Pinnacle West: The Peak of the Energy Pyramid

| About: Pinnacle West (PNW)
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Pinnacle West Capital Corp. (NYSE:PNW) is at the peak of the energy pyramid in Arizona. It is the holding company for the state's largest electric utility, Arizona Public Service [APS], which transmits and distributes electricity to more than 1 million residential, commercial, and industrial customers throughout most of the state. The utility also has 4,000 MW of generating capacity. Through APS and other subsidiaries, Pinnacle West markets wholesale and retail power in the western US and offers energy-related services. The company also develops and manages real estate.

There's also a very healthy and rather safe dividend that goes along with investing in PNW. It's $2.00 a share for a yield of 4.2%. The dividend payment requires about 60% of the net profits. And those profits are projected to grow at an average rate of 7% a year for the next 5 years.

Last year, the earnings per share were $2.24. This year, expect $3.35. Next year, look for $3.60. Revenues should move up as well. Last year the company did $2.9 billion in sales. This year, they should be $3.46 billion. Next year, expect $3.75 billion. Analysts forecast sales to grow, on average, 5.5% a year over the next 5 years.

PNW's earnings are benefiting from a number of recent developments: power supply adjuster increases that total $259 million which took effect in early 2006; a rate hike in March of 2005 of $75.5 million and the end of losses from the sale of a gas-fired unit. Even with higher fuel costs resulting from a nuclear plant outage, analysts are estimating a 50% gain in this year's earnings to $3.35. There is a pending rate case that will take effect on January 1st that should add to earnings. PNW requested a hike of $439.9 million with almost $300 million of the request allocated to increased fuel and purchased power costs and modifications in a previously approved power supply adjuster.

Some other numbers to ponder: the stock has held steady between $38.30 and 48.90 for the last 2 years. The outcome of the rate hike request in January may be the catalyst that breaks the stock out of that range. However, if the adjustment is much less than requested, the stock could be holding for a while. The dividend has gone from $1.63 in 2002 to its current level of $2.00 per share with increases coming every year. Look for another one next year, most likely to the $2.13 level. Return on shareholder's equity is a healthy 9.5% this year, up from 6.5% last year.

PNW has a state [Arizona] that needs a lot of electricity, especially in the spring and summer. The company has planned for increased demand by having outside providers submit offers for baseload capacity of 100 mw to 500 mw per unit. PNW also operates 3 of the 103 nuclear reactor units in the United States. One of them, the Palo Verde unit, the largest nuclear plant in the U.S., has been having problems.

The Palo Verde plant in Arizona had already come under scrutiny after a series of operational problems in the past two years that caused prolonged outages. The outages have cost at least $45 million to buy power on the open market to make up for lost generation. "They have had a problem with human performance, and in properly identifying problems and finding resolution" over the past few years, said Nuclear Regulatory Commission spokesman Victor Dricks, referring to APS. While Dricks said the NRC may put Palo Verde on extra watch, the plant is not a danger to public safety and is operating safely.

As usual, there's plenty to investigate with PNW. With its strong revenues and profits as well as an increasing dividend, it's a stock worth most investors' time. But there are some concerns as well that may cause some investors to wait for the January announcement or ignore it because of the nuclear plant issues.

PNW 1-yr Performance Chart
PNW 1 yr perf. chart