What follows is a list of utilities with various degrees of upside. Many investors are attracted to this sector due to the high dividend yields, limited volatility, and high multiples. But with the economy moving towards full employment, utilities are likely to underperform broader indexes based on their low betas. With that said, the industry is worthwhile for those that want to hedge against a double dip.
The Southern Company (SO)
The Southern Company trades at a respective 17.9x and 16.2x past and forward earnings with a dividend yield of 4.3%. It has a beta of 0.3. Consensus estimates forecast Southern's EPS growing by 3.1% to $2.65 in 2012 and then by 6% in both of the following two years. Assuming a multiple of 16x and a conservative 2013 EPS of $2.77, the stock would hit $44.32, implying slight downside.
The company has repeatedly increased its dividend distribution usually by 4% or more over the last decade. At the same time, dividend increases are fueled by equity and debt financing. This is especially problematic in light of how volatile free cash flow has been - swinging back by $1B into positive and negative territory between years. Thus, I would recommend holding out for now.
NextEra Energy (NEE)
NextEra trades at a respective 12.9x and 13.2x past and forward earnings with a dividend yield of 3.7%. It has a beta of 0.6. Consensus estimates forecast NextEra's EPS growing by 3.2% to $4.53 in 2012 and then by 9.3% and 4.2% in the following two years. Assuming a multiple of 16x and a conservative 2013 EPS of $4.92, the stock would hit $78.72 for 20.8% upside. At an annual dividend yield of 3.7%, this makes NextEra a very strong investment in terms of protecting against a double dip.
This upside is complemented by strong execution during the first quarter. Regulatory capital grew by 15.6% over 1Q11. In Florida, nearly all important indicators have improved from the 2009 lows. Management has also properly hedged against weak gas and power markets. Accordingly, from a risk/reward standpoint, NextEra remains very compelling.
Spectra Energy (SE)
Spectra trades at a respective 17.4x and 15.1x past and forward earnings with a dividend yield of 3.7%. It has a beta of 1. Consensus estimates forecast Spectra's EPS growing by 2.3% to $1.81 in 2012 and then by 9.9% and 3.5% in the following two years. Assuming a multiple of 16x and a conservative 2013 EPS of $1.95, the stock would hit $31.20 for minimal upside. According to NASDAQ, the company is rated around a "hold".
During the first quarter, Spectra delivered solid quarter results. Warm weather resulted in customer usage, however, falling by 18%. This was exacerbated by weak NGL and natural gas prices. However, Spectra offset these headwinds by meaningful growth in volumes. The $3B expansion will also help bring down gross margins as a percent of revenue. Accordingly, I recommend buying the company right now.