I reiterate my bullish stance on Exelon Corp. (NYSE:EXC). EXC is among the low-cost power producers in the U.S., as it has a large nuclear generation portfolio. The company offers a healthy dividend yield of 4.05% and has a cheap forward P/E of 13.2x in comparison to its peers. Also, EXC offers investors a price appreciation potential of almost 20%, based on my price target of $37.50.
Financial Highlights 2Q 2013
EXC reported 2Q 2013 operating earnings of $0.53 per share, as compared to $0.61 per share in 2Q 2012, and missing the analysts' estimates by $0.01. Earnings for the second quarter decreased mainly due to higher operating and maintenance (O&M) expenses, lower margins at Exelon Generation Co. (ExGen) and unfavorable weather conditions. Revenues for the quarter were $6.14 billion, representing an increase of 3% on a year-over-year basis.
Exelon Generation Co's adjusted operating earnings decreased by $126 million to $273 million in the recent second quarter. The drop in the segment earnings primarily reflected lower energy margins due to decreased capacity prices, reduced load volumes and higher-than-usual nuclear fuel costs.
Commonwealth Edison, EXC's second-largest operating segment, reported an earnings increase of $54 million in 2Q 2013, as compared to the corresponding period last year. Higher earnings for the quarter were achieved by increased distribution revenue, the recovery of capital investment, and increased operating costs. PECO segment earnings for the quarter dropped by $7 million as a result of higher O&M expenses. Quarterly earnings of BGE, the smallest operating segment of EXC, increased by $9 million to $22 million. BGE earnings for the quarter were positively affected by higher electric and gas distribution rates.
The company has committed to improve its cost structure to offset the impact of lower PJM capacity prices announced in May. EXC is targeting to reduce its O&M expenses for 2013 by $100 million. Cost control efforts will also be maintained in 2014 and 2015, which is likely to result in flat O&M expenses' annual growth rate through 2015.
Due to lower capacity power prices, Exelon Generation lowered its expected total gross profit by $150 million, $250 million and $400 million for 2013, 2014 and 2015, respectively. Total gross profit is expected to be $8 billion, $7.7 billion and $7.65 billion in 2013, 2014 and 2015, respectively.
EXC management is optimistic about its retail business despite the margin headwind, which is a result of the competitive environment. The management is expecting forward power prices to increase by $2-$4 per MWH. I believe improvement in the future power prices will positively affect the company's bottom line and will fuel the long-term earnings growth of the company.
In the recent earnings release, the company reaffirmed its operating earnings guidance range of $2.35-$2.65 per share for 2013. On average, analysts have estimated operating earnings per share of $0.68 and $2.48 for 3Q 2013 and 2013 full year, respectively.
Cash Flows and Dividends
EXC offers a high dividend yield of 4.05%. Dividends offered by the company are backed by a strong operating cash flow yield of almost 23%. The company lowered its quarterly dividend by almost 40% earlier this year in order to maintain its investment grade credit rating and improve its financial flexibility. The dividend cut is likely to result in cash flow savings of $2-$3 billion over a period of five years. I believe cash flow savings, resulting from the dividend cut, would likely be used to incur CAPEX and pay down portions of existing debt. CAPEX is expected to be directed towards wind and solar energy projects, which will eventually result in earnings growth due to rate base increase.
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Source: Yahoo finance
EXC remains an attractive investment option at current valuations. EXC has the cheapest forward P/E of 13.2x as compared to its peers. Also, the company has attractive P/S, P/B and debt to equity as compared to its peers.
Based on my price target of $37.50, EXC offers investors a potential price appreciation of almost 20%. I calculated the price of $37.50 using EXC's estimated 2014 EPS of $2.32 and the utility sector's forward P/E of 16.22x. As the stock offers attractive upside potential, I reiterate a buy rating on the stock.