Wolfe Research Senior Utilities Analyst, Steve Fleishman, hosted a webinar examining the earnings season preview and latest sector views.
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Utilities should largely reaffirm their 2017 outlooks despite a mild start to the year. We expect the quarter to be up 2.1% in spite of warmer weather in most regions. Key issues to watch will be 1) updates on SCG and SO new nuclear decisions which are likely to still be in flux; 2) ES, AGR and others reactions to the Court remand of FERC ROEs and how the accounting will work; and 3) commentary on key legislation in MO (AEE, GXP), CT (D) and Ohio (FE). The latest views on tax reform and M&A (after two recent deal rejections) will also be of interest.
HIFR has faced uncertainty over its rate case, which will determine whether the utility REIT structure can continue in TX and how much tax savings will be shared with customers. We have been on the sidelines since March 2016 when the case was filed. But with HIFR on the verge of a resolution in the case, we see a positive risk-reward skew and are comforted by HIFR’s underlying low risk, high quality assets, which are 70% transmission in TX, and the rest distribution in TX. We upgrade HIFR to Outperform.
NextEra Energy Partners remains one of our best ideas. Even though it has done well this year we still see significant upside from here. It has 12-15% distribution growth potential well into the next decade with long term locked up contracts, the strongest parent in the yieldco space, and a low IDR that further boosts cash distributable to LPs in the long term. Finally, we believe that with NEE’s acquisition of Oncor rejected by regulators, the capital recycling benefits of NEP is even more important. Despite this NEP trades at a meaningful discount to MLP drop-down stories (see our recent report on NEP vs. MLP valuations), and we believe the market still underappreciates its combination of long-term growth and portfolio quality; Outperform.
On its Q1 call NextEra was more vocal in its expectation that it could achieve EPS growth at the top end of the 6%-8% range through 2020 without Oncor. Despite the disappointment of likely not getting Oncor in the end, the growth outlooks for both the Florida utility and the renewables business are about as good as ever. NEE combines one of the best balance sheets with one of the best growth outlooks in the sector; reiterate Outperform.
Earlier today (4/19/17), the KCC voted 3-0 and issued an order rejecting GXP’s proposed acquisition of WR. Language in the order was quite clear – “the purchase price is simply too high” and there would be substantial stress/risk placed on regulators and customers given the financial outlook of the pro forma company. GXP now has 15 days to file for rehearing and if so the KCC would have 30 days to respond. At this point, we consider the odds of resurrecting the deal to be 25% or less. In all likelihood, GXP will decide to walk away and unwind merger financing.
On 4/19/17, PPL and key intervenors filed a settlement in the KY rate case, which was an overhang on the stock and the last planned rate case reflected in its 5-6% EPS growth target through 2020. Assuming the deal is approved, the remaining overhang is the GBP. But even that risk has moderated, as the rate hits levels not seen since October ($1.28). The deep discount on PPL is unwarranted and we reiterate our Outperform.
The KCC is statutorily required to rule on the WR acquisition by 4/24 (next Monday) and has set a "special business meeting" on the merger for tomorrow (4/19/17) at 4:30pm EST. The deal has the political backing of Governor Brownback and Wichita Mayor Longwell. However, KCC Staff and many other intervenors are staunchly opposed. The KCC could approve the merger with GXP’s proposed conditions, outright reject the merger, or attach stipulations to a conditional approval. The first two scenarios should result in GXP stock price outperformance. That said, the latter scenario is most likely, thus the details of those conditions will be important.
Late last week, DoE Secretary Rick Perry ordered a 60-day review of the electric grid (link), with a particular focus on reliability risks tied to the increase in renewables and decrease in baseload power (coal/nuclear/gas/hydro). Specifically, Perry is seeking to determine the extent to which regulatory burdens and subsidies/tax policies are causing premature baseload retirements, and whether wholesale markets as currently designed are adequately compensating baseload power. This still appears in its early stages, but could have important implications for coal/nuclear power. Presently, coal plants (and unsubsidized nukes) have continued to shut, while “Zero Emissions Credits” have been pursued at the state-level to compensate nuclear plants. To the extent there is defined support for these two sources of power on a federal level, market dynamics could change meaningfully. Perry asked his Chief of Staff to initiate the study this Wednesday. More details are expected in the coming weeks.
On Good Friday (4/14/2017), the Appeals Court for the D.C. Circuit surprisingly vacated FERC's 2014 order that lowered the New England transmission base ROE to 10.57% from 11.14% and capped the total ROE (including incentives) at 11.74%. The Court ruling also remands the case to FERC, where three new, Trump-appointed commissioners are expected this year. The Court said FERC failed to show the previous ROE was not just and reasonable, and did not "articulate a satisfactory explanation" for its methodology.
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