TC Energy Reports Solid Q1 With Healthy Progress on Key Initiatives

Business Strategy & Outlook

TC Energy faces many of the same challenges as Canadian pipeline peer Enbridge but also offers important contrasts. Both firms offer a 5%-7% growth profile and a utilitylike 95%-98% of earnings that are highly regulated or contracted, with several years of project backlog, despite Enbridge largely focusing on oil assets, while TC’s focus is natural gas. However, anticipate that any major new pipeline project for either firm will face substantial stakeholder challenges from a legal, regulatory, or community perspective, raising the risks and costs.

The most critical differences between Enbridge and TC Energy arise from their approaches to energy transition. Canadian carbon emissions taxes are expected to increase to CAD 170 a ton by 2030

from CAD 40 today, meaning it is critical that TC Energy, with its natural gas exposure, follow Enbridge’s approach to rapidly reduce its carbon emission profile and continue to pursue projects like the Alberta Carbon Grid, which will be able to transport more than 20 million tons of carbon dioxide. These taxes potentially increase costs for Canadian pipes compared with U.S. pipes but also make

hydrogen a viable alternative to gas-powered electricity generation by 2030 in Canada, presenting an emerging threat. TC Energy recently introduced targets to reduce its Scope 1 and 2 intensity

by 30% by 2030 and reach net zero by 2050, which is a start.

In addition, Enbridge’s backlog is more diversified across its businesses already, and it already has a more material renewables business, including hydrogen, renewable natural gas, and wind efforts. While the renewables business lacks an economic moat today, it is an important area of investment for TC Energy that it needs to pursue. The renewables investments can compete for capital across the rest of the portfolio, generating reasonable returns on capital, allowing the overall enterprise to adapt to the markets as they evolve. This shift is especially the case as a CAD 170 per ton carbon tax in Canada opens the door for potentially sizable investments to reduce carbon emissions.

Financial Strengths

TC Energy carries significantly higher leverage than the typical U.S. midstream firm, with current debt/EBITDA well over 5 times. Its long-term target is in the high 4s, again materially higher than peers which are generally targeting leverage of 3-4 times. Still, the high degree of leverage is

supported by the highly protected nature of its earnings stream. As capital spending declines over the next few years to around CAD 4.7 billion, the TC Energy to currently reach the 4s in the latter half of the decade. Lower capital spending would move this date forward materially. Beyond

the high leverage, TC Energy is also unusual in that it will continue to rely on the capital markets to meet about 20% of its expected capital expenditures over the next few years, meaning that some projects on a regular basis will depend on the health of the capital markets. Midstream peers are

largely transitioning to generating free cash flow after distributions or dividends, and in some cases, the shift to be permanent. TC Energy has outlined plans to spend about CAD 5 billion annually on a continued basis. About CAD 1.5 billion-CAD 2 billion is maintenance spending on its pipelines, and 85% of this is recoverable due to being invested in the rate base. Bruce Power and the U.S. and Canadian natural gas pipelines will consume about CAD 1 billion each annually. ESG-related opportunities such as using renewable power

to power its own operations or seeking carbon capture efforts would be on top of this spending. TC’s dividend growth remains prized by its investors, and 3% growth going forward is easily supportable under the firm’s 60/40 framework.

Bulls Say

TC Energy has strong growth opportunities in Mexican natural gas as well as liquefied natural gas.

The company offers virtually identical growth prospects and a protected earnings profile to Enbridge but allows investors to bet more heavily on natural gas.

The Canadian regulatory structure allows for greater recovery of costs due to project cancelations or

producers failing compared with the U.S.

Company Description

TC Energy operates natural gas, oil, and power generation assets in Canada and the United States. The firm operates more than 60,000 miles of oil and gas pipelines, more than 650 billion cubic feet of natural gas storage, and about 4,200 megawatts of electric power.

(Source: Morningstar)

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