"Key investment advantages, we think we offer. 2013 to '17, we have a $3 billion plan. 80% to 90% of our operating earnings come from our regulated businesses. We believe we have a constructive regulatory environment. 5% to 6% earnings growth, and over the next few years at least, you will have a little bit higher dividend growth to go along with that earnings growth."
In addition to that, Farrell harped on 2% sales growth in the coming few years, unless the weather plays up again with unnecessary tornadoes and hurricanes.
But should we take him at his word or delve in further? Well, the second option sounds better. Let us discuss what Farrell said above.
Revenue does not seem to be growing at all. It is hardly believable even when Mark McGettrick says, "If you look at the last 2 years, we've grown on a weather-normalized basis, 1.5% or 1.6%. If you look at a historical basis prior to the recession, we have consistent sales growth of 2% to 2.5% Virginia for a decade." Take a look at the graph below.
If we consider the 2009-12 period, revenue has only gone down and not up. That is not really satisfying for me, as an investor. The transition to the regulated business is seemingly taking too long a time to recover revenue growth.
But yes, the company does have strong pricing power. Gross margin has grown tremendously in the last two years. Even if revenue has probably gone down due to discontinuation of the unregulated businesses, efficient management of the regulated businesses has definitely reaped profitability for the company.
But all these increasing margins are not without cost. Huge operating and reconstructing expenses have resulted in the high capex ratio below. As the chief executive said, the company is already looking at further capex of around $3 billion in the coming few years. Perhaps, this will lead to further revenue growth from the regulated plants and thus, higher profitability margins.
The next big question is whether the company's balance sheet is in a position to incur heavy capital expenditure or not. The current ratio is not at all looking good, which might be because of the non-increasing free cash flow (considered the lifeline of every capital-intensive business).
And this lack of self-sustained cash generation has led to increased debt incurrence. With over $20 billion in long-term debt, the following graph concerns me. With the increase in debt/equity ratio, the total expenses (TTM) rose by the end of this month. Remember, total expenses are still a lagging indicator, which might go up significantly by the end of 2013. Moreover, interest expenses are only a part of the total expenses. So, the actual interest cost might be going up, who knows.
Let us look at the table below.
5-year annual revenue growth > 15%
1-year revenue growth > 12%
Gross margin > 35%
Net margin > 15%
Debt to equity < 50%
Current ratio > 1.3
Return on equity > 15%
Normalized P/E < 20
Current yield > 2%
5-year dividend growth > 10%
Source: Motley Fool
If we are to believe the numbers above, the company's fundamentals seem pretty weak. With heavy leverage and lower revenue, it might take a few more years to get back to shape, if at all.
While the revenue is still expected to grow in the next couple of years, the increasing leverage might just offset any positive effect on the operating margin. If external debt continues to surge at the current rate, book value will probably not show any significant improvement. But the P/E ratio might just fall as expected, resulting in a drop in stock prices.
Perhaps to counter that effect, the company has increased the dividend payout in the last quarter. With increase in dividend payout, the stock price will probably increase to adjust the current P/E ratio.
As reported in the latest financial quarter report:
"In December, our Board of Directors set a new goal to achieve a 65 percent to 70 percent dividend payout ratio. The new policy recognizes the company's continued shift toward regulated earnings. The board also set a 2013 dividend rate of $2.25 per share of common stock, up from $2.11 per share in 2012, or a 6.6 percent increase."
Take a look at the table below.
P/E Ratio (forward)
Sales Growth (YoY)
EPS Growth (YoY)
Return On Assets (ROAA)
Efficiency - ROAA of 3.76% and operating margin of 13.34% is better than 2.99% of Exelon (EXC) and 0.46% of Calpine.
Growth - Sales growth have been in the negative yet EPS growth have in the positive, better than the rest except ITC Holdings (ITC).
Leverage - With lower current ratio and comparatively similar debt/capital ratio relative to the rest, Dominion Resources might have problems with interest coverage, affecting the bottom-line.
Shareholder's Return - Needless to say, dividend payout of nearly 4% is one of the highest and most stable in the industry.
Struggling fundamentals, high leverage and uncertain nature of the industry - all these can take a toll on the return of the stock.
Having said that, Dominion Resources seems to be somewhat better in respect to its immediate peers and with the steady dividend income, it still might be a hold, if not a buy.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.