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Strong Fundamentals The Name Of The Game For Southern Company

Summary SO’s fundamentals strongly backed by its hefty capital investment plan. The company is utilizing available growth opportunities in the U.S. utility sector to keep earnings growing. SO is actively expanding its renewable energy generation portfolio. The stock is a good investment prospect for long-term income-seeking investors. Utility companies have a defensive business model because of consistent demand and regulated business exposure, which make revenues and cash flows highly certain. In the recent past, utility companies are incurring capital expenditures, which have been weighing on their earnings and cash flows. Utility companies are making capital expenditures to strengthen their power generation infrastructure to keep up with the gradually increasing electricity demand and keeping up with the changing environmental regulation. According to the EIA, electricity demand in the U.S. residential area will increase by 2.1% in the second half of 2015. The report also confirms 1.3% and 1.2% rises in commercial and industrial sales of U.S. utility companies in 2016. The bright outlook of the U.S. utility industry makes me bullish about Southern Company (NYSE: SO ), which is one of the largest utility companies in the U.S. The company serves both regulated and competitive markets across the U.S. SO is making its way in the U.S. utility industry by regularly investing heavily in expansion and the development of its renewable regulated asset base. Also, the stock maintains its attractiveness for income-hunting investors, as SO offers a yield of 4.8%. However, on the valuation front, anticipated production cost overruns at Kemper is making it trade at a discount to peers, which I think provides a good entry point for long-term investors. The company has been reporting healthy financial numbers, due to the strong backing of its large regulated asset base. The company registered an EPS of $1.17 in 3Q2015, an increase of $0.25 per share from EPS of the previous year’s same quarter. And for the nine months ending September 30th, the company’s EPS was $2.30, as compared to an EPS of $1.88 reported in the same period a year ago. The earnings growth momentum of SO is expected to remain strong in 4Q’15, which as per management’s estimates, will yield it a year-end EPS of $2.88 per share, at the high end of the previously given annual EPS guidance range of $2.76 to $2.88. I consider the company’s capital investment plan for the creation of a strong renewable energy generation base as a key driver of its future earnings growth. Recently, SO has announced that it will invest $2.3 billion this year, higher than its previous expectations of $1.4 billion. Although there are additional projects under consideration for 2016, its management still expects to spend around $1.3 billion during the year. Year to date in 2015, the company has announced around 12 new renewable energy-related projects, which will add 1,000MW capacity towards its existing renewable portfolio’s current capacity of 1,600MW. SO has been actively acquiring solar facilities to grow its portfolio of renewable energy generation. The company continued to develop itself as a solar success story by acquiring the 300MW Solar Gen2 and the 300MW Desert Stateline projects from First Solar (NASDAQ: FSLR ). The acquisition being in line with SO’s business strategy of expanding wholesale business in targeted markets through the acquisition and construction of new units, will bode well for SO’s earnings growth in the long run. Moreover, the company is right on track to become the second largest gas utility in the U.S. by merging with AGL Resources (NYSE: GAS ). The merger is waiting for regulatory approval, expected in the second half of 2016, after seeking a nod from AGL’s shareholders. Upside of this merger rests in strengthening SO’s status as the regional powerhouse in southern U.S. Moreover, given the size of GAS, I believe the probable GAS-SO merger will boost overall earnings growth of the company by approximately 4% to 5%. More importantly, SO’s future earnings growth will be driven by the settlement of its Vogtle nuclear power plant. By keeping the nuclear power plants schedule on time, in-service dates of two nuclear power plants are expected to be 2019 and 2020. Actually, customer rate impact for Vogtle unit 3 and unit 4 is expected to remain in the previously predicted range of 6% to 8% , which will affect the company’s future earnings and free cash flow growth positively. Speaking of its clean coal power plant ‘Kemper’, which has been repeatedly delayed in the past few quarters, has resulted in stock valuation contraction. The stock is trading at a forward P/E of 15.34x , in contrast to the utility industry’s forward P/E of 18.85x . The management expects that the project will be operational from the first half of 2016, but in early October, the Mississippi Public Utilities staff analyzed the Kemper project and said that there is hardly a 30% chance that the project will be completed by December 2016. Given the fact that the company’s management has estimated a $25 to $30 million incremental cost, if the project is delayed in the second half of 2016, I believe the Kemper project will remain an overhang on the stock price in the near term. However, once the project is completed, it will augur well for the stock valuation. Furthermore, SO has an attractive capital repayment plan, strongly backed by its cash flows. In the current low interest environment, its current dividend yield of 4.80% , with its strong free cash flow growth potentials, is well headed to ensuring a safe and sustainable future of income investors, and casts an impressive outlook of the stock. Summation The company has strong business fundamentals, which are strongly backed by its hefty capital investment plan. In its attempts to keep its earnings growing, SO is utilizing the available growth opportunities in the U.S. utility sector. And for this, the company is actively expanding its renewable energy generation portfolio, which being regulated, offers huge earnings growth potentials. Owing to the strong growth potentials of SO’s ongoing renewable energy generation projects, I expect to see uninterrupted growth on its earnings and cash flows in the long term, which I think will help its shareholders to be satisfied by consistently increasing dividends. Therefore, I think the stock is a good investment prospect for long-term income-seeking investors.

(Non)-Correlated November

Depending on your perspective, November proved to be a rather correlated or non-correlated month. U.S. stocks and Managed Futures are the only two asset classes we track with positive results in November (likely from unique return drivers), while Long-Only Commodities continues to plummet, and Managed Futures is positive on the year. Those that know that Managed Futures can find return drives when the markets are moving up, down, and from various different sectors won’t be surprised to see that it was also able to make a +2.84% gain, when the iShares S&P GSCI Commodity-Indexed Trust ETF (NYSEARCA: GSG ) had another big downward move in November, down -9.03%, bringing the YTD performance to -27.34% (Disclaimer: Past performance is not necessarily indicative of future results) . As FT Alphaville points out, this is the 5th-worst November the index has ever had. Believe it or not, November 2014 was worse, as was its full-calendar year performance . As for the actual return drivers from Managed Futures in November, a trending dollar is Managed Futures’ friend . Many are speculating that if the Fed decides to raise interest rates, it could push the dollar higher, and in doing so, could give Managed Futures that extra help before the year draws to a close. Many are waiting to see what happens to the markets in December, pending the Fed decision. It will be a nail-biter to the end. (click to enlarge) (Disclaimer: past performance is not necessarily indicative of future results.) Source: All ETF performance data from Morningstar Source: Managed Futures = Newedge CTA Index, Cash = 13-week T-Bill rate Bonds = Vanguard Total Bond Market ETF (NYSEARCA: BND ) Hedge Funds= IQ Hedge Multi-Strategy Tracker ETF (NYSEARCA: QAI ) Commodities = iShares S&P GSCI Commodity-Indexed Trust ETF ( GSG ) Real Estate = iShares U.S. Real Estate ETF (NYSEARCA: IYR ) World Stocks = iShares MSCI ACWI ex-U.S. Index ETF (NASDAQ: ACWX ) US Stocks = SPDR S&P 500 Trust ETF (NYSEARCA: SPY )

Southwest Gas Corporation Is Dependent On The Construction Business

Summary After years of performance, the stock slumped in 2015. Investors didn’t like Q3 results due to poor outlook for the natural gas division. The construction segment has a secular tailwind at its back, but there is no telling when it will go away. Southwest Gas Corporation (NYSE: SWX ) is a utility company that specializes in natural gas distribution and construction. It’s primarily services customers in Arizona, Nevada, and California. The company is the largest distributor in Arizona and Nevada. With its scale and the relative stability of the utility business, the stock has steadily climbed throughout the years. In 2015 however, the stock has hit a bump. Year to date, shares have fallen by 10% from $61.81 to $55.70. The Business Let’s first talk about the natural gas division. It consists of the company’s distribution and transportation business. The majority of customers is made up of residential and small commercial customers, which accounted for 85% of the company’s operating margin (defined by the company as operating revenue minus the cost of gas, which is more similar to gross margin) in 2014. The other 15% is broken down into two parts: 4% from other customers and 11% from transportation. The transportation segment acts like a midstream company, transporting gas that is sourced by the customer instead of Southwest. Interestingly, although transportation only accounts for a tenth of overall operating margin, it does occupy a significantly larger portion of total system throughput. Transportation accounted for almost half of the total throughput in 2013 and 2014. This discrepancy between transportation margin and the capacity occupied by the transportation segment shows that the company can improve profitability if it can shift more of its business to distribution, which earns much higher profits. The other half of the business is the construction division. This segment’s main focus is on energy distribution related systems, so it acts as a complement to the distribution and transportation business. A typical project could be as small as maintenance or as big as piping the entire community, for that reason, earnings could be quite lumpy. Recent Performance It would appear that the market didn’t like the company’s Q3 results. After releasing earnings on November 4th, the stock has declined by 9% in a matter of weeks. Both segments continued to grow. While natural gas operations’ revenue declined from $226 million to $219 million, this was the result of lower gas prices in general. After subtracting the cost of gas, the natural gas segment’s operating margin increased from $153 million to $155 million. However, it should be noted that the company is not expecting growth in the natural gas division in the near future. The management stated during the Q3 earnings call that they believe future margin increases will be offset by higher expenses. The construction segment experienced higher growth, increase revenue from $206 million to $286 million. Can you count on the construction segment to hold up? Recently the segment benefited from higher demand for pipe replacement projects as the result of regulatory pressure by the U.S. Department of Transportation to enhance safety. While projects may continue to ramp up in the short-term, I don’t think that the construction segment can continue to perform at the current level over the long-term. Conclusion In the near-term, I believe that the stock can only recover if the construction segment continues to perform well. Because the outlook for natural gas operation is not great (i.e. no growth), the only way that the company can create value is by winning more contracts through the construction segment. The aforementioned secular trend of increasing regulatory pressure could help, but there is no telling when the increase in demand will fade away.