What Does History Tell Us About Consolidated Edison’s Valuation?
Shares of Consolidated Edison have previously traded at a valuation comparable to today’s mark. This article looks at what happened then, noting that while the P/E ratios are similar, today’s dividend yield is lower. In the end it comes down to your expectations, but it appears as though shares of ED are exchanging hands at the upper end of their historical range. Shares of Consolidated Edison (NYSE: ED ) increased in price by about 19% during 2014 — moving from $55.28 at the beginning of the year to $66.01 at year-end. If you add in dividends received, equating to $2.52 per share , your total return would have been roughly 24% — a full 10% higher than the S&P 500 index (NYSEARCA: SPY ). Despite the strong underlying business, this wouldn’t be something that you would expect moving forward. Utilities don’t routinely provide market-beating returns, at least not year-in and year-out. During the past 12 months the company reported earnings per share of $4 . With today’s share price around $68, this translates to a P/E ratio nearing 17, a dividend yield of 3.7% and payout ratio of 63%. The valuation approached similar levels during 2012 and 2013, but really you have to go back to 2007 to make a reasonable historical comparison — one or two years of history isn’t as telling as eight might be. At the end of 2006 the company reported adjusted earnings per share around $3 . During March of 2007, shares were changing hands around $51 resulting in a trailing P/E ratio near 17 — much like today. The dividends declared that year equaled $2.32, for a dividend yield of 4.6% and a payout ratio near 80%. Today the dividend yield and payout ratio is lower, but has a similar earnings multiple. So how did things end up for the investor of 2007, partnering with the company at a higher valuation and lower dividend yield than what was recently available? As previously mentioned, the stock price went from $51 to $66 — a 29% total increase or an annual increase of about 3%. Here’s a look at the dividends received: 2007 = $1.74 2008 = $2.34 2009 = $2.36 2010 = $2.38 2011 = $2.40 2012 = $2.42 2013 = $2.46 2014 = $2.52 Note that this particular investor would have missed a dividend payment in 2007 due to the March purchase date. In total you would have collected $18.62 per share in dividends for a total value of roughly $85 or a 6.8% annualized compound return. Earnings per share grew by nearly 4% over this time, while the dividend grew by just over 1% per year. Shares would have traded at roughly the same beginning and end P/E, which means the return was a function of earnings growth and an above average dividend. If the company is able to grow earnings and dividends by a similar amount moving forward, you might expect returns to be in the 6% to 8% range — quite reasonable for a slow growing utility with a steady eddy dividend. However, these assumptions are based on the same historical growth and the same future earnings multiple. Let’s look at different possibilities to get a better feel for where shares to stand today. Although Consolidated Edison has previously traded with a similar valuation as it does today — call it 17 times trailing earnings — it hasn’t traded much higher than this, at least not in the last few decades. So it wouldn’t be especially prudent to suggest that shares might trade at 22 times earnings next year or something of the sort. It’s possible, sure, but that wouldn’t be a particularly cautious expectation. Instead, you might imagine that an earnings multiple closer to 14 or 15 would be more appropriate — as has been the historical norm. Analysts are expecting intermediate-term earnings growth to be in the 2% to 3% range — let’s call it 3%. While the dividend could grow at a faster rate, the company’s recent history isn’t especially impressive in this regard. For illustration, let’s use a dividend growth rate of 2%. If the dividend per share were to grow by 2% annually, this could mean collecting 20% of your original investment in the form of dividends within five years. However, 3% earnings growth and future P/E of 15 would mean that the share price would effectively stagnant. As such, your total return expectation would be entirely dependent on the dividend resulting in roughly 4% returns on an annualized basis. Of course all of this is speculation — Consolidation Edison could grow much faster or even slower in the future. However, using information like this can better prepare you for making financial expectations. In a reasonably rosy “good case” an investor of today could see total annual returns in the 6% to 8% range. These returns are dependent on shares either trading with a higher than normal P/E ratio or else seeing the business perform better than expected. Your base case would be 3% to 5% yearly returns, effectively collecting the dividend payment along the way. This payment would be expected to grow — as it has for the last 40 years — albeit at a relatively slow pace. Finally, a downside case — say 1%-2% earnings growth and a 14 P/E — might indicate yearly returns of just 1%-2%. Whether or not today’s price is “too high” for Consolidation Edison is up to you, but keep in mind that its more difficult to “grow out of overpaying” for a slower growth utility. What does history tell us about Consolidated Edison’s current valuation? By starting with a higher earnings multiple, it’s possible to see reasonable returns in the future but not altogether prudent to expect them.
