I have been a long-time holder of Exelon Corp. (EXC), but recently I have started to wonder if it will continue to be the strong stock that it once was. In March of this year, EXC closed a merger deal with Constellation Energy (CEG). This merger is supposed to increase EXC's scope and range of its current business, and represented the largest of its several mergers/acquisitions that EXC has been involved in over the past year. EXC has acquired these businesses through the use of both equity and debt, which has continued to add to EXC's total debt loan by $5 billion. Total company debt is now topping $19.5 billion.
EXC is a utility company, and by nature is traditionally a slow-moving stock that pays consistent dividends each quarter. This stock should never be expected to attain the type of annual gains that would be experienced by the likes of Apple (AAPL), Google (GOOG), or Amazon (AMZN), but I would still expect the stock to perform and be somewhat stable in price volatility. Unfortunately, the stock's performance of late has been less than desirable, and it has traded with the same volatility that would be seen in the above mentioned stocks.
EXC continues to work on managing its debt loan while still maintaining adequate cash flows so that it can continue its daily operations. The company has done this through the selling of newly acquired assets and the issues of new debt. A good example of this is PECO, is a subsidiary of EXC, announcing this week that it has just priced $350 million of First Mortgage bonds, maturing in September 2022 at a coupon of 2.375.
Unfortunately, even with this type of cash and debt management, the number of acquisitions that EXC is currently making is not being supported by current energy prices. The decreases in both energy prices and decreases in demand have caused EXC's margins to slump substantially. Overall net margins in the past 18 months have continued to decline.
- 2010 Net Profit Margin: 13.75%
- 2011 Net Profit Margin: 13.18%
- Q2 2012 Net Profit Margin: 4.85%
These declines in margins have continued to hurt both the company's overall quarterly EPS growth as well as its free cash flow. EXC's annual earnings growth has continued to decrease over the past two years. In 2010 the company generated $2.56 billion, while in 2011 it generated only $2.49 billion, a 2.73% decrease from the prior year. This decrease in earnings power has been an ongoing trend and has continued into 2012. The firm's CFO even stated last week that he did not see the trough in free cash flow to happen until the 2014-2015 timeframe. Consequently, all of this negative news coming out of EXC in recent weeks has spurred a wave of downgrades on the stock.
The banks issuing these downgrades have lowered the stock's price target from $38 per share to $31. The firm's previous EPS estimates were lowered from $2.85 to $2.77 for FY 2012 and from $2.86 to $2.56 for FY 2013. The downgrades primarily revolve around the retail margin compression and the overall weakness being seen in power prices. I also tend to think that management is partly responsible for not adequately managing the company's risks, while at the same time not utilizing the firm's assets in the most effective manner.
In the past month, the stock has slid almost on a daily basis. On Aug. 13 the stock was trading for around $38 per share, and today it trades for around $34.50. This is a 9.21% decrease in price, while the S&P 500 in the same time period has increased by almost 2%. At its current price, the stock now trades for 14.25 times earnings and is at its 52-week low.
With EXC's recent downward swing, the question of whether EXC is approaching a reasonable valuation is something that I think is important to ask. To accomplish this, I think that a quick comparison of EXC's competitors would help in determining EXC's true value in relation to the sector.
Dominion Resources (D)
PPL Corp (PPL)
Public Services Enterprise (PEG)
NextEra Energy (NEE)
Duke Energy (DUK)
Note: Profit Margin represents Net Profit Margin current as of Q2 2012.
After examining EXC compared to some of its peers, I feel it is safe to say from a pricing multiple standpoint EXC's current multiple seems to be in line with the rest of the sector. EXC currently has EPS of $2.43, and the market is expected the company to generate somewhere between $2.86 and $2.56 for 2012. EXC did reaffirm its guidance on Aug. 1, saying that it expects to deliver on the higher end of the estimate range. If EXC is able to generate an EPS in that range and assuming that the current multiple is fair, it's safe to assume that the fair market value of EXC by the end of 2012 should be somewhere between $36.48 and $40.75.
Agreeing with all of the above mentioned assumptions, I feel that it's safe to say EXC at its current price point is trading in a range that would present real value. Not to mention that at its current price point, the stock is only trading $8 above its current book value. Compared to its peers, this tells me that EXC is definitely trading at an ideal price point, especially considering its current dividend rate.
At EXC's current price its dividend yield is by far the highest paying. EXC continues to work to position itself so that it can continue to meet this dividend obligation to pay this dividend for the next several years, even with margins currently contracting. Provided that EXC is able to ride out its current slow patch and return to normalized business operations -- meaning that EXC's management is be able to return the company back to its historic margin levels of 13.5% -- I feel that the dividend in the short term is indeed safe.