Dividend Sleuthing: Two Complex Utilities

Summary

  • This is a brief introduction to two complex utilities, both with histories of acquisitions that require a bit of study from an investor.
  • Essential Utilities is the new name for Aqua America, reflecting its acquisition of Peoples Natural Gas and Delta Natural Gas.
  • Algonquin Power & Utilities is an Ontario-based diversified, international  utility that reports in U.S. dollars. Its operating companies have refreshed brands: Liberty Power and Liberty Utilities.
  • Both utilities have histories of generous dividend increases, though for at least one of them, future increases will not be automatic.

This is a brief introduction to two complex utilities, both with histories of acquisitions that require a bit of study from an investor.

Essential Utilities

Essential Utilities, Inc. (WTRG) is the new name for Aqua America, created in February 2020 when Aqua acquired PNG and its operating utilities Peoples Natural Gas and Delta Natural Gas for $4.3 billion. It is now one of the largest U.S. publicly traded providers of water, wastewater services and natural gas. WTRG serves 5 million people in 10 states under the Aqua and Peoples brands. The company’s strengths include infrastructure expertise, regulatory compliance, operational efficiency and environmental stewardship. Aqua serves 3 million people in 8 states.

Essential Utilities subsidiary Aqua America service area

Aqua Service Area

From Essential Utilities 

WTRG and other infrastructure companies face a common weakness: aging pipes and systems.The company expects water infrastructure investments of $550 million and and gas infrastructure investments of $450 million in 2021, with total infrastructure investments through 2023 to rehabilitate and strengthen water, wastewater and natural gas systems. 

The newly merged company reresents a growth opportunity. In February 2020, Standard & Poor’s gave WTRG an A credit rating, with a stable outlook, expecting “that the company will effectively manage its regulatory risk with the addition of PNG Cos., while also benefiting from additional scale, diversity, and a significant increase in customer base.”

The February 24 earnings release reported 2020 full-year operating revenues of $1.46 billion, up 64.4% over $889.7 million in 2019. The Peoples acquisition in the first quarter contributed $520.9 million of this growth, with the remainder from was rate and surcharge increases, greater volume and growth in the regulated water segment.

2020 net income of $284.8 million, or $1.12 per share, compared to $224.5 million, or $1.04 per share in 2019, an increase in net income of 26.9% from the prior year.

Subsidiaries Peoples Natural Gas and Delta Natural Gas

Peoples Natural Gas service area

From Essential Utilities

WTRG has issued guidance for 2021 net income of $1.64 to $1.69, with a compound annual EPS growth of 5-7% for 2020 through 2023. The company expects water rate base compound growth of 6-7% through 2023 and gas rate base compound growth of 8-10%.

The quarterly dividend is $.2507 per share. The company has paid a consecutive quarterly dividend for for 76 years. The company has raised the dividend for 28 consecutive years. The 5-year dividend growth rate has been 7.2%, and the 10-year dividend growth rate has been 7.5%.

Threats to Essential Utilities include the risk of sabotage to its pipeline networks and public relations damage or potential legal liabilities from natural disasters.

The average high yield for the past 5 years was 2.78%, with the highest yield of 3.2% reached in 2020. This low yield and narrow range indicates that the market’s consistently awards WTRG a premium valuation. 

The average payout ratio was 73.4%. However, the average payout for 2016-17 was 57.4% and the average for 2019-2020 was 86.9%, reflecting the combination of lower earnings and higher dividend. 

The average P/E for the past 5 years was 31.8. The current P/E is 37.8, based on a trailing twelve month EPS of $1.12 and the March 11 closing price of $42.38.

The current quarterly dividend is $.2507, annualized to $1.00. At a March 11 closing price of $42.38, the current yield is 2.366%.

F.A.S.T. Graphs

WTRG FAST Graph

From F.A.S.T. Graphs

Algonquin Power & Utilities

Algonquin Power & Utilities Corp. (AQN) describes itself as a “diversified international generation, transmission, and distribution utility with approximately $12 billion of total assets.” AQN has over one million customer connections, largely in the United States and Canada.

The utility is headquartered in Oakville, Ontario and reports in U.S. dollars. AQN is a serial acquirer of utility assets, but has maintained financial strength, with a stable BBB credit rating from S&P, reflecting “APUC’s stable cash flow from its regulated utilities and contracted nonregulated power business, along with its commitment to a balance between debt and equity to fund its acquisition and other capital investments such that AFFO to debt is consistently greater than 15%.”

AQN acquires and operates green and clean energy assets including hydroelectric, wind, thermal, and solar power facilities, as well as sustainable utility distribution businesses (water, electricity and natural gas) through its two operating subsidiaries: the Renewable Energy Group (recently rebranded Liberty Power) and the Regulated Services Group (now Liberty Utilities).

One weakness is complexity. In addition to rapid acquisitions in multiple jurisdictions, now investors much interpret the company’s new structure.

Algonquin is the parent company of Liberty, a “brand refreshment” described in an October 21, 2020 news release, in which AQN launched a new “radiant heart” logo to express how Liberty is “putting its heart where it matters.”

Liberty Logo

In the Q4 2020 earnings call on March 5, 2021, CEO Arun Banskota said:

“…we are … a North American energy and water company … when we acquired our position in Atlantica, we also felt the need for a development entity that would go after non-regulated international business. So, the scope of AAGES is … non-regulated and international. And the two markets that we have been targeting are Spain and Columbia, because we believe… we have advantages in those markets.”

“…greening the fleet is a very key lever that we have, where we believe we have unique expertise. …we have added solar generation into that database. We are excited about potential (solar generation) opportunities in Bermuda.”   

The purchase of Bermuda Electric Light Company, BELCO, in 2020 was AQN’s 27th regulated utility acquisition since 2009. The earnings call also discussed AQN’s recent acquisition of water utility ESSAL in Chile.

Liberty Power

Liberty Power (formerly Algonquin Power Co.) owns a direct or indirect equity interest in 35 clean energy facilities, including wind, solar, hydroelectric and thermal. Wind farms provide most of its generation revenue.

APUC sees great opportunity as a global leader in renewable energy through its portfolio of long-term contracted wind, solar and hydroelectric generating facilities representing over 2 GW of installed capacity and more than 1.6 GW of incremental renewable energy capacity under construction.

AQN faces numerous threats, including diverse regulators, geopolitical risk and security threats to its networks and pipelines. In December, AQN expanded its Texas operations with the acquisition of a 51% stake in some wind generation properties. In February, this Canadian company discovered an unexpected threat: sub-zero weather in Texas. AQN declared the freeze damage a “force majeure,” in anticipation of possible legal action. 

Liberty Utilities

Liberty Utilities provides water distribution and wastewater treatment,  electricity distribution, and natural gas distribution to communities largely in North America.

Currently, the distribution group provides most of the company’s revenue, and its natural gas division provides most of the distribution group’s revenue.

In the company’s Q4 earnings release, full year 2020 revenue was $1.677 billion (in U.S. dollars), up 3% from $1.626 billion in 2019. Here’s a breakdown of the utility’s revenue sources:

AQN 2020 and 2019 Revenue

AQN reported adjusted earnings per share for 2020 were $.64 per diluted share, up 2% from $.63 in 2019.

The average high yield for the past 5 years was 5.7%, with the highest yield of 6.4% reached in 2020. AQN has raised the dividend for the past 10 consecutive years. The 5-year dividend growth rate has been 10.0% and the 10-year growth rate has been 11.8%.

The average payout ratio for the past 2 years (2019-2020) averaged 48.6%.

Based on GAAP earnings, the average P/E for the past 5 years was 20.1. The current P/E is 24.8, based on an adjusted twelve month EPS of $.64 and the March 11 closing price of $15.90.

The current quarterly dividend is $.1551, annualized to $.61. At a March 11 closing price of $15.90, the current yield is 3.90%.

F.A.S.T. Graph

AQN FAST Graph

From F.A.S.T. Graphs

Conclusion

Essential Utilities has a relatively high S&P credit rating of A and a relatively low yield of 2.37% due to the market’s history of giving WTRG a premium valuation. It has raised the dividend for 28 consecutive years with generous increases, but its payout ratio has reached a danger point. Either WTRG must escalate its earnings or reduce its dividend growth. In choosing an entry point for this low-yielder, remember that the high yield for the past 5 years was 3.2% at the 2020 market low.

Algonquin Power & Utilities is a major acquirer of regulated utilities and contracted power facilities. It will maintain its focus on North America while expanding its international operations. The company recently introduced its new brand: Liberty Power and Liberty Utilities. The regulated side, particularly gas, makes most of the money. The renewables side gets most of the attention, as it did recently in Texas, where it issued a force majeure declaration for a south Texas wind facility. 

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.