Topic: Dividend Stocks

These utilities continue to extend their reach

Both Emera and Fortis have used acquisitions to expand beyond their home markets in Atlantic Canada. We generally take a skeptical view of companies that grow their businesses that way. Hidden problems with new operations can offset the expected profit gains.

However, their new operations are rate-regulated utilities with predictable revenue streams. Moreover, the extra cash flows will let both firms raise their dividends over the next few years.

EMERA INC. $48 (Toronto symbol EMA; Income Portfolio, Utilities sector; Shares outstanding: 212.1 million; Market cap: $10.2 billion; Price-to-sales ratio: 1.6; Dividend yield: 4.7%; TSINetwork Rating: Average; www. emera.com) owns 100% of Nova Scotia Power, that province’s main electricity supplier. This business supplies 20% of Emera’s earnings.

In the past few years, the company has invested in several power plants and natural gas pipelines in the U.S. and the Caribbean.

Those include its July 2016 purchase of Teco Energy for $13.9 billion. That firm supplies electricity and natural gas to 1.05 million customers in Tampa Bay, Florida. Another of its businesses distributes gas to 510,000 customers in New Mexico.

If you exclude unusual costs related to the Teco acquisition, Emera’s earnings in the second quarter of 2017 jumped 134.0%, to $117 million from $50 million a year earlier. The company sold shares to help pay for Teco. Due to the extra shares outstanding, earnings per share rose at a slower pace of 61.8%, to $0.55 from $0.34.

Revenue in the quarter jumped 194.4%, to $1.5 billion from $499 million, mainly due to $945 million from the new Teco operations.

Emera also expects to complete two major projects in 2018. They include the $600 million Labrador Island Link. It will transmit power from a new hydroelectric facility at Muskrat Falls, Labrador, to the island of Newfoundland. The company owns 59% of the Labrador Island Link, while Nalcor (Newfoundland’s government-owned power company) owns the remaining 41%.

The company will also spend $1.6 billion on its 100%-owned Maritime Link undersea cable, which will transmit electricity from the province of Newfoundland & Labrador to Nova Scotia.

In all, Emera plans to spend a total of $6.6 billion between 2017 and 2020 on new projects and upgrades to its current operations.

That excludes its proposed Atlantic Link underwater cable, which would transmit power from wind farms and hydro facilities in New Brunswick and Maine to Massachusetts.

That project would cost $2 billion U.S., and Emera would have to spend another $2 billion U.S. on new wind-power generators. If approved, Atlantic Link could begin operating by the end of 2022.

The company gets over 70% of its earnings from regulated utilities.

Thanks to those dependable cash flows, it has now announced an 8.1% dividend increase. Starting with the November 2017 payment, investors will receive $0.565 a share, up from $0.5225. The new annual rate of $2.26 yields 4.7%. The company still plans to increase its dividend by 8% each year through 2020.

The stock trades at 17.5 times the $2.74 a share Emera will likely earn in 2017. Earnings could rise to $3.08 a share in 2018 as the company realizes more of the benefits of the Teco purchase. The stock now trades at just 15.6 times that forecast.

Emera is a buy.

FORTIS INC. $45 (Toronto symbol FTS; Conservative & Income Portfolios, Utilities sector; Shares outstanding: 418.0 million; Market cap: $18.8 billion; Price-to-sales ratio: 2.4; Dividend yield 3.6%; TSINetwork Rating: Average; www.fortisinc.com) is the main supplier of electrical power in Newfoundland and Labrador as well as PEI.

In the past few years, Fortis has used acquisitions to cut its reliance on Atlantic Canada.

In 2004, the company paid $1.5 billion for regulated power companies in Alberta and B.C. It later acquired Terasen (now called Fortis BC Energy) and now distributes natural gas to 1.2 million customers in B.C. Fortis paid $3.7 billion for that business.

The company has also expanded outside of Canada. In June 2013, it paid $1.5 billion U.S. for CH Energy Group. It distributes electricity and gas in the Mid- Hudson River Valley of New York State. In August 2014, Fortis purchased UNS Energy for $4.5 billion. This firm operates power plants and distributes electricity and gas in Arizona.

In October 2016, Fortis paid $7.0 billion U.S. in cash and shares for ITC Holdings Corp. That firm owns 25,100 kilometres of high-voltage power lines in the U.S. Midwest. Including ITC’s $4.8 billion U.S. debt, the total purchase price was $11.8 billion U.S.

Fortis later sold 19.9% of ITC to Singapore’s sovereign wealth fund for $1.2 billion U.S.

The company had also entered into an agreement with Teck Resources (Toronto symbol TECK.B) to purchase its two-thirds stake of the Waneta hydroelectric dam in B.C.

However, the provincial government, which owns the remaining third of Waneta, exercised its right to match Fortis’s offer and increase its stake to 100%. As a result, Teck will pay a $28 million breakup fee to Fortis.

In addition to acquisitions, Fortis plans to spend $13 billion between 2017 and 2021 to expand its operations.

As these are largely regulated operations, the company can pass along most of these costs to its customers in the form of higher power rates.

Fortis will likely earn $2.65 a share in 2017. The stock trades at a reasonable 17.0 times that estimate. The $1.60 dividend yields 3.6%. The additional earnings from ITC will help Fortis with its plan to increase its dividend by 6% each year through 2021.

Fortis is a buy.

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