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Summary UGI Corporation has its hands in many pots, with businesses all around the world. Peeling back the onion reveals that management has maintained control of operations. With manageable debt, high profitability, and below average valuation multiples, investors could pick much worse in the utility sector. UGI Corporation (NYSE: UGI ) is a holding company that operates a variety of businesses involved in the transportation and distribution of energy products. The company has been on an acquisition spree, spending over $2B over the past five years acquiring a vast swath of business lines. Shareholders have rewarded the exuberant spending with outsized returns over the broader utility index. Are more returns set to come or has the company lost direction? What Does UGI Corporation Do? As mentioned, the company owns a substantial interest in a variety of businesses: General Partner of AmeriGas Partners (NYSE: APU ), prior research by me found here International liquid petroleum gas businesses Midstream & Marketing operations (energy services and electric generation businesses) An electric generation segment (ownership interests of approximately 250MW of power generation) A gas utility business (serving nearly a million customers in Pennsylvania and Maryland) Phew. Simple this company is not. The above five operating segments actually simplify a variety of businesses that really don’t deserve to be comingled (revenue from co-ownership of power plants and pipeline building are intertwined in the Midstream & Marketing segment as an example). The AmeriGas’ ownership interest constituted just under half of 2014 revenue and profit, so the importance of this interest to operating results cannot be understated. AmeriGas is a propane distributor, with operations across the vast majority of the United States. Through its distribution network, AmeriGas provides propane to customers who have no real alternative for heating and cooking in their homes and businesses. 2014 was a stellar year for propane due to a colder than average year that drove operating margins due to scarcity of supply – 12.7% operating margins compared to 5.8% operating margins in 2012. Investors should be careful and consider that 2014 should not be a base case scenario for AmeriGas and is rather unlikely to be repeated. 2015 has been shaping up to be an average year in regards to operating results. This weakness year/year is part of the reason why earnings per share are set to fall in fiscal 2015 compared to fiscal 2014 for UGI Corporation. I’d highly recommend reading my prior article on AmeriGas for a deeper understanding, but as an overview, there are quite a few headwinds facing AmeriGas going forward. UGI highlights the main risk in its form 10-K: “Retail propane industry volumes have been declining for several years and no or modest growth in total demand is foreseen in the next several years. Therefore, the Partnership’s ability to grow within the industry is dependent on its ability to acquire other retail distributors and to achieve internal growth, which includes expansion of the Propane Exchange program and the National Accounts program (through which the Partnership encourages multi-location propane users to enter into a supply agreement with it rather than with many suppliers), as well as the success of its sales and marketing programs designed to attract and retain customers.” Retail propane is AmeriGas’ core business and has been declining slowly. This is due to a variety of factors, such as the expansion of natural gas further into rural territories (on a BTU/price basis, propane cannot compete and that is unlikely to change) and shrinking demand from customers due to milder temperatures and customer energy conservation. AmeriGas’ management believes that a propane exchange program (i.e., swapping out bottles for your grill) might help plug the slow leak of lost customers, which I find a stretch. Neither does consolidating the industry more, which isn’t going to stem the demand problem. The UGI International segment is another large contributor to revenue. The division sells LPG products throughout portions of Europe such as France, Belgium, the Netherlands, Austria, etc. Like AmeriGas, these sales are primarily to residential and small businesses that use the gas for heating and cooking. Unfortunately, LPG prices are much higher in Europe than in the United States. This has made electricity, which is immensely more expensive on a BTU basis than LPGs in the United States, a viable competitor to European LPG for heating and cooking in Europe, especially in France. So just like in the United States, customer demand is on a slow, marginal decline barring cold weather spikes: “The LPG markets in France and the Benelux countries are mature, with modest declines in total demand due to competition with other fuels and other energy sources… due to the nuclear power plants, as well as the regulation of electricity prices by the French government, electricity prices in France are generally less expensive than LPG. As a result, electricity has increasingly become a more significant competitor to LPG in France than in other countries where we operate. In addition, government policies and incentives that favor alternative energy sources can result in customers migrating to energy sources other than LPG in both France and the Benelux countries.” As a bright spot, the gas utility segment bears promise. I’m a fan of gas utilities; the environmental risk is much lower but allowed rates of return are generally similar to electric utilities. Gas utilities also have a steady stream of capital expenditures (replacement of pipe) that are easy to pass along to consumers, on which gas utilities are entitled to their fair rate of return. Additionally, being located in Pennsylvania, UGI’s gas utility business is located near many heavy industries such as metal and paper manufacturers. This allows better diversification of revenue away from the residential consumer that some utilities do not benefit from. From a sourcing perspective, being next to Marcellus and Utica shale formations provides a readily available and cheap source of natural gas to sell along to consumers. Being able to provide cheap natural gas prices for local consumers means higher relative demand compared to other areas of the United States. Midstream & Marketing is a growing but convoluted segment. Bundled up in operational results here are the operating results from natural gas liquefaction, LPG storage, energy peaking business (selling stored gas to utilities during times of high demand), pipeline construction, and partial ownership in coal, natural gas, and solar power plants (250MW worth). This makes our jobs as investors incredibly difficult as it becomes tedious to analyze and project future earnings potential. In general, however, this segment is like the others in that it benefits from cold weather spikes in the Northeast, such as during 2014. Peaking businesses can be highly profitable but can also sit on stored LPGs for some time waiting for the opportunity to sell. Cash Flow With all these businesses, how has operational cash flow performed? You might be as surprised as I was to see a fairly healthy cash flow statement. Operational cash flow has been growing and capital expenditures light (which makes sense given the asset-light nature of the retail LPG businesses). Because of strong operational cash flow, UGI would have actually been generating net cash balances excluding its acquisitions, a rarity for companies operating in the utility industries that have been running through cash in a cheap debt, low interest rate environment. At 3x net debt/EBITDA, UGI has much less leverage than most utility peers. Conclusion Trading at a ttm EV/EBITDA of less than 8x, shares appear cheap from that valuation perspective. The variety of businesses here appear to still be well run despite the amalgamation of holdings that management has collected over the past few years. While the company still relies heavily on propane/butane sales, worldwide geographical diversity does limit some of the risk. While I don’t think operating income can expand much from here outside of boosts from cold weather events, management still has plenty of room to bump the dividend to reward shareholders without getting themselves into cash flow problems. If you’re interested in AmeriGas, this might be a safe way to get exposure to the company while getting some worldwide exposure and regulated utility business diversification as well. Scalper1 News
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