Tag Archives: cash

Avista Corporation: This Utility Is A Buy

Summary Power generation mix is nearly all clean energy. Dividend history is solid, management guidance for 4-6% growth going forward. Only moderate leverage; Avista hasn’t been on a borrowing spree like most utilities. Shares are just simply one of the top picks in the utility sector. Set it and forget it. Avista Corporation (NYSE: AVA ) primarily operates as a regulated utility business, with the majority of revenue derived from providing electric and natural gas services to customers in Washington, Idaho, and Oregon. While the company does serve some customers in Montana and Alaska (via the AERC acquisition), these operations, along with the non-utility businesses, are fairly immaterial to company earnings. Despite favorable generation capacity, healthy dividend growth, and favorable rate case filings, shares have largely tracked broader utility sector results. Are shares poised to outperform in the future? Favorable Power Generation Bucking the trend of utilities that are woefully behind the curve in emissions standards, Avista’s 1,800MW of generation capacity currently consists of 56% renewables and 35% clean burning natural gas. It isn’t a surprise that the company consistently wins awards for being one of the greenest power producers in the United States. This is a big positive for shareholders. My attraction to Avista and companies with such strong renewables mixes is not born out of liberal thinking but a mere acknowledgement that it is extremely unlikely that current federal and state regulations regarding emissions standards get dialed back. The company’s power generation portfolio simply makes regulatory overhang due to increased renewable standards from state regulators and the federal government a non-issue. If I’m an investor looking for steady income, I don’t want to see surprise jumps in capital expenditures to bring plants into compliance or bad press from dirty power generation [think PLM Resources’ San Juan Generating Station (NYSEMKT: PLM ) or Duke Energy’s (NYSE: DUK ) coal ash basin spills]. Fact is Avista’s power generation mix greatly exceeds even the strictest of mandates, including those set for implementation in 2035 or later. This should help investors sleep easier at night. Operational Results (click to enlarge) Utility revenue has been moving up slowly, primarily based on growth in residential and commercial consumers, while revenue from industrial customers has been weakening since the expiration and subsequent renewal at lower rates of some large customer contracts recently. Revenue can be volatile. This is because Avista often chooses to sell its excess natural gas when current wholesale market prices are below the cost of power generation using its natural gas plants. Years that see these sales generally see higher revenue (due to these sales) but lower profit and operating margins. Investors can use 2014 versus 2013 as an example. In 2014, Avista sold $43M less natural gas in the open market ($84M in sales versus $127M in 2013). So while revenue only expanded marginally (2.2%), operating income grew 10% due in part to better margins. Additionally, shrinking operations and maintenance costs in spite of growing revenues is also a compelling sign to me that management is keeping a close eye on costs. With incremental revenue gains being hard-fought in the utility sector, any expense reductions that yield operational efficiency gains should be lauded. Money In, Money Out (click to enlarge) Like I do with all utility analysis, I look to make sure that cash being spent does not greatly outweigh cash being generated from operations. Utilities in general have been on a spending spree in the past few years due to looming regulatory burdens and record low interest rates. Debt issuance has been both necessary and coincidentally quite cheap, leading utility management to feat on the smorgasbord of easy money. Avista’s overspending and subsequent debt issuance has been relatively mild in comparison, especially considering that the company raised $245M in cash from the sale of the Ecova business in 2014, with the majority of those proceeds used to offset common stock dilution. Total long-term debt raised between 2011 to the current period has been just $250M. Because of this, Avista’s net debt/EBITDA stands at 3.3x, making it one of the least leveraged utilities I’ve analyzed recently. Operational cash flow should grow during 2015-2017 through rate recovery increases while capital expenditures flatten in the $350M range. This should decrease the deficit we see in the cash flow analysis. Overall, I don’t see an alarming trend here that should worry investors. Conclusion With a current dividend yield of approximately 4%, shares are trading slightly higher than historical averages by approximately 5%. While many investors would elect to wait it out for shares to drop, in the grand scheme of things an investment strategy like that can make you miss out on some valuable opportunities. Establishing a half position and electing to buy on dips might be the better strategy. In my opinion, Avista’s diversified utility business is one of the safest available options in the publicly-traded utility sector. Shares, however, don’t seem to carry any real premium for this value. While I don’t own shares (I instead own shares in Calpine Corporation (NYSE: CPN ) and AES Corporation (NYSE: AES ) given my heavier risk appetite than most), I certainly would if I was an income investor, even at these prices. Management’s guidance of 4-6% dividend growth in the years to come is both manageable and ahead of most utility peers. I’ve looked at many picks in the utility sector in the current market, and very few of them appear to trade at or below fair value. Avista isn’t one of them. If you’re long, congratulations on holding a winner. If you aren’t and are an income investor, you should consider it.

AGL Energy Is Hitting The Sweet Spot Right Now

Summary AGL Energy’s net income and free cash flow look uninspiring, but one needs to dig deeper to find the true story. The net income was negatively impacted by an impairment charge whilst almost half of the capex consists of growth capex. Using the sustaining capex and taking AGL’s cost reduction plans into consideration, the company is trading at a 2018 FCF yield of 8-9% and that’s quite appealing. Introduction Very few people might know AGL Energy ( OTCPK:AGLNY ) ( OTCPK:AGLNF ), but this $7.5B market cap company is one of the largest electricity and gas providers in Australia. It trades in energy, but also creates its own power through its renewable and non-renewable power plants. Surprisingly, there’s a decent volume in shares of AGL Energy on the company’s OTC listing, but I would obviously strongly recommend you to trade in the company’s shares through the facilities of the Australian Stock Exchange. As you can imagine, the ASX offers much more liquidity as the average daily dollar volume in AGL Energy is $25M. The ticker symbol is AGL . 2015 was a tad better than expected… I was really looking forward to see the final results of AGL Energy’s financial-year 2015 (which ended in June of this year). We already knew that year wouldn’t be a good year when discussing the net profit, as the company had to record an A$600M ($420M) impairment on some of its (upstream gas) assets. This impairment charge was due to delays in starting up the gas production as well as a lower expected gas price. This obviously meant the book value of those assets might have been overly optimistic, so an impairment charge was the right decision. (click to enlarge) Source: Annual report And indeed, even though the revenue increased by 2% to A$10.7B ($7.5B), the EBITDA fell by a stunning 40% to A$946M. As there’s of course still the usual depreciation expenses and interest expenses, the net profit fell by almost 62% to just A$218M ($145M). Ouch! (click to enlarge) Source: Annual report Even the cash flow statements were a bit uninspiring. The operating cash flow was A$1.04B, and after deducting capital expenditures to the tune of A$744M, the net free cash flow was approximately A$300M ($210M). All this sounds pretty boring and uninspiring, but I prefer to look to the future instead of at the past. But the 2016-2018 period will contain some very nice surprises From this year on, there will be numerous improvements. First of all, the net income will sharply increase again as I’m not expecting to see much more impairment charges. That’s very nice to keep the mainstream investors happy, but my readers already know I care more about cash flow statements than about net income, so I dug a bit deeper, and I’m extremely pleased with what I discovered. Of the A$744M in capital expenditures in FY 2015, only A$395M ($275M) of that amount was classified as “sustaining capex” . As it’s essential for cash flow statements to find out what the normalized free cash flow is, one should only use the sustaining capital expenditures and exclude the growth capex. So if I’d to deduct the A$395M from the A$1,044M in FY 2015, the adjusted free cash flow increases to almost A$650M ($455M). But there’s more. AGL Energy remains on track to complete the objectives it has outlined to reduce costs by FY 2017. AGL’s plan consists of cutting operating costs in, for instance, IT and supply contracts whilst on top of that, the sustaining capital expenditures will decrease from A$395M in 2015 to A$315M in FY 2017. This would increase the adjusted free cash flow by approximately A$200M per year to A$850M ($600M). And keep in mind this doesn’t take the organic growth into consideration, as I’m expecting the company should be able to increase its revenue and operating revenue (whilst reducing the operating costs and sustaining capex). Source: Company presentation And this really puts AGL in an enviable position. The net debt/EBITDA ratio as of at the end of its financial-year 2015 was acceptable at 2.4, but this should start to drop extremely fast as the EBITDA will increase whilst the net debt will be reduced. In fact, even after paying a handsome 4% dividend yield. According to my calculations, in FY 2018, AGL Energy should have a net adjusted free cash flow after paying dividends of approximately A$400M, and this will probably be used to reduce the net debt (which will have a snowball effect as it will reduce the company’s interest expenses, increasing the net operating cash flow). It will also be interesting to see how AGL intends to spend the US$850M in cash flow it expects to generate through asset sales. Investment thesis So yes, AGL Energy’s 4% dividend yield is safe and will very likely be increased in the future. Don’t let the low net income fool you, the cash flow statements are explaining this story much better and the adjusted free cash flow is definitely sufficient to cover AGL’s dividend expenses. I’m also really looking forward to see if the company can indeed reduce its operating costs and sustaining capex, because if it would effectively be able to do so, AGL is trading at an expected free cash flow yield of 8-9% by FY 2018. I’m keeping an eye on AGL Energy and might pull the trigger during a weak moment on the market. Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

How I Created My Portfolio Over A Lifetime – Part VI

Summary Introduction and series overview. When and why I might trim a position or two from my portfolio. The methods I use to liquidate a position. Back to Part V Introduction and Series Overview This series is meant to be an explanation of how I constructed my own portfolio. More importantly, I hope to explain how I learned to invest over time, mostly through trial and error, learning from successes and failures. Each individual investor has different needs and a different level of risk tolerance. At 66, my tolerance is pretty low. The purpose of writing this series is to provide others with an example from which each one could, if they so choose, use as a guide to develop their own approach to investing. You may not choose to follow my methods but you may be able to understand how I developed mine and proceed from there. The first article in this series is worth the time to read based upon some of the many comments made by readers, as it provides what many would consider an overview of a unique approach to investing. Part II introduced readers to the questions that should be answered before determining assets to buy. I spent a good deal of that article explaining investing horizons, including an explanation of my own, to hopefully provoke readers to consider how they would answer those same questions. Once an individual or couple has determined the future needs for which they want to provide, he/she can quantify their goals. If the goals seem unreachable, then either the retirement age needs to be pushed further into the future or the goals need to become attainable. I then explained my approach to allocating between different asset classes and summarized by listing my approximate percentage allocations as they currently stand in Parts III and III a. Part IV was an explanation of why I shy away from using ETFs and something akin to an anatomy of a flash crash. In Part V I did my best to explain why holding cash, especially when assets valuations are relatively high, may be better than being fully invested at all times. In this article I will explain when, why and how I remove positions from my portfolio. I will provide two examples, one for each of the two methods I use. When and why I might trim a position or two from my portfolio There are two reasons that I might want to sell a stock position from my portfolio. The first is when the company management changes direction or the business model in a way that does not appear to be sustainable to me. This one should be obvious, but I do not want to exclude anything that could be useful to those just starting out. If the fundamental reason I bought the stock has changed, such as the moat has been washed away by technological advances creating easy entrance by competitors, I must reassess whether holding the position still makes sense. Usually, in such a case, the answer is no. Thus, I will want to sell the stock and look for another investment with a more sustainable growth/income business model still intact. The second reason is when I sense, for many reasons, that the market and by extension some of my positions, have reached overly high valuations. I will discuss the many reasons in a moment. But, for now, suffice it to say that when I feel that I could find a better investment for my money in terms of total return potential, I consider selling the position. The method, in this case, is to sell calls. In the first case I will sell the position outright on a day when the stock is exhibiting some price strength (usually when the broader market is up and lifting most stocks higher). In the second case, I will sell the calls when the stock is over its fair value by 20 percent or more and do so while the stock is still near its 52-week high. The methods I use to liquidate a position I want to provide two examples, one to explain each situation in which I decide to sell a position. The first example is Best Buy (NYSE: BBY ) which I first recommended in this article back on October 7, 2011. But I did not buy the stock at that point because my recommendation was to sell put options in hopes of either collecting a 20 percent annualized return on cash or to buy the stock at a discount. I ended up collecting the cash and the option expired worthless. The next time I made a similar recommendation came in my December 23, 2011 article . This time I was successful, having sold two put options, collecting $2.39 per share, with a strike price of $20 while the price at the time stood at $23.28. I did not expect to get put the shares but, as it turned out, the stock fell all the way down to near $11 per share in November of 2012. I ended up owning 200 shares of BBY with a cost basis of $17.61 in mid-January 2013 with the price at $15. I had originally wanted the shares because of BBY’s position as the leading electronics retailer after a consolidation in the space and because of my personal experiences while shopping at three different BBY locations. I received some negative feedback after my original article that customer service in some areas had become less than desirable. I considered that to be more of a localized situation as my recent experiences had been superior. Then something changed. All of the highly knowledgeable employees that I had previously made my shopping experience enjoyable suddenly disappeared. The employees that replaced them barely spoke English and were not as interested in helping find what I needed but totally focused on selling me something along with some other things that I did not need. They were highly trained in selling but knew little about the products they were charged with selling. Fortunately for me this happened in September, 2013 with the price trading near $38 per share. I dumped my 200 shares on September 16th at $38.50. One of the major reasons why I had bought stock in the company, excellent customer service, had changed dramatically. I was lucky to be shopping and having the experience when I did. Sure the stock went up to over $43 per share in November of that year, two months after I had sold. But I felt no regret at the time. My decision was based upon the assumption that the company had decided to lower labor costs and try to increase dollars per sale at the expense of customer service. Management probably did not think it would be sacrificing so much in the customer experience, but, in the end, the result was horrific. Results disappointed and the stock price fell back to a low of $22.15 on January 2014. I was not tempted to add back shares at that price. While I would have profited nicely if I had, the company had broken my faith and I will not look back. Of course, the bigger future problem for BBY will be competing over the Internet with the likes of Amazon and some smaller electronics specialty sites. The stock now stands at $37.78. I believe it is over valued at that price relative to its future prospects. The second example is a company than I have held in my tax-deferred IRA account since 2006 with a cost basis of just over $30 per share. McCormick (NYSE: MKC ) is one of my all-time favorite companies but the stock has, like many quality stocks in the current environment, has become over valued by my estimates. The current share price is $79.62 (as of market close on Friday, October 2, 2015). I really do not want to sell these shares because the company is still doing everything right and the future remains bright. However, when the price of a stock gets to be over valued by 20 percent or more I like to sell calls above the current price. If the stock rallies and remains above my strike price I end up having to sell the stock for 25 percent or more above what I consider to be fair value. My estimate of fair value for MKC is $66. I get to that price base by using the dividend discount model [DDM] with a discount (or my hurdle rate) of nine percent. Dividends have increased handsomely over the past five and ten years, at nine and 9.1 percent, respectively. However, I believe that the growth prospects going forward will be lower, not only for MKC but for most multi-national corporations, as growth in emerging markets is slowing and not likely to regain the levels of the past decade in the foreseeable future. My estimated compound annual growth rate for MKC dividends is 6.6 percent. Plug in the numbers and we end up with a fair value of $66.01 per share. As I mentioned before, I do not want to lose this position but it will not break my heart if these shares get called away at $85 before year end. Since the position is in my IRA account I am not worried about a tax consequence. I would not sell calls so close to the current price if it were in a taxable account. I figure that if the position gets called away I will probably look for a better yield in another quality stock that has been beaten down more. Of course, if it does not get called away I am happy because the stock is not likely to fall much below fair value. It seems to hold up very well even during the worst recessions. Everyone has to eat and we like to season our food to taste. That goes for all seven billion of us; or at least those can afford to be choosy. That number has grown and will continue to growth but I suspect the rate of growth to slow considerably for at least the next five years. Summary I intend to get more into some of the common mistakes investors make when not paying attention to tax consequences in the next article. After that I want to get back to the basic concepts of saving and investing goals and methods, primarily for those just starting out, but also applicable to those who are nearing retirement and not quite comfortable with where they are at this stage of life in terms of having enough to last through their remaining years in comfort. There are always a few tough decisions to make but they are generally well worth considering. As always I welcome comments and questions and will do my best to provide details and answers. This is one of the best aspects of the SA community. We can learn from each other and share our perspectives so that other readers can benefit from the comprehensive knowledge and experience represented here.