Just Energy (JE) (TSX:JE) delivered a mediocre quarter with a 3% decline in its base EBITDA. The company saw three straight quarters of net customer loss since its Q1 F2019. On the other hand, Just Energy’s payout ratio remains high and it also has a high debt to EBITDA ratio. This may mean a dividend cut some point down the road in order for the company to improve its balance sheet. Despite its 9.4%-yielding dividend, we think investors may want to wait for a clear signal of a turnaround.
Data by YCharts
Recent Development: Q4 Fiscal 2019 Highlights
Just Energy delivered mediocre Q4 F2019 earnings. The company saw its sales increased by only 1% year over year to C$1.024 billion. This was despite a significant increase in its rates several quarters ago. Apparently, the growth was offset by a declining customer base. Operating expenses increased considerably in the past quarter due to 3% growth in administrative expenses as well as 15% increase in selling and marketing expenses. As a result, its base EBITDA declined by 3% year over year to C$68.8 million in Q4 F2019.
Source: Q4 F2019 Earnings Release
A number of parties are interested to buy Just Energy
Recently on June 6, 2019, Just Energy announced that it will start a strategic review to consider what is the best choice for the company to move forward. Management indicated that there are interests from a number of parties that may want to consider potential transactions involving the company. More details will be announced later on. As we will see from the next section, to be purchased by another buyer may be the best solution for Just Energy moving forward.
Earnings and Growth Analysis
Despite its attractive dividend, we believe Just Energy is a hold for the following reasons:
Rate increase quickly resulted in net customer decline
Although Just Energy improved its gross margin and EBITDA significantly, its strategy to increase its rates a few quarters ago has resulted in three consecutive quarters of net customer declines. In the past quarter, the company lost 44 thousand customers. For its whole fiscal 2019, Just Energy lost 79 thousand customers. As can be seen from the chart below, its net customer loss accelerated in Q4 F2019.
Source: Created by author; Company Reports
We believe Just Energy needs to demonstrate its ability to continue to add more customers to its customers base in order for its EBITDA growth to be sustainable. Otherwise, its EBITDA growth due to rate increases will be offset by net customer losses. Just Energy’s net customer losses in the past two quarters also show how vulnerable its business is; rate increases can quickly result in customer losses. This vulnerability is also evident in Just Energy’s renewal rate of only 59% in F2019.
Source: Created by author; Company Reports
Elevated debt level may mean dividend cut in the future
Just Energy paid its shareholders total dividends of C$88.1 million in F2019. We do not anticipate this number to change much as its shares outstanding should remain more or less the same in F2020. This dividend should remain safe if management can achieve its free cash flow guidance of C$90 Based on its 2020 free cash flow guidance of C$90 ~ C$100 million in F2020.
2020 EBITDA Guidance
2020 FCF Guidance
C$220 ~ C$240 million
C$90 ~ C$100 million
Source: Created by author
However, the high payout ratio means that the company will not have much cash left to reduce its leverage and improve its balance sheet. Its net debt to EBITDA ratio of 3.6x at the end of its F2019 was significantly higher than the ratio of 2.8x a year ago. Because of its high payout ratio, we do not see how the company can significantly reduce its debt any time soon. Therefore, we anticipate Just Energy’s debt level to remain quite elevated in F2020. In fact, we doubt management can reduce its leverage to its target of below 2x in the next few years if it continues to pay this level of dividend. Perhaps a dividend cut is necessary if it wants to reduce its leverage quickly.
No advantage over its peers
Finally, we do not see how Just Energy can maintain a sustainable competitive advantage over its peers. Yes, its customers may have to continue to use its services until their contracts are over. However, once their contracts are over, Just Energy have no real weapons to prevent their customers from switching to its competitors unless it can offer better services and lower fees than its competitors. There are also many companies who wants to enter the field of smart-home and offer multiple services that Just Energy is currently offering. For example, Enercare, which rents out water heaters to its customers, is also introducing its smart-home solutions. Telecom companies such as BCE (BCE) and Telus are also aggressively promoting its smart-home services and offer discount prices to those who already uses their wireless or Internet services. Therefore, we believe competition will be quite intense and will not get any easier for Just Energy.
Shares of just Energy are currently trading at a forward EV to EBITDA ratio of 6.2x. (see chart below). This valuation is significantly below its valuation of over 9x in 2017. Just Energy’s EV to EBITDA ratio lower than Parkland Fuel (OTCPK:PKIUF) and Superior Plus (OTCPK:SUUIF). Given the much better growth outlook of Parkland Fuel and Superior Plus, we think these differences are justified.
Data by YCharts
Attractive 9.4%-yielding dividend but perhaps a dividend cut is necessary
Just Energy currently pays a quarterly dividend of C$0.125 per share. This is equivalent to a dividend yield of about 9.4%. Despite the fact that its dividend is safe with a sustainable payout ratio, we think the company may need to cut its dividend due to its elevated debt and high payout ratio. The high payout ratio means that Just Energy will have little cash left to repay its debt and lower its leverage to an acceptable level. Given the fact that its business is also declining, we believe it may be better for Just Energy to cut its dividend and to improve its leverage.
Data by YCharts
Risks and Challenges
Just Energy faces several risks:
Just Energy has an exposure to supplier risk as the ability to deliver energy to its customers is reliant upon the ongoing operations of its suppliers and their ability to fulfill their contractual obligations.
Commodity price risk
Since many of Just Energy’s customers have long-term fixed and natural gas and/or electricity contracts, a significant spike in energy prices (e.g. due to severe winter season) can have an adverse effect on the operations and cash flows.
Foreign currency risk
Due to its growing operations in the U.S. and Europe, Just Energy is expected to have more exposure to foreign currency fluctuations in the future. Just Energy may experience losses resulting from fluctuations in the values of its foreign currency transactions.
We are cautious about Just Energy because we believe there is still a long road ahead for management to turn around its business. Meanwhile, management needs to continue to find ways to reduce its leverage. This may mean a dividend cut at some point down the road. Therefore, we feel investors should wait on the sideline until a clear signal of a turnaround.
Additional Disclosure: This is not financial advice and that all financial investments carry risks. Investors are expected to seek financial advice from professionals before making any investment.
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.
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