AltaGas Canada: Renewable Gains

05/07/2019 5:00 am EST


Gavin Graham

Chief Strategy Officer, INTEGRIS Pension Management Ltd

In our The Income Investor newsletter, we stick to more conservative securities with proven histories of sound financial stewardship, profitability, and dividend growth, asserts contributing editor Gavin Graham.

Consequently, my "Top Pick" this month is a beneficiary of lower or stable interest rates, while still having the potential for decent revenue growth. And, unlike many new-era stocks, it is profitable and pays a dividend.

AltaGas Canada (Toronto: ACI) was spun off from its parent AltaGas (Toronto: ALA) in October 2018 as part of the latter's debt reduction program after it doubled its size by acquiring U.S. utility WGL. AltaGas retains a 36.8% stake in AltaGas Canada.

ACI owns or operates regulated natural gas utilities in three provinces (Alberta, B.C., and Nova Scotia) with 130,000 customers and a rate base of $885 million. It also owns the 102 MW Bear Mountain Wind Park and 10% of the 303 MW North West Hydro Facilities in B.C.

ACI's assets provide low-risk stable earnings and cash flow, through its regulated natural gas utilities and long-term contracted renewable power assets. All of its earnings before interest, tax, depreciation and amortization (EBITDA) is regulated or long-term contracted, giving excellent visibility of earnings.

The natural gas distribution utilities are provincially regulated under cost of service and performance-based frameworks, with return on equity of between 8.5% and 11%.

Bear Mountain and the Northwest Hydro assets are contracted with AAA-rated BC Hydro for 25 and 60 years respectively, and their Power Purchase Agreements (PPAs) are 50% and 100% indexed to CPI.

AltaGas sold 55% of the Northwest Hydro Facilities to institutional investors in January this year for $1.37 billion, which values ACI's 10% stake at $249 million, equivalent to 45% of its $558 million market capitalization. It sells for 0.92 of its book value.

For the year to Dec. 31, ACI reported normalized net income of $41.8 million ($1.39 per share), which is equivalent to $40.5 million ($1.35 per share) adjusted for ACI's new independent capital structure.

Revenue from the combined utilities rate base grew 6%, to $885 million, and ACI anticipates $330 million in capital expenditures between 2019 and 2023, which should support 5% annual normalized net income growth over that period. The stock has risen 30% from its IPO, leaving it on a reasonable 12.3 price/earnings ratio.

ACI may not be able to invest all of the $330 million in capital expenditure it has planned for the next five years, although its Alberta utility is authorized to invest $200 million under its existing regulated agreement. Heritage Gas has only one-third penetration of its Nova Scotia base.

Otherwise the 100% regulated nature of its operations makes weather factors (e.g., low water levels or less wind) the major risk for its renewable power assets.

ACI pays a quarterly dividend of $0.2375, equivalent to a 4.75% yield. The distributions count as qualified dividends to a Canadian resident shareholder. ACI is suitable for conservative investors looking for a reasonable yield with low volatility, with some possibility of moderate growth.

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