- Quick Take
- Duke Energy is expected to report its Q1 2013 results on Friday, May 3. We expect the firm’s U.S. franchised electric and gas (USFE&G) division to continue its steady performance while there is a possibility that international energy division could be hit due to lower rainfall in Brazil.
- Cost reductions and rate hikes are critical for the USFE&G division’s continued earnings growth since demand in the United States is expected to be only around 1% going forward.
Duke Energy (NYSE:DUK), one of the largest utility companies in the United States, is expected to report its Q1 2013 earnings Friday, May 3. The last few quarters have been quite significant for the company as it made progress in resolving key regulatory issues such as reaching a cost recovery settlement for the Edwardsport IGCC plant, besides taking some tough operating decisions like deciding to close down the crippled Crystal River power plant in Florida. In Q4 2012, Duke reported a 51% year-over-year increase in earnings fueled by the Progress Energy merger although earnings adjusted for the merger were almost flat. Here are some of the factors that we will be watching when the firm releases earnings Friday.
Cost Reduction And Rate Increases Are Critical For Earnings Growth
The U.S. Franchised Electric and Gas division is Duke’s largest business segment and accounts for nearly 90% of its Trefis price estimate. During the previous quarter, revenues for the division almost doubled year-over-year to around $4.9 billion from $2.5 billion while operating income also grew to around $846 million from $434 million, thanks to the Progress Energy merger. However, organic growth was minimal with load growth adjusted for weather effects coming in at just around 0.6%.
The firm anticipates that electricity demand will grow at a sluggish pace of around 1% over the next few years due to weak economic conditions as well as a growing focus on energy savings. Considering these relatively dull projections, the firm’s future earnings growth will hinge on operational improvements as well as rate increases. Duke’s recent merger with Progress Energy provides some opportunities to reduce fuel and transmission costs through enhanced economies of scale and provides opportunities for joint dispatch. The firm mentioned that it had recognized around $52 million in cost savings, relating to the merger over the last two quarters. We will be watching the firm’s progress on this front during this quarter as well.
Almost 90% of Duke’s Energy’s business comes from its regulated utility services and the firm is dependent on state regulators for rate increases, to offset the costs of adding new capacity or upgrading its fleet. Over the last few months, the firm filed for rate increases seeking a 11% increase in rates for its Progress Energy Carolinas division and a 9.7% rate hike for its Duke Energy Carolinas division. If the rate cases are approved, they should go into effect sometime in the second half of this year. In early April, Duke got approval to increase electricity rates for its Ohio operations by around 2.9%. 
We will also be keen to hear of the firm’s plans for building a replacement for the Crystal river plant that it has decided to permanently shut down. Since the reactor was shut down in 2009, the firm has been partly purchasing power to meet the shortfall, and it will have to continue doing so until a replacement plant is commissioned. While Duke didn’t announce a definitive plan for the replacement, it did mention that it was evaluating the use of a natural gas plant. (Related Read: Duke Energy Makes The Right Call By Retiring Troubled Nuclear Plant)
International Business: Low Rainfall In Brazil Could Hit Margins
Duke’s international businesses, which primarily operates generation capacity in Latin America, accounts for less than 10% of the firm’s total business, but we believe that it is quite important from a growth standpoint given the strong demand for energy and relatively high electricity prices in the region. For this quarter, we believe that the division’s Brazilian operations, which account for nearly half of Duke’s international generation capacity could contribute to some margin pressure. Brazil has been experiencing low rainfall of late, which could in turn drive up the costs of generations since all of Duke’s capacity in Brazil is hydro-power based. (Seeking Alpha) This could possibly impact the international energy division’s margins and revenues. (Related Read: Duke Energy’s International Business: A Closer Look At The Brazilian Market)
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