As frequent readers know, my first-level categorization of companies reflects the main reason I own them. Total stock returns come from two sources: capital appreciation and dividends. So those are my first-level categories. How I categorize a company determines what methods I follow in selecting companies, and what strategies I use in managing their portfolios.
The phrase “Dividend Company” is a term of art for me, not just a descriptive phrase. Merely paying a dividend is not enough for a company to be a “Dividend Company.” Rather, I look for the best dividend companies, with characteristics like these:
- excellent business
- financial health
- growing at a sustainable pace
- appears to present relatively low risk
- pays a sufficient yield at the time of purchase
- likely to increase its dividend every year
One such company is Alliant Energy (LNT).
Alliant Energy (LNT) is a fairly classic, reliable, dividend-paying utility. It has a current yield of about 4.8%, figures to grow its dividend by around 6% per year, and its dividend appears to be rock-solid. It has paid dividends quarterly, without a miss, since 1946. In addition, the stock has provided significant capital appreciation over the past several years, surpassing that of many “growth” stocks. Its record of total returns exceeds the S&P 500’s over every time-frame from three months to 10 years.
Type of Company and Stock
In Morningstar’s Style Box, LNT is classified as a mid-cap value stock. Under Morningstar’s system, each company is scored along five “value” factors (emphasizing valuation ratios and dividend yield) and five “growth” factors (emphasizing projected and historical growth). The characteristics for each stock are assigned overall “value” and “growth” scores based on the ten factors. If either growth or value is dominant, the stock is classified accordingly. Under this system, LNT comes out as a “value” stock.
LNT has a market cap of about $3.7 billion, which makes it a mid-size company under most classification schemes.
LNT’s website is accessible here. All figures in this article are from Morningstar and the company’s website.
Company Story and Strategy
Alliant is a regulated public utility holding company. It is the result of the 1998 merger of three small Midwestern utilities. Alliant provides regulated electric and natural gas service to approximately 1 million electric and 400,000 natural gas customers in IA (50% of revenue), WI (47%), and MN (3%). Its service territory in the upper Midwest covers about 54,000 square miles. The company considers its regulators to be “well regarded” by independent ranking groups, with supportive rate mechanisms. According to Alliant, “Wisconsin and Iowa are two of the top ranked commissions from an investor perspective.”
Alliant’s assets include 9,700 miles of electric transmission lines, 8,000 miles of natural gas main, and a strong collection of fossil fuel and renewable generating facilities. Alliant operates two regulated utility subsidiaries: Interstate Power & Light and Wisconsin Power & Light. It also has a few nonregulated businesses that account for less than 5% of its revenue.
As an energy utility, Alliant benefits from a strong megatrend, namely the need for energy. Alliant’s management team targets average annual EPS growth of at least 6% from continuing operations. The company operates in a windy part of the country and is actively building wind-generation facilities. The bulk of this expanded capacity is scheduled to come on line in the first half of this decade. Wind’s percent of retail sales was 5% in 2009, and it is expected to grow to 11% in 2012. Investments are also being made in advanced metering technology. The company has been promoting energy efficiency for over 20 years, thus customer efficiency practices are already embedded in its sales forecasts.
Alliant made some unfortunate initiatives into international ventures a few years ago. While hoping to achieve faster growth, the ventures instead diluted earnings and forced a dividend cut in 2003. Alliant has since sold most of its nonregulated businesses and returned to its core strength of being a domestic regulated utility.
The company recently stated, “Our focus for the remainder of 2010 includes continued cost controls to allow the utilities to earn authorized returns; work with various stakeholders in Wisconsin, Iowa and Minnesota to achieve fair and balanced regulatory outcomes; and continued strategic investment in wind, energy efficiency, and environmental controls while providing safe and reliable utility service.”
At first glance, Alliant’s financials appear nothing to write home about. Its three-year revenue growth is tepid at 1%, its three-year earnings growth is negative, and its ROE is a mere 3%. But scraping beneath the surface, we see other factors to like: D/E is 80%, better than average for the industry, and the interest is well covered by a strong balance sheet. Alliant’s refocus on its core business, including cost controls to improve its margins, and rate-increase requests from generally benign regulators, suggest that the company will achieve its goal of 6% annual EPS growth. Significant ongoing investments in generation capacity should lead to steady earnings expansion. Slow-but-steady growth can be a powerful foundation for a reliable dividend-growth stock.
Here is LNT’s recent record of dividend payments:
- 2005: $1.05
- 2006: $1.15 (+10%)
- 2007: $1.27 (+10%)
- 2008: $1.40 (+10%)
- 2009: $1.50 (+7%)
- 2010: $1.58e (+5%e)
LNT typically pays its dividend four times per year, and raises it with its first payment each year, as it did this year. At a recent price of about $34 per share, LNT’s indicated dividend yield is about 4.8%. The company targets a dividend payout ratio of about 60% to 70% of its utility earnings each year. Alliant believes it can fund its expansion initiatives while maintaining that payout ratio. It has paid a dividend for 258 consecutive quarters since 1946. Steep losses from its misguided international ventures severely diluted earnings and forced Alliant to cut its dividend in 2003. The company has since sold the majority of its nonregulated businesses, and it has been raising dividends each year since 2003.
Morningstar projects annual dividend increases of about 8% for the next five years. I prefer a more conservative projection. If the company achieves its stated EPS growth rate of 6% per year and matches that with equivalent dividend increases, its yield on cost will reach 10% in about 10 years. (To learn more about the interplay of dividend yield and growth, see my article “10 by 10: A New Way to Look at Dividend Yield and Growth”.)
Stock Performance and Valuation
Over the last 10 years, LNT has generated a 4.9% annualized total return for investors, compared to a negative 2.4% annualized total return for the S&P 500. The stock’s average total return has beaten the S&P 500’s for the trailing 1-, 3-, 5-, and 10-year periods. YTD, Alliant’s total return is about 16%.
The stock’s valuation ratios, when blended, suggest the stock is fairly or slightly over-valued at its current price. It has a high trailing P/E of 37 and PEG of 2.2. On the other hand, it has a good forward P/E of about 12 and very good P/CF and P/S ratios of 6 and 1 respectively. I consider the dividend yield of 4.8% to be healthy, tilting the balance in favor of a fair valuation right now.
The consensus analyst rating (7 analysts cover the stock) is 1.4 on the familiar 1=Buy, 5=Sell scale.
Investment Thesis and Conclusion
Alliant seems worthy of strong consideration for a dividend-growth strategy. Its 4.8% initial yield is a healthy return right out of the starting gate, and the company figures to increase the dividend at a reasonable pace annually for the foreseeable future. There is a risk that the market will revalue the company downward over time from its current valuation, but if your focus is on the growing dividend, there seems little threat to the reliability of the dividend’s continued growth.
Disclosure: long LNT