matisse capital management

Screening for Utility Stocks

Looking for another utility stock.  A year and a half ago, I sold my shares of Constellation Energy (CEG) after the company anounced it was cutting its dividend a second time.  The company's shares had dropped from a high of $107 in early 2008, to $24 by September that year.  This, after CEG anounced it had accounting problems, never a good sign.  To stave off bankruptcy, a rescue deal was crafted with Warren Buffet's MidAmerican Energy.  I am now looking for a boring utlity stock - one that will stay in business, without wide swings in its share price, and will pay a regular, increasing dividend.  I began my search by screening utility stocks.  My screen criteria?  Sectors: electric, gas and water utilties.  PEG Ratio: 0-2.  Dividend Yield:  3.0%+.  Standard & Poor's Rating:  3 or 4 stars.  The results were as follows:

• D, Dominion Resources, Inc.
• DPL, DPL Inc.
• ETR, Entergy Corporation
• FPL, FPL Group, Inc.
• NU, Northeast Utilities System
• UGI, UGI Corporation

Utilities Generating Powerful Returns

Consider the share price appreciation that the following utilities have delivered over the last 10 years.  And they all pay healthy dividends as well.  Each has been a stellar performer in the past, but which of these will be most likely perform well in the future?

CEG, Constellation Energy Group, +231%, 2.0% dividend

EON, E.On AG, +223%, 2.1% dividend

ELE, Endesa SA, +204%, 5.6% dividend

E, Eni Spa, +189%, 5.1% dividend

FE, First Energy, +175%, 3.3% dividend

CV, Central Vermont Public Service, +168, 2.6% dividend

SO, Southern Company, +155%, 4.5% dividend

D, Dominion Resources, +146%, 3.3% dividend

Analysis Brief: CEG - Constellation Energy Group

Part wholesale energy provider, and part regulated utility, a Fortune 200 company based in Baltimore, Maryland (formerly Baltimore Gas and Electric).

P/E = 18.3; PEG = 0.9.  At current price of $83.30 the stock is slightly overvalued.  Value = $81 using estimated 2007 EPS of $4.56,  discounted cash flow valuation with 17% increase in earnings each of the next 3 years (the company estimates 25%), 3% reversion growth and 10% discount rate.  Dividend yield = 2.2%, dividend paid quarterly with 28% payout ratio.  ROE = 19%.  Long term debt = 19% of total assets. Constellation's energy is 61% nuclear, 35% coal, gas and oil, and 4% alternative. The company is diversified geographically and in its industry through seven business that range from wholesale and retail electric power, to natural gas distribution, an energy consulting business and a regulated utility (BGE). Major institutional holders include Barclay's, Goldman Sachs, B of A, TIAA-CREF, and Deutsche Bank.  Dvidends have been paid consistently since 1986, although it should be noted that they have been raised and lowered in the past.  At right is a map of Constellation's operations in America (click to enlarge). 

Analysis Brief: OKE - ONEOK, Incorporated

One of the largest natural gas distributors in the US, founded in 1906, and serving Kansas, Oklahoma, and Texas.

P/E = 18.7; PEG = 1.2.  At current price of $47.65 (1.06 x sales) the stock is slightly overvalued.  Value = $44.95 using estimated 2007 EPS of $3.42,  discounted cash flow valuation with 10% increase in earnings each of next 3 years, 3% reversion growth and 12% discount rate.  Dividend yield = 3.0%, dividend paid quarterly.  ROE = 14%.  Long term debt = 38% of total assets.  At left is OKE over the last five years.  This is two companies in one, trading as OKS and OKE.  OKS is ONEOK Limited Partnership and OKE is the general partner in OKS and a Fortune 500 company.  This difference has tax implications for investors.  Both pay dividends quarterly, however OKS pays a 6% dividend.  As it is a partnership, per the firm's investor relations, dividends are a return of capital, and year-end net income to the partnership is taxable to each partner pro rata. This means shareholders may not be able to take capital gains and distributions when they wish - the partnership is in control.  In contrast, OKE is sold as ordinary shares in a corporation, and historically has appreciated at a greater rate than OKS, as it pays a lower dividend.

Analysis Brief: CPFL Energia S.A. - CPL

Largest private Brazilian electric company operating in free and regulated markets, in the states of Sao Paulo, Parana and Rio Grande do Sul. 

P/E = 13.3; PEG = 0.3.  Dividend yield 7.2% +. At $55.41 the stock is overvalued.  CPL has had a lot of press lately and I have considered buying shares for some time.  Recent EPS growth has been rapid ($2.90 in 2005, $4.16 in 2006, consensus $5.38 in 2007).  However, in 2001-2002 net income was negative.  Why you ask?  Most of the electricity CPFL produces is hydroelectric, so if there is a drought in Sao Paulo region, there will be electricity rationing as there was in 2001-2002.  Revenues will be down, but fixed costs remain.  A bit of research shows that over the last century, droughts occurred there every 6-10 years, and while acts of God are not predictable, it has been 6 years since the last drought.  Another risk: CPL operates through government concessions on which it must bid.  Although the fundamentals look good today, these conditions make it nearly impossible to construct a meaningful DCF, unless the result is weighted by the probability of a drought.  The time to buy would seem to be mid-drought when the share price is down.  At left, CPFL vs. DJIA and SO since 2004.  This is not investment advice and readers should conduct their own research before buying any stock. 

Analyzing Macquarie Infrastructure Co. Trust - MIC

Macquarie Infrastructure is the creation of the Australian investment bank of the same name.   It has been recommended by many funds lately, largely because of its 5.8% dividend yield.  The company acquires and manages infrastructure businesses with the intention of creating stable dividend payouts and share price appreciation.  Holdings include airport parking lots, jet refueling, gas distribution and liquid storage.  In 2006, it sold of UK assets, which created a big increase for the bottom line.  However, at $43.81, I believe the stock is overpriced.   Using a discounted cash flow model, net income growth would have to exceed 25% each of the next three years, which I think is unlikely from the existing businesses, although it could be done through acquisitions.  MIC had a net loss in the third quarter 2006.  The company also has substantial long term debt, which currently approaches 70% of total assets.  And, the parent, Macquarie Bank gets 1.25% of the trust's market capitalization at year end, and a 20% bonus if it outperforms a utility index - money that could go to shareholders.  MIC would be more attractive well below $40.