Alliant Energy (NYSE:LNT) is a utility company that serves approximately 950,000 electric customers and 410,000 natural gas customers. It is a growing company with 13 years of dividend growth that is currently priced to make it a good value.
Is LNT a good investment partner?
I have 4 areas that I examine for each company to see if it will make a good investment partner. My checklist consists of the following: A growing market, growing profits, good credit and well-managed debt, and a growing dividend that is supported by earnings. And an implicit 5th requirement is that the company cares about these things too and makes an effort to show me how well it is doing in these areas. For LNT, I found what I wanted in this presentation, read the whole thing, and below I include the slides that support my analysis of each checklist item.
These first two slides address the market item on my checklist. Iowa and Wisconsin are not the economic star that is Texas, but they are doing okay. And supplying gas and electricity to these areas is a good solid business with their very cold winters and warm summers. Coupled with the 6% and 11% rate base increases through 2019, for WPL and IPL respectively, the second slide shows a growing revenue base.
This slide addresses the profits item from my checklist. I see that they struggled to raise earnings in 2015, but that both before and after earnings increased at a rate in the upper single digits. I also like that the dividend increases were smoother than the earnings increases while keeping pace with them.
For utilities a good first step in increasing profits is to increase the base rate. The slide above shows how LNT is doing that for both IPL and WPL segments. This slide provides data to support growing earnings in the future.
The slide above addresses future growth in profits. Going forward coal plants are going to be more expensive than they were in the past. Despite the new Trump administration not being as hostile to the use of coal as the outgoing Obama administration, there are still growing pollution requirements that will make coal plants more costly. Since the coal plants tend to be older, they are more likely to need replacement or upgrades in the future, both of which will require more expensive pollution controls than the older plants they would replace.
Coupled with natural gas being so cheap, it just makes sense that the use of coal plants will decline. LNT seems to have a fairly natural plan for new plants that blends political requirements and economic gain to grow natural gas and renewable generation while allowing attrition to shrink the other areas.
From this page on the company website, I can see that the mean EPS growth analysts predict is 6%. This number will help figure out the dividend growth rate that I will use to get a value for the shares.
This slide shows how LNT is managing its debt. It has a fairly large amount of debt coming due in 2017 and has plans in place to refinance most of it and pay some off with an equity raise. It also has plenty of liquidity for short-term needs.
Next up is a slide that shows LNT's credit ratings by segment. Investment grade credit rating is important in keeping finance costs down, and LNT has that. The ratings also indicate that the rating agencies think LNT has a good plan in place to manage debt and see no problems on the horizon. Both the ratings and that I didn't have to hunt for them or go to a third party are plusses.
Part of handling debt in a responsible and sustainable way is to spend money where it makes the company money. The slide above shows that LNT has targeted its capital spending at projects that will drive rate-based growth.
Next LNT shows us that they are building new gas plants to cover both load growth and retiring plants. This again shows a plan to spend money to address long-term needs. The fact that the Riverside expansion won't even come on line till 2020, shows why I don't think the new Trump administration will have a huge impact on utilities' long- term plans. Note that each of these plants has a 4-year gap between project approval and going on line. In just a few years' time, this means that any new projects will not come on line till after the latest possible extension of the Trump administration.
Looking at the CCC List, I can see that LNT has grown its dividends for 13 years. I like 10 years of growth and require at least 5 with no cuts, so 13 years is a nice bonus. From an earlier slide, I can see that since 2013, the company has raised the dividend 8 cents each year. Also from the CCC List, I can see that the current payout ratio is 77.60%. While that does give some room to raise dividends if earnings falter, it's not a lot of room, so I won't expect dividends to increase faster than EPS.
What's a good price?
To figure out a good price (remember this is not a forecast of where the share price is heading but just a price at which the future dividend payments represent a good value), I do a DDM calculation using my Excel®-based DDM calculator (pictured above, you can see the web-based calculator I based it on here and read a discussion on how the formulas were developed here).
For LNT, I use the 6% forecasted EPS growth rather than the minimum past DGR rate (using 6% instead of the 6.7% lowest DGR rate from the CCC list results in the price I want being lower by $1.30) as well as the current dividend payment of $1.18. Using the usual numbers for analyzing utility companies, I calculate a PV of the dividends of $40.91 and use a target price of $41.
That may be a bit on the conservative side, but I think it's reasonable to be that conservative because a utility growing its dividends by 6% is pretty aggressive for most utilities. Morningstar does rate it as 2 stars (meaning that it is overvalued) and gives a fair value number at $34, so averaging the dividend PV and Morningstar's number still gives a price of $37.50. With the current market price being about $37.50, I think LNT is still a buy even with a more conservative estimate of price.
Can options help?
Given that Morningstar has a fair value number so far below my estimate of the PV of the dividend stream, I would like to use options to get a better deal.
Options seem to be lightly traded for LNT so care must be taken to use only limit orders so you don't get an unpleasant surprise. I had to go out to the April expiration date to get reasonable premiums (that isn't as far as it seems, for offered dates, April was the next date after February).
The $35 strike put for April expiration looks like it has a reasonable premium and that price is about what Morningstar says is fair value. While the chance to get assigned the shares at that strike is a bit below 1 in 3, the premium even after commissions is more than the prorated dividend.
I wouldn't write a covered call for a strike any lower than $42.50, but even at that the premium is somewhat low. It's probably not worth the risk of getting the shares called away unless your commissions are very low or you have several hundred shares so you can write multiple contracts. And again, only use a limit order, with such a lightly traded option, it's far better to not get the contract than to risk your shares for a premium that might not even cover the commissions.
LNT has been on my radar for quite some time, since it is part of David Van Knapp's DGP portfolio that he writes about here. David and his DGP portfolio was a major factor in convincing me that dividend growth was a viable way to invest for retirement. I was pretty sure that LNT was a good investment because David had held it for a long time, but one motto of dividend growth investors (and really of all investors) is "Trust but Verify."
And that applies to me as well. If I have persuaded you that LNT is a good investment partner and that it is selling at an attractive price, you need to do your own analysis applying the metrics that match your investment goals to determine if LNT is a fit for you.
I do not currently own LNT but may purchase it soon just not in the next 3 days. I rolled by $117 January 27th call on CVX out to a $116 February 10th call, and I still expect the shares to be called away. So rather than having a bunch of cash available at the end of January, I now will likely have that cash early in February. I have a bunch of stocks on my watch list and will likely buy 2 or even more as I will have something like $11K to spend.
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Disclaimer: This article is intended to provide information to interested parties. As I have no knowledge of individual investor circumstances, goals, and/or portfolio concentration or diversification, readers are expected to complete their own due diligence before purchasing any stocks mentioned or recommended. The price I call fair value is not a prediction of future price but only the price at which I consider the stock to be of value for its dividends.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.