Utilities rose only 0.9% in April, while the market rallied another 3.9%. Utilities are now underperforming the market by roughly 670bps YTD; they have given back their entire 2018 outperformance. So, what should investors do now? The stock market rally in 2019 is becoming historic - this is only the 3rd time in the last 40 years the S&P 500 rose more than 15% in the first 4 months. One of them ended badly - the 1987 crash during which utilities outperformed. The other year was 1983 - the market flattened out the rest of the year while utilities continued to underperform. We also looked at years where utilities underperformed 650bps or more in the first 4 months as well. This has happened 16 times in the last 40 years. Interestingly, 10 of those 16 years utilities continued to underperform into year-end by an overall average of 200bps.
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AGR continues to struggle with inspiring investor credibility and Q1 results did little to change that narrative. The company reported EPS of $0.71 that missed consensus/us at $0.80/0.79. The disappointment was primarily driven by far weaker than expected wind conditions (-17% vs. normal) and winter weather that caused ice on turbines forcing shutdowns. While AGR was able to reaffirm guidance at $2.25-2.40, the Renewables segment was revised lower; offset by a one-time tax benefit at the Corporate segment.
AGR held an investor update today (2/26/19) – re-basing off a lower 2018 ($2.21), but still targeting 8-10% EPS growth through 2022. The bar was relatively low after pointing to ongoing headwinds on its year-end call last week, but the update fell short in our view. The implied 2021E assuming linear 9% growth ($2.86) was still light versus consensus/us after downward earnings revisions last week. We can appreciate the shift to several more conservative assumptions across the utilities / renewables business that pressured the long-term outlook. However, 2022 guidance was effectively lowered by $0.35 at the midpoint relative to last year’s Analyst Day, even with the inclusion of the positive earnings impact from NECEC and Vineyard Wind. The stock fell by 100bps on the disappointing update, but given AGR’s history of missing forecasts (see Exhibit 5) and the mega-project risk, we remain Underperform-rated.
AGR had a rough go today (2/19/2019), underperforming the utilities index by 574bps. The company reported 2018 adjusted EPS of $2.21 – missing consensus and the low-end of guidance, but more importantly issued 2019 EPS guidance ($2.25-2.40) that badly missed us/consensus. Key drivers were utilities storm costs and a recalibration of renewables capacity factor assumptions. The lingering effects of these items indicate AGR’s 8-10% long-term growth target is likely in jeopardy at next week’s Analyst Day. We continue to have concerns about a company that consistently revises its earnings outlook (usually lower), while operating a core utilities / renewables business, but is stepping further out on the risk curve for transmission / offshore wind mega-projects. Underperform.
We hosted our annual investor meeting with the Moody’s team to get their latest credit views on the utilities, power and midstream sectors. For utilities, things have quieted down (ex California) as tax reform impacts have largely played out as expected. FFO/D metrics have dropped 150-200bps on average due to lost deferred tax cash flows and currently sit in the 15-16% area and likely stay there. Companies have taken actions to support their metrics (lot of equity) and have better visibility on regulatory treatment of tax reform. So 2019 is about executing on plans, hitting metrics and sticking to balanced funding plans (ie more equity). Moody’s still has a negative outlook on the sector but will likely go back to stable with good 2019 execution.
PCG’s threat and subsequent filing of bankruptcy kept utility investors very occupied in January. Even if investors did not own PCG itself they had to deal with knock-on effects on other CA utilities like EIX and on the renewables suppliers NEE, NEP, CWEN, ED, etc. These names dominated the worst performers of the month and were part of the reason why utilities only rose 3.4% in January trailing the market rally by 450bps.
PCG’s impending bankruptcy will impact a wide swath of companies especially renewables suppliers. These include large ones investors are aware of (CWEN, NEE/NEP, ED) and smaller ones not so obvious (NRG, DTE, likely others). For the other CA utilities, EIX and SRE, investors will be focused on what this means for getting long-term fixes for wildfire risks. Project risk continues to rear its ugly head as we have seen with ACP pipeline delays. Key updates this quarter include D/DUK on ACP, SO on Vogtle, AGR on NECEC and Vineyard Wind, and SRE on Cameron. Pension risk (and OPEBs and NDTs) due to the Q4 market swoon and drop in rates could hurt as D highlighted recently. NI, ETR and others may face some headwind.
Can utilities keep the defensive rally going? We’re skeptical. Utilities beat the market by 1500bps in Q4 2018 and outperformed 670bps for the year. This may continue near term given a host of negative macro signals, but these big defensive utility moves have historically been good times to take profits in the group.
Our utility financial “checkup” examines projections for utility balance sheets and credit metrics. Tax reform was the overarching theme in 2018 for utility balance sheets and precipitated a large portion of the equity deals completed this year; in total, we saw +$19B completed across our coverage via blocks, forwards, or internally. Since our mid-year review, we now project slightly better FFO/debt in 2020 (+0.5%) due to equity issuances and asset sales. EV/EBITDA is now a half-turn higher given the run-up in equity valuations. Overall, we continue to see utility financial metrics stagnating with higher leverage at certain companies leading to wide P/E dispersion.
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