairly
valued at today's prices.
The current 4% yield is backed by a 90% payout ratio, which is
higher than I would like to see. But to its credit, the company
has been raising its dividend each year since 2008.
TransCanada is not the only company that stands to profit from
the possible Keystone XL approval. Refiners such as Valero and
LyondellBasell Industries (
, as well as construction companies
Deere & Co. (
Quanta Services (
all stand to gain if Keystone XL gets the green light.
Risks to Consider:
Of course, if the pipeline extension is not approved,
TransCanada will have to write off its investment in the project.
As mentioned, the current dividend payout ratio of 90% is high,
and the dividend may have to be cut in the future if profits
Action to Take -->
No doubt, this investment is a bit of a gamble. But investors who
are willing to take the risk and invest now should see share
prices soar if Keystone XL approval is granted. And even if the
project isn't approved, all is not lost. TransCanada's existing
pipelines already have long-term contracts at sold-out capacity
that will provide steady income for at least the next 10 to 15
Solid current income from "wide-moat" pipelines, combined with
the potential boon from the Energy East project, should make
TransCanada a long-term winner either way. For speculative
investors, TransCanada rates a buy at today's prices.