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AES Corporation – A Long-Term Bet

Summary AES is well-diversified Fortune 200 global power company. An early mover in the energy storage business, AES appears to have a good strategic focus. The company’s stock appears to be undervalued relative to its peers. Headquartered in Arlington, Virginia, AES Corporation (NYSE: AES ) is a $17b global power company, which makes it a Fortune 200 company. It owns and operates a diverse portfolio of electricity generation and distribution businesses. I think the company is a good long-term pick because of the following 3 reasons: Global Diversification The company’s electricity generation and distribution operations are spread globally across 18 countries. In terms of power generation capacity, only 12GW out of a total of 36GW is generated by the company in the US. The company’s operations in emerging economies should help the company achieve higher growth rates over the next few years. Its operations in US and Europe should provide relatively lower but stable growth for the company. Such global diversification helps the company mitigate risk. Overall, I would argue that this geographical diversification is a good strategy, though some would argue otherwise citing the foreign exchange risk and the political risk that comes inherent with such strategies. Looking at the last quarter revenues and profitability measure of the company’s different Strategic Business Units (NYSEARCA: SBUS ), two observations stand out – First, while Brazil contributed the highest revenues (34%) amongst all SBUs, its profitability share was only 6%. A major contributing factor to the low profit margins from Brazil was the unfavourable foreign exchange impact. Second, Europe is contributing disproportionately higher profits to the company compared to its revenues. Combined, these individual inconsistencies a part and parcel of the company’s strategy of global diversification. Strong Strategic Focus The company has a reasonably good corporate and business strategy in place. In the last few areas, the company has exited some “non-core” markets and recycled the sell-off proceeds. Since September 2011, the company has exited 10 countries and raised $3b in equity proceeds. In the markets where the company believes it has a competitive advantage, $7 billion worth of projects are in the pipeline. These are expected to be completed in the period from 2015 to 2018. (Source: AES Investor Presentation, May 2015, www.aes.com/investors/presentations-and-… ) AES has been an early mover in the battery-based energy storage business. With distributed energy gaining prominence, this augurs well for the company. Tesla (NASDAQ: TSLA ) was in the news recently for introducing batteries to manage energy needs. However, AES already has batteries operating in big battery farms on the grid (86 MW), some projects under construction (50 MW) and other projects in the late stage of construction (210 MW). AES also recently acquired Main Street Solar, which gives AES the capabilities to enter the distributed solar market, a future growth market. Undervalued Stock AES appears to be undervalued when we look at its P/E ratio and Price-to-sales ratio relative to some of its peers. If we were to base our judgment of the company based on these two ratios alone, AES should have been a strong buy. These two ratios for the company are amongst the lowest in the industry. However, another ratio the Price-to-book (P/B) ratio is amongst the highest in the industry, indicating the company is overvalued. Price-to-book ratio is definitely a good ratio to look at, especially when looking at capital-intensive businesses like AES. The reason for the high P/B ratio is the high levels of debt that the company has. The company had a debt-to-equity ratio of close to 5, which is relatively high, in March 2015. With high debt, its interest coverage ratio at that time was a not-so-healthy 1.83. So, although this would be an area of concern for some, I believe the company has the ability to navigate safely through this. This is based on the fact that these ratios have been in a similar range for AES before and the company has a sound business plan going forward. The company appears to be well-positioned for a decent growth in the next few years, according to the company guidance. The company has estimated the following for the future – the period from 2015 to 2018 – 10-15% annual free cash flow growth – 5% average EPS growth from – 10% annual growth in dividends – 8% average annual total return Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Xcel Energy Is Entering A Bear Cycle

Summary EPA regulations are making coal generation facilities more costly to operate than ever before this is hurting XEL’s bottomline. Natural gas markets are fluctuating, and XEL’s stock price is inversely related. Summer is a seasonal low for natural gas prices, and as NG prices rise, XEL will fall. Xcel is a public utility company that is entering a bear cycle. While the Company pays a solid dividend which yields around 4% , its the revenues are stagnating. The Company has seen average residential electricity rates rise from 10.84 cents in 2012 to 11.89 cents in 2014. As these rates rise higher, solar and distributed generation become more economically attractive. Further, the price for Xcel’s energy is unlikely to decline in the near future, as the Company will have to upgrade its coal-fueled facilities to keep up with government regulation. Additionally Xcel’s stock price is inversely correlated to the natural gas market, when natural gas goes up, Xcel goes down. So if you believe as I do, that natural gas prices will increase over the next few years, Xcel is a sell. Company Positioning: from the 10-K Xcel Energy (NYSE: XEL ) is a holding company with subsidiaries engaged in the utility business. These subsidiaries are wholly owned public utilities that serve electric and natural gas customers in portions of Colorado, Michigan, Minnesota, New Mexico, North Dakota, South Dakota, Texas and Wisconsin. (click to enlarge) from the 10-K Coal is Xcel’s largest fuel input for electricity generation, it represents 46% of Xcel’s portfolio. Natural gas is the second largest with 21% of Xcel’s portfolio. The third largest is wind, with 15%. The Company has decreased its exposure to natural gas generation with approximately a -2% decrease from 23% of the portfolio in 2013 to 21% in 2014. (click to enlarge) from the 10-K As you can see from the table above, Xcel’s two major fuel sources , coal and nuclear, have low costs. Risk Management: from the 10-K (click to enlarge) from the 10-K Stagnating Electric Sales: If Xcel wants to make more revenue, it needs to increase electric sales across the board. It is a worry that there is a decline in growth of residential customers. Additionally Large C&I and Small C&I markets have stagnated. If this continues, Xcel will have difficulty growing. Environmental Regulations: The EPA is pursuing a regulatory path which will make it more costly to own and operate coal plants. These plants will have to be upgraded to stay inline with regulations. The Fluctuating Price for Natural Gas: The natural gas markets have finally leveled off after their long bear decline. Xcel has to effectively hedge against possible rising natural gas price levels to offset its fuel and supply costs. Dividends: (click to enlarge) from dividend.com (click to enlarge) from dividend.com XEL’s dividend historically ranges between $0.2 – $0.4 per share, however for three quarters of 2003 the dividend was not awarded at all. The period in 2003 is the only period which the stock has not paid dividends. The yield of the dividends are typically around 4%. Expert Opinions: (click to enlarge) from Yahoo Finance The median price estimate for XEL is $37 per share which gives the stock a 15.66% upside at its current price of $31.99. The stock has a beta of 0.34 which implies that the stock’s price is loosely related to the general market price. from Yahoo Finance XEL’s growth revenue is expected to slow down by 1% to 3.1% during 2016 year-over-year. Additionally, the Company’s EPS is expected to grow by 5.8% year-over-year. from Yahoo Finance The quarterly earnings growth for XEL was -41.8% year-over-year. Further quarterly revenue growth fell by -7.50% year-over-year. These are not good signs for a public utility company, whose revenues are dependent upon rate-making policy. Natural Gas Market: XEL has a negative correlation of -0.51 with United States Natural Gas Fund (NYSEARCA: UNG ) over a three year period. Summer is traditionally the season low pricing period for natural gas, as winter gets closer and closer we should begin to see the buyers enter to the market to hedge for winter exposures. Look for a seasonal up turn in natural gas markets as we near the end of summer. Recent News: White House recognizes Minneapolis and Xcel Energy for Web tool to help building owners track energy efficiency. Xcel Energy to begin inspecting transmission lines by helicopter Xcel Energy will use drone technology to protect and improve energy reliability and safety Xcel Energy named No. 1 utility wind provider for 11th consecutive year Conclusion: Xcel’s relationship with natural gas prices is really the major factor in recommending a sell of this stock. The natural gas market has been whip-sawing for the past year and considering we are currently near natural gas seasonal low, and with the adoption of LNG technology; natural gas seems poised for a climb. Xcel’s dividend is a healthy 4%, but they have cut the dividend in the past when the company hit hard times. There is little bright side to speak of, with quarterly revenue declines of -7.5% year-over-year and a total yearly revenue growth of only 3.1%. Further, the experts do not have a solid consensus regarding the future price of the stock. I recommend reducing exposure to XEL because of its risk associated with the natural gas market. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

RSX: The Bear Thesis

Summary Ruble will continue to weaken. The economy is in bad shape, and production was not helped by the weak ruble. The oil is looking weak too, which is very dangerous for the Russian oil producers and the economy. Despite recent weakness, the Russian Stock Market (NYSEARCA: RSX ) is still up almost 25% year-to-date. The wild moves seen in last December are almost forgotten. However, I see several reasons why RSX can go lower. The Russian Ruble The Russian currency has somewhat stabilized after falling to as much as 80 rubles per dollar in December of 2014. Currently, you can buy a dollar with 55 rubles. However, I see reasons why the ruble could go lower, hurting the dollar-denominated RSX. The first reason is the key interest rate. The key rate, which was increased to 17% by the Russian Central Bank at the height of the crisis, was recently lowered to 11.50%. This move helped the bank stop the rally in the Russian ruble. The Central Bank also started buying $200 million per day in order to bring the reserves back to $500 billion. At the end of May, international reserves stood at $356.8 billion. In my view, the key rate will be lowered further, because the economy is in a bad shape. In April, industrial production fell ( Google translate link ) by 4.5%. In comparison, industrial production fell by just 0.6% in March. This means that the ruble is not weak enough to help local producers, which will make the Central Bank more eager to bring interest rate down and push the ruble lower. The Economy As I mentioned above, production is stagnating. So is consumption. In May, real earnings of Russian citizens contracted ( Google translate link ) by 6.4%. According to official estimates, it would take three years to bring earnings back to the level of 2014. This fact means problems for the consumer-oriented part of RSX holdings like Sberbank ( OTCPK:SBRCY ), Magnit (retailer), VTB Bank, and Mobile Tele Systems (telecom). The decrease of consumer spending could especially hurt Magnit, which has been growing very fast and opened 1,618 new shops last year. The budget is stretched, and the Russian Ministry of Finance is even ready to cut the sacred cow – military spending. Oil Russia is still overly dependent on oil prices, and I’m bearish on oil. Brent oil managed to make a spectacular run from under $50 per barrel to almost $70 per barrel. The decline in the number of U.S. rigs and conflicts in the Middle East help oil gain ground. In my view, oil has run out of upside catalysts. The conflicts in Yemen and Iraq are very far from being resolved, but this does not lead to an upside in oil. The number of working rigs in the U.S. has dropped by more than 50% compared to 2014, but this fact no longer helps oil. Despite recent cuts, supply still exceeds demand, and this means more pressure on oil prices. Pressure on oil hurts the economy, and hurts Russian oil producers, like Surgutneftegas, Lukoil ( OTCPK:LUKOY ) (and Tatneft ( OTCPK:OAOFY ), which are heavily represented in RSX. Bullish Argument The eternal bullish argument for the Russian market is its undervaluation based on different metrics. Interestingly, in Russia, this argument, which was widely used five or ten years ago, is now stated with sarcasm. Yes, you can still choose the metric that you like, choose the peers and find out that Sberbank, Gazprom ( OTCPK:OGZPY ) and others are relatively undervalued. In fact, they have always been. This undervaluation is chronic and, in my view, nothing will change on this front unless the country goes through serious structural changes. Bottom line I am bearish on RSX. I believe that the combination of weaker oil, sluggish economy and falling ruble will send RSX closer to lows seen in December of 2014. Disclosure: I/we have no positions in any stocks mentioned, but may initiate a short position in RSX over the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.