Targa Resources

Where we land

Targa Resources has turned a business whose sales have barely moved into one that earns far more from every sale. Its net profit has climbed from 306m five years ago to 2.3bn, most of it from selling gas liquids pumped out of the Permian Basin of West Texas to buyers overseas. We award it gold.

The case rests on a simple comparison. To justify today's share price, the company's earnings need to grow by about 10% a year. Over the past three years its operating profit has grown at about 28% a year. That gap is wide enough that we think the price still trails the business, even after a strong run in the shares. What could close it from the wrong side is specific: margins sit well above their own history, and the company carries a great deal of debt.

What the business is

Targa's job is to move gas liquids from the wellhead to the export dock. When oil and gas come out of the ground in the Permian, they arrive mixed with heavier liquids such as propane and butane, which are sold together as liquefied petroleum gas, or LPG. Targa gathers that raw stream, processes it to separate the liquids, stores and pipes them, and ultimately sells them, a large share through its own export terminal on the Texas coast.

By revenue the business is dominated by selling the product itself. Propane and LPG marketing and distribution makes up 70% of sales, and sales to LPG, propane and other distributors a further 12%. Gathering and processing services, the work done closest to the well, account for 10%. Pipelines and energy storage bring in 5%, and selling crude oil to distributors the remaining 3%.

Because so much revenue is the price of the product passing through, the more telling figure is what Targa keeps. Its gross margin, the share of each sale left after the direct cost of the product, is 27%. Its operating margin, after the cost of running the company, is 25%, barely below that, which shows how little the overheads weigh against the volumes moved.

Why now

The world has made American gas liquids look cheap. International crude, measured by Brent, stands at $123 a barrel; the US benchmark, WTI, is at $103. In Europe, natural gas prices are up 132% over the past year. When energy abroad costs that much more than at home, propane and butane loaded in Texas become a bargain for foreign buyers, and that supports demand at Targa's Galena Park export terminal on the Houston Ship Channel.

The shares have followed, more than doubling over the past year with a rise of 104%.

That rise is the tension at the heart of the story. Targa earns the highest margins among comparable US pipeline and distribution companies, but the market already prices it at roughly twice what it pays for the nearest of them. The question is whether the business is improving fast enough to keep earning that premium.

The case for

The strongest argument is what Targa has done with flat sales. Twelve months of operating profit came to 1.8bn in the year to June 2021 and had reached 4.2bn by the year to June 2026. Yet sales fell 0.8% over the past year and have slipped by about 1% a year over three years. All of that profit growth came from keeping more of each sale rather than selling more.

That suggests the system has become more valuable, not merely busier: more of its product is reaching buyers willing to pay world prices, and its plants and pipelines are earning more on what flows through them. A business that can more than double operating profit without growing revenue has found leverage in its position along the chain.

The people paid to forecast its earnings are moving the same way. Over the past 45 days, analysts' earnings estimates were raised 14 times and cut 3 times, and consensus expects earnings per share to rise about 10% next year. On our reading of growth across the whole market, Targa has moved over twelve months from the middle of the pack to near the top, most of that climb in the last six months. Both results and expectations are pointing up.

Where the growth could come from

The clearest driver is more drilling in the Permian. Targa earns most of its profit by moving that basin's gas liquids to the coast, so the more producers drill, the more passes through its system. With WTI up 66% over the year, producers have strong reason to drill more, which fits the analysts' expectation of higher earnings next year even with sales flat.

Exports are the lead strand. Most likely, the gap between overseas and US energy prices is what is adding value to the Permian volumes Targa handles: it lets the company sell a growing supply of liquids into world markets rather than into a crowded Gulf Coast, supporting both the volumes it ships and the fees it charges to load them. This business sits inside the two LPG lines that make up most of revenue, though our figures do not separate export terminal income from the rest.

A second strand sits in how some processing is paid. Part of Targa's processing work is rewarded with a share of the products it recovers rather than a flat fee. When crude and the liquids priced off it rise sharply, that share is worth more; US gas, at $2.76 and little changed, limits the gain on the gas side. This could push earnings beyond what volume alone delivers. The test is processing margin per unit of gas rising faster than volumes.

A third strand is about removing a ceiling. Weak US gas prices and limited pipeline space out of West Texas can cap how much gas producers are willing to deliver, and if gas cannot leave the basin, output slows and Targa's whole chain grows more slowly. New long-haul gas pipelines that Targa has backed could ease that bottleneck. This is early, with commitments in place but little revenue yet. The signs would be new Permian pipelines entering service, a narrower discount on West Texas gas, and faster growth in Targa's processing volumes.

The last strand concerns how shareholders get paid. Targa has been building heavily: plants, pipelines and the facilities that split raw liquids into their separate products. As those projects finish, more of the cash it generates could go to dividends and buybacks instead of construction, lifting returns per share faster than profit itself.

The case against

The premium is large. Targa trades at 30 times its earnings, against 14 times for Energy Transfer, a close US peer, and 16 times for Sunoco. Its margins justify some difference: its 27% gross margin compares with 11% at Energy Transfer and 10% at Sunoco, and its operating margin is far above both. But paying twice as much for every dollar of profit assumes those margins hold.

By Targa's own standards they are unusual. Over the past five years the median gross margin has been 16%, typically moving about 4 points either side, so today's level is far above what the business has usually earned. With sales flat there is nothing to cushion a fall: if margins drift back toward their usual level, the decline feeds straight into profit, and the very thing that has driven the growth would run in reverse.

The shares have also had a big run, going from middling to close to the top of the market on price over twelve months. Over the same year their value appeal has faded, leaving them in the least cheap quarter of the market at 18.5 times the book value of their assets and 20.5 times operating profit. A stock priced like this has less room to absorb disappointment.

What the price assumes

The cleanest test is to ask what earnings growth today's price requires. If the share price stayed flat and, five years from now, the shares traded at 18.5 times earnings, the middle value for every profitable listed company we cover, earnings would need to compound at about 10% a year to justify today's price.

On that basis, the price implies earnings per share of 17.07 in five years. If the recent trend in operating profit simply continued, at about 28% a year, earnings per share would reach 35.98, or 211% of what the price requires. This is not a forecast, only the company's own past results carried forward, but it shows how much room there is between what has been happening and what the market is asking for.

The analysts' consensus of about 10% growth next year sits close to the rate the price requires rather than the faster recent trend. So the price is not demanding heroics, but the extra value depends on that trend outlasting a margin that is unusually high by the company's own history. With the shares up 24% in the past six months alone, the market has already recognised much of the improvement, if not all of it.

The other side of the medal

The single risk to keep in view is the debt. Targa carries net debt of 5.3 times its shareholders' equity. That is why its return on equity looks so striking at 61.7%: a thin layer of equity makes every dollar of profit look larger against it. The better guide to how well the business uses its capital is its return on investment, whose five-year median is just 6.8%. When profits rise, borrowing magnifies the gain for shareholders; when they fall, the interest bill does not shrink with them. And borrowing has become dearer: the US 10-year government yield has climbed 0.90 points over the year to 4.98%, raising the price of refinancing debt on this scale.

This risk matters most because it connects all the others. A margin falling back toward its usual level, a narrowing of the gap between overseas and US energy prices, a stall in export volumes or slower Permian drilling would each be manageable for a lightly indebted company. For one carrying this much debt, each would hit shareholders with extra force, and with the shares dearer than most of the companies we rate on assets, sales and earnings, there is little cushion in the valuation if it happens.

What to watch

The first signal is export loadings at Galena Park. If propane and butane shipments run close to the terminal's capacity, and new docks fill as they open, the export strand is working. The price gap that feeds it moves first: the spread between Brent and WTI, and the level of European gas, show whether foreign buyers still have reason to want American supply before the loadings do.

The second is the money. Capital spending plans coming down while free cash flow, dividends and buybacks rise, with enough left to reduce debt from 5.3 times equity, would show the building phase giving way to the cash-return phase and ease the main risk at the same time. The direction of US 10-year yields, which sets the cost of that debt, is worth following alongside it.

The third is the margin itself. If gross margin slips back toward its five-year median of around 16% while sales stay flat, the only source of profit growth would be fading, exposing both the debt load and the 30 times earnings the market pays. That is the clearest sign the gap between the business and its price is closing from the wrong side.

The numbers

The same industry, for comparison

Research for information, not personal investment advice or a recommendation to buy, sell or hold any security: see Important information. Data as at 31 October 2026.