The Zacks Utility – Electric Power industry involves the process of generation, transmission, distribution, storage and sale of electricity to residential, commercial and industrial customers. Most of these companies are regulated and have operations in highly competitive markets. Demand for the services provided by utilities remains more or less steady, regardless of economic cycles.
Widely available coal once used to be the key source of electricity in the United States. However, courtesy of shale gas revolution and conscious efforts toward generating more electricity from clean sources, natural gas gradually replaced coal. Natural gas’ clean burning nature, vast availability and low prices are working in its favor. In addition, usage of renewable energy sources is helping utilities to replace coal from their generation portfolio.
Let's take a look at the industry’s three major themes:
- Utilities are focusing on adding energy storage projects to their portfolio and providing clean energy to customers. The industry participants are investing in battery storage devices that will boost the usage of more renewable fuel sources and lend support to the grid during peak demand periods. The U.S. Energy Information Administration (“EIA”) projects that utility scale battery storage capacity will increase over the long term. As of February 2019, 1,184 megawatt (“MW”) of battery storage projects was predicted to be added in the United States through 2023. EIA expects battery storage power capacity to exceed 2,000 MW by 2023, provided the currently planned additions are completed and no current operating capacity is retired.
- Electricity from clean sources is another key area of work. This is evident from the EIA release which states that total electricity generation per day in the United States will touch 11.209 billion Kwh (bKwh) per day in 2019 and will increase to 111.224 bKwh per day in 2020. Renewable sources are expected to contribute 18% of the production in 2019 and nearly 20% in 2020. The share of natural gas will be 37% in 2019 and 38% in 2020. Both renewable energy and natural gas continue to eat away share of coal in electricity generation.
- One of the most significant challenges facing the utility industry is its aging workforce and gradual decline in talent to replace its retiring workforce. Per a Department of Labor report, nearly 50% the U.S. utility workforce will retire in the next five to 10 years. With utility projects becoming bigger and more complex, there will be a need for employees with specialized knowledge in engineering and allied fields, which is lagging. Per the U.S. Department of Energy (DoE) Quadrennial Energy Review (QER) report, the utility electric power industry will need 105,000 new workers for the smart grid and in other development activities by 2030, but expects only 25,000 existing industry personnel to be interested in filling those positions. We expect this huge gap to create a bottleneck in the future development of the electric power industry.
Zacks Industry Rank Indicates Weak Prospects
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates weakness in the near term. The 64-stock Utility - Electric Power industry is housed within the broader Utilities Sector and currently carries a Zacks Industry Rank #163, which places it at the bottom 36% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are losing confidence in this group’s earnings growth potential. Since May 2018, the industry’s earnings estimates for the current year have been revised downward by 14.7%.
Before we present a few Utility - Electric Power stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and current valuation.
Industry Beats S&P 500 and Sector on Shareholder Returns
The Utility Electric Power industry has outperformed its own sector and the Zacks S&P 500 composite over the past 12 months.
The industry has gained 15.7% compared with its sector’s gain of 11.6% and the Zacks S&P 500 composite’s fall of 1% in the period.
One-Year Price Performance
Industry’s Current Valuation
On the basis of EV/EBITDA (Enterprise Value/ Earnings before Interest Tax Depreciation and Amortization) TTM ratio, which is a commonly used multiple for valuing Utility Electric Power companies, the industry is trading at 11.53X compared with the S&P 500’s 10.48X and the Utilities sector’s 11.92X.
Industry EV/EBITDA TTM vs S&P 500
Industry EV/EBITDA TTM vs Sector
In the past five years, the industry has traded as high as 11.75X, as low as 7.83X, with a median of 9.77X.
To Sum Up
Capital-intensive Utility companies are concerned about continued increase in interest rates. The interest rates have increased nine times since December 2015, which is in turn is increasing capital servicing expenses of these utilities and curbing their ability to pay out dividend. However, the Federal Reserve’s present stance to keep the interest rates unchanged is indeed good news for the utility space.
Moreover, cost control, new electric rates and customer growth should continue to help the players to maintain operational stability. However, an aging workforce and adverse weather conditions will be concerns for utility players.
At present, we have a few top-ranked stocks from the Utility Electric Power industry that have been witnessing positive earnings estimate revisions.
DTE Energy Company (DTE - Free Report) , a Zacks Rank #2 (Buy) stock, is headquartered in Detroit, MI. This utility has gained 27.8% over the past 12 months. The Zacks Consensus Estimate for current-year EPS has inched up 0.3% over the past 60 days to $6.20. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here
Price and Consensus: DTE
ALLETE, Inc (ALE - Free Report) , a Zacks Rank #2 stock, is headquartered in Duluth, MN. This utility has gained 10.1% over the past 12 months. The Zacks Consensus Estimate for current-year EPS has been revised 0.5% upward over the past 60 days to $3.63.
Price and Consensus: ALE
PNM Resources, Inc.. (PNM - Free Report) is a Zacks Rank #2 stock based out of Albuquerque, NM. This utility has gained 27.4% over the past year. The Zacks Consensus Estimate for current-year EPS has been revised 0.5% upward over the past 60 days to $2.16.
Price and Consensus: PNM
NorthWestern Corporation (NWE - Free Report) is a Zacks Rank #1 stock based out of Sioux Falls, SD. This utility has gained 36.4% over the past year. The Zacks Consensus Estimate for current-year EPS has been revised 5.6% upward over the past 60 days to $3.56.
Price and Consensus: NWE