On Friday (03/15/19), Dominion and Connecticut governor Lamont announced a settlement on a contract that would allow Millstone to stay open. The contract is for ten years and 9 TWh per year (over half of the plant’s output). Pricing was not disclosed but according to the company it is above the current forward curve (recall that CT’s first proposal was approximately market pricing for the first 3 years). The outcome means modestly higher earnings but still within D’s current guidance. More importantly it de-risks over half of Millstone’s output.
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On Monday (2/25/2019) the Fourth Circuit Court of Appeals denied an en banc hearing for the court's previous rejection of Atlantic Coast Pipeline's Forest Service permit. The court did not give a rationale for the denial. Dominion will now need to pursue other avenues to resolve the legality of crossing the Appalachian Trail, and this will almost certainly delay the schedule further. Moreover, the denial remains a specter for Mountain Valley Pipeline and ETRN/NEE, which will ultimately need clarity on this matter as well for its completion.
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.
After market close, ISO-NE released the results of the June 2022 – May 2023 capacity auction. The system cleared at $3.80/kW-month with no regional premiums. This was down vs. $4.63 last year and represented the fourth consecutive decline in year-over-year capacity prices. The result was at the lower-end of our range of expectations ($3.75-4.75). We expected a YoY decline given the FERC fuel security order allowing EXC’s Mystic units to bid as price-takers and the lower dynamic de-list bid threshold ($4.30 from $5.50). The continued additions of renewables and EE/DR also likely contributed. As a result, we see YoY declines in New England capacity revenues in 2022 for our entire coverage list. The impact is not really meaningful however – representing at most 1% of each company’s total EBITDA. Attention now shifts to the much more important PJM auction that is still awaiting FERC action on subsidized resources and now seems at risk of even further delays beyond August.
On its YE2018 earnings call Dominion introduced 2019 EPS guidance of $4.05-$4.40, the midpoint about in line with consensus, ahead of our $4.16E and better than many investors feared. There were a couple hitches on the call – another cost increase and delay at Atlantic Coast Pipeline and the disclosure of planned convertibles in 2019 (though we are OK with this). Overall we see the stock trading at a discount to the group, and while it looks a little cheap this is understandable given the ACP project overhang. Peer Perform.
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.
Dominion points to lower half of 6%-8% EPS CAGR even with SCANA. During the trading day on Thursday (01/10/19) Dominion released an updated investor slide deck. In the slides the company indicated that recent headwinds have pushed EPS growth to the lower half of their 6%-8% range through 2020 off a $3.65/sh 2017 base. This would imply 2020 EPS of about $4.40 assuming a CAGR of 6.5%, below consensus of $4.48; our current 2020E is $4.39. This was disappointing relative to expectations that were biased higher given the accretion from the recently closed SCG acquisition and the stock underperformed the UTY by 1.8% on the day.
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.
Utilities eked out a small 0.5% gain for 2018 on the heels of a massive Q4 rally as the market turned decidedly defensive ending the year down 6.2%. Utilities 670bps outperformance came despite a lot of headwinds on the group including higher interest rates (10-yr up 23bps), lack of tax reform benefits, over $15B of equity issuance, and the CA fires impact. Investors were looking for any place to hide and utilities fit the bill especially given their lack of exposure to tariffs and recession fears. Utilities came in second among income sectors for the year trailing only Pharma which was up 5.2%. Interestingly, all other income sectors underperformed the market in 2018 (see Exhibit 1). We remain cautious on utilities going into 2019 given their heavy dependence on a negative macro call and very high relative valuations (20% adjusted P/E premium vs the historic avg of 3%). In our view, buying defensive sectors at historically large premiums is not defensive.
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