Prediction: Energy transfer stocks will almost double in 5 years

Most interested investors Energy transfer (ET 1.25%) they are attracted by its high yield, which is currently around 7.9%. The company currently pays a quarterly dividend of $0.32 and is looking to increase it by 3% to 5% per year going forward.

That’s attractive in itself, but I also think the pipeline operator’s stock could nearly double over the next five years.

This would happen through a combination of growth projects as well as modest multiple expansion, which is when investors assign a higher valuation to a stock.

Let’s see why I think Energy Transfer stock can more than double in the next five years.

Growth opportunities

Energy Transfer is one of the largest midstream companies in the US with an expansive integrated system spanning the country. It is involved in almost all aspects of the midstream sector, transporting, storing and processing various hydrocarbons in its systems. The size and scope of its systems gives it many opportunities for expansion projects.

This year, the company plans to spend between $3 billion and $3.2 billion in growth capital expenditures (capex) on new projects. Going forward, spending $2.5 billion to $3.5 billion in growth investments per year would allow it to pay its distribution while still having money left over from cash flow to pay down debt and/or buy shares.

Given this, and the early opportunities Energy Transfer sees in power generation due to increased power needs in data centers as a result of the rise of artificial intelligence (AI), it’s probably safe to say that the company could spend approx. $3 billion in growth investments. one year in the next five years.

Most companies in the midstream space are looking for at least 8x build multiples on new projects. This means the projects would pay for themselves in about eight years. For example, a $100 million project with an 8x multiple would generate an average return of $12.5 million in EBITDA (earnings before interest, taxes, depreciation and amortization) per year.

Based on this kind of return on growth projects, Energy Transfer should be able to see adjusted EBITDA grow from $15.5 billion in 2024 to about $17.4 billion in 2029 if it continues to spend $3 billion dollars per year on growth projects.

Image source: Getty Images.

Multiple expansion opportunities

From a valuation perspective, Energy Transfer is the cheapest stock among its main limited partnership (MLP) peers, trading at 8x on a company value to adjusted EBITDA basis. This metric takes into account a company’s net debt while taking out non-cash items and is the most widely used way to value midstream companies. At the same time, it is trading at a much lower valuation than it has historically.

ET EV to EBITDA data (before) by YCharts.

ET EV to EBITDA data by YCharts.

Mid-cap MLPs averaged an EV/EBITDA multiple of 13.7x between 2011 and 2016, so the industry as a whole has seen its multiple decline. However, with demand for natural gas rising due to AI and demand for electric vehicles falling, the transition to renewables appears to be taking much longer than expected. If this is the case, these stocks should be able to command a higher multiple than they currently are, as this reduces the fear that demand for hydrocarbons will begin to decline significantly in the coming years.

How to double your Energy Transfer stock

If Energy Transfer grows its EBITDA as expected, the stock could reach $30 in 2029 if it can command a 10x EV/EBITDA multiple. That’s up from the 8x forward and 8.7x trailing multiple it currently commands, but it’s still well below where the midstream MLP space has traded in the past.

* Enterprise value is based on 3.42 billion shares outstanding, $57.6 billion in debt, $3.9 billion in equity, $3.9 billion in investments in unconsolidated affiliates and cash and $11.6 billion in minority interests.

However, Energy Transfer and several other midstream companies appear to be very well positioned to be the hidden winners of AI due to increased demand for natural gas energy. Power companies and data centers have already approached Energy Transfer about natural gas transportation projects, and a natural gas volume boom could be coming. Given this growth opportunity, along with the company’s strengthened balance sheet and consistent distribution growth, we could see Energy Transfer’s multiple expanding modestly over the next five years and the stock nearly doubling.

However, even if its multiple doesn’t expand, investors can still get a very solid return on their investment through a combination of distributions (currently $0.32 per unit per quarter) and more modest price appreciation. Without multiple expansion and over $7 in distributions between now and the end of 2029 (assuming 4% annual growth), the stock would still generate over 75% over that period.