No Longer an 'Aristocrat,' This Dividend Stock Still Looks Pumped

The COVID-19 pandemic has been particularly difficult for energy companies, as travel and demand have decreased significantly. Even very strong companies like Royal Dutch Shell have been forced to cut its dividends. But it's important to underscore that a dividend reduction alone does not mean a security now makes a poor investment. While the reduced payout may not be welcome news for current income investors, it does allow the company to regain its footing and reestablish a sustainable payout moving forward. Suncor Energy fits this description. Although Suncor had to cut its dividend last year, ending a long streak of annual dividend growth, the company is back on solid footing. Its turnaround is gaining traction, and with rising oil prices stock could have better days ahead. Sunny Days Forecast Suncor Energy is one of the largest integrated energy producers in Canada. The company is involved in all of the aspects of the energy value chain, operating in three segments: exploration and production; refining and marketing and other businesses. Suncor is headquartered in Canada. Suncor is a large-cap energy stock with a market cap of $33 billion. The past year has been difficult for Suncor, and the entire energy sector. In the 2020, fourth quarter, total upstream production decreased 1% over the prior year's quarter while the pandemic caused a greater than 25% decline in the average realized price of oil and the refining margin of Suncor. As a result, the company switched from an adjusted profit of $0.40 per share to an adjusted loss of $0.07 per share. For the year, Suncor Energy posted a net loss of $1.15 per share compared to positive earnings of $2.18 per share in 2019. Due to the severe downturn in the energy market, Suncor cut its quarterly dividend by 55% last year and broke its 18-year dividend growth streak (in CAD). On the bright side, the pandemic could subside in the second half of this year while the price of oil has rallied to pre-COVID levels thanks to the aggressive production cuts of OPEC and Russia. Last year, proved to be difficult amid the pandemic, but we expect the company to begin to recover this year, along with the energy market. Indeed, there have already been signs of this early in 2021. Suncor expects to achieve growth thanks to the ramp-up of production at Fort Hills and Hebron and other growth projects, which enhance value within its integrated asset portfolio. The company also makes sustained efforts to reduce its operating expenses. For the purposes of valuation, we are using the company's mid-cycle (4-year average) earnings per share of $1.50, to go along with an 8% annual growth rate over the next five years. If this were to occur, you would anticipate Suncor Energy generating $2.20 or so in earnings-per-share in the next half decade. Dividend Safety Suncor Energy is not so much beholden to economic conditions as it is to commodity prices, although these two components can move in concert. During the last recession, Suncor's earnings fell nearly 60%, but the dividend kept increasing thanks to the low payout ratio. This time around, the dividend cut broke the company's S&P/TSX Canadian Dividend Aristocrats Index membership, which is comprised of companies included in the S&P Canada BMI that have increased their dividends for at least five consecutive years. On the other hand, the current dividend level looks much more sustainable, with room for a return to dividend growth if economic conditions improve. In normal times Suncor Energy pays out a reasonable amount of its profits in the form of cash dividends. Of course, the cycle nature of the industry makes this payment more vulnerable in lesser times. The integrated structure of Suncor Energy somewhat mitigates its exposure, but it's clear that the company is still very sensitive to the underlying crude oil prices. On a positive note, the recent rally in oil and gas prices bodes very well for Suncor. Furthermore, Suncor Energy has a decent balance sheet, with only 58% of its assets financed through liabilities and a healthy interest coverage ratio. The dividend now sits at $0.21 per share each quarter, or just under around $0.17 in USD based on the current exchange rate. We expect a ~$0.66 annual payment for 2021. 'Cor' Valuation Based on a current share price near $21.75, a $0.66 annual dividend and around $1.50 in mid-cycle expected earnings, Suncor Energy is trading with a 3.0% dividend yield, a 14.5 price-to-earnings ratio and a pay out ration of about 44%. Keep in mind that the dividend will be variable in USD due to the Canadian domicile. If earnings were to grow around 8% per year off the mid-cycle average of $1.50 per share, along with at least a flat valuation multiple, Suncor Energy could generate high returns above 11% per year including the dividend yield. The major uncertainty for Suncor Energy's future returns will be the economy, and commodity prices. If the global economy continues to improve from the coronavirus pandemic and commodity prices continue to rise, Suncor Energy's future returns could be even higher. On the other hand, if the opposite occurs, Suncor Energy's future returns could be poor. That said, Suncor Energy has a good chance at growing earnings-per-share in the years ahead, while the dividend appears safe at the reduced level. Therefore, the stock is appealing for dividend investors looking for a 3%+ yield and exposure to oil and gas prices. Suncor Energy put together a solid track record and even increased its dividend for nearly two decades in its home currency. This streak came to an abrupt end in 2020, but this alone does not mean that the security automatically deserves to be cast aside. The stock now offers a reasonable 3.0% yield and has the potential for high returns. Moreover, should energy demand snap back quickly, there would be the potential for better returns.

No Longer an 'Aristocrat,' This Dividend Stock Still Looks Pumped

Suncor Energy has a bruised but energizing 3.0% yield.

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