Portland General Electric: Solid Dividend At A Fair Price

Aug.28.11 | About: Portland General (POR)

Portland General Electric Company (NYSE:POR) appears to be a fairly valued stock with a solid dividend. Upside could come from two areas:

  1. Slightly higher increase in dividend than expected might increase expected growth resulting in stock price appreciation.
  2. Renewable energy requirements by Oregon may support additional growth in the ratebase.

POR was founded in 1930 and operates as a vertically integrated electric utility in Oregon, serving about 820,000 customers, ranging from residential to industrial. POR provides both retail and wholesale power; however, its retail business accounts for approximately 95% of its revenue, with residential retail sales representing approximately 50% of that portion.

POR had about $1.8 billion in revenue in 2010. POR has a market capitalization of $1.77 billion and an enterprise value of $3.5 billion, suggesting significant leverage. POR has a consistent track record of paying dividends, but with only small growth. POR's estimated forward dividend yield is 4.5% based upon a closing price of $23.53 and the author's projected annual dividend of $1.065. The following table shows the estimated forward quarterly dividends as well as the recent historical quarterly dividends.

Historical and Projected Dividends
Type Ex-Dividend Date Quarterly Dividend ($ per share) Change on prior year
Projected 6/22/2012 0.270 1.9%
Projected 3/23/2012 0.265 1.9%
Projected 12/22/2011 0.265 1.9%
Projected 9/22/2011 0.265 1.9%
Historical 6/22/2011 0.265 1.9%
Historical 3/23/2011 0.260 2.0%
Historical 12/22/2010 0.260 2.0%
Historical 9/22/2010 0.260 2.0%
Historical 6/23/2010 0.260 2.0%
Historical 3/23/2010 0.255 4.1%
Historical 12/23/2009 0.255 4.1%
Click to enlarge
Source: Author estimates, Yahoo Finance

The following graph shows the historical trailing twelve month yield and spread to the 10-year Treasury bond.

Created from data from Yahoo Finance

The next graph shows the normalized performance of the stock price, the dividend, and the trailing dividend yield.

Created from data from Yahoo Finance

The above chart shows that POR has underperformed its dividend increases, suggesting that its future growth opportunities are worse than past prospects. The quarterly dividend increases have declined from 1 cent to 0.5 cents over the past couple years.

Dividend Discount Model Suggests Fair Value

The first step to using the dividend discount model is to calculate an equity hurdle rate with the Capital Asset Pricing Model. POR has a beta of 0.67 and with the risk free rate at a very low 2.2% this gives the discount rate to be a 6.9% assuming an equity risk premium of 7%.

As noted above the forward dividend is approximately $1.065. Applying a long term growth rate of 2% gives an estimated price of $21.73 for POR. This is a slight discount to the current price of $23.53. However, as with any dividend discount model, the result is highly sensitive to growth rate and equity hurdle rate assumptions.

DDM Sensitivities
Sensitivity Equity Hurdle Rate
Growth Rate 5.9% 6.9% 7.9% 8.9%
0.0% 18.05 15.43 13.48 11.97
1.0% 21.73 18.05 15.43 13.48
2.0% 27.31 21.73 18.05 15.43
3.0% 36.72 27.31 21.73 18.05
Click to enlarge
Source: Author calculations

The above table shows POR to be slightly overvalued; however, slight increases in assumed long term growth or a slight reduction in beta (resulting in a lower equity hurdle rate) would bring its value back in line. At a 2.35% growth rate, POR would be viewed as fairly valued.

So what would an investor want to investigate further to want to buy POR?

There are a couple follow up areas of investigation beyond a general more detailed cash flow assessment of the company:

  1. The first question, I would ask would be to see what the dividend payout ratio looks like. Is it getting higher or lower suggesting that the next increase might return to 1 cent instead of 0.5 cents or more problematic that the dividend stays constant. A 1 cent increase, might shift overall perceptions of POR growth and result in stock price appreciation.
  2. As a smaller regulated utility, POR performance is generally driven by population and economic growth in the Portland metro area and beyond. How is Portland, Salem and Oregon's population expected to grow over the coming years? POR service area currently covers approximately 44% of the state's population and is entirely within the state's boundaries.
  3. The final area of investigation would be around POR's ability to grow its rate base. POR is governed by the Public Utility Commission of Oregon with respect to ratemaking which allows POR to recover costs and earn a reasonable rate of return. Oregon has also passed a renewable portfolio standard requiring 25% of POR's retail load to be met through renewable resources by 2025. Given that POR can only meet between 5 and 10% this will required additional investment in wind and solar. The upside for investors is that renewable energy resources are often capital intensive with more limited operating expenses which should allow larger increases to the rate base.

I will continue to investigate POR as an investment opportunity despite a preliminary pass which suggests that it is not a significantly undervalued stock - quite possibly it is slightly overvalued, but given the margin for error it is probably at a fair value.

Sources: Additional information and facts in this article are from POR SEC filings and Yahoo Finance.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Disclaimer: This article is for informational and educational purposes only and shall not be construed to constitute investment advice. Nothing contained herein shall constitute a solicitation, recommendation or endorsement to buy or sell any security.