Algonquin Power & Utilities Corp (TSX: AQN) is a North American generation, transmission, and distribution utility company. Within its distribution division, Algonquin owns and operates regulated water, natural gas, and electricity distribution utilities in the United States. Most of the company's revenue is derived from this division. In its generation division, Algonquin sells electricity produced by its energy facilities, including hydroelectric, wind, solar, and thermal power plants. Algonquin's wind farms account for most of its generation revenue. The company's transmission group focuses on building and investing in natural gas pipelines and electric transmission systems.

Revenue and Geographical mix

The regulated services group segment and renewable energy group segment are the two significant revenue contributing segments for the company, accounting for 80.09% and 19.91%, respectively, for the total revenue in FY2020. Simultaneously, the United States is the enormous geography for the company, followed by Canada.

Source: Refinitiv (Thomson Reuters)

Investment Rationales

• Decent Q1 2021 performance: The company reported decent performance in Q1 2021, with revenue surged by 36% to USD 634.5 million on a YoY basis, Adjusted EBITDA improved by 17% to USD 282.9 million and adjusted net earnings rose by 21% to USD 124.5 million on a YoY basis.

Source: Company

• An income play: The Company has an excellent track record of dividend distribution and has increased its distribution over the years, reflecting resilience and healthy cash flow generation. This dividend pay-out practice translates into an essential factor for regular income-seeking investors with a long-term horizon. Also, utility business is generally less risky and pays a consistent dividend, which acts as a defensive play in the investor’s portfolio. Recently, the Company declared a 10% increase in its second-quarter dividend to CAD 0.2094 per, payable on July 15, 2021. Moreover, at the last closing price, the stock was offering a healthy dividend yield of 4.30%.

Source: Refinitiv (Thomson Reuters)

• Decent margin profile: Despite the turmoiled period in 2020, the Company maintained its pace and witnessed spirited performance across its gross margin, operating margin and net margin. The Company is continuously working closely with customers; thus, its presence is increasing along with volume, which is appreciable. We believe the momentum to continue in the foreseeable future, as the Company had large capital investment plans to support future growth.

Source: Refinitiv (Thomson Reuters)

• Large capex plans: The corporation recently unveiled a USD 9.4 billion capital program for FY2021 to FY2025. The management says that it is well poised to profit from the global expansion of infrastructure projects and clean energy. Its many growth drivers, organizational performance orientation, and long-term dedication to sustainability are likely to serve as the basis for bringing long-term value to shareholders. The majority of the projects listed are either running, under planning, or in advanced stages of growth, indicating that new cash flows would be available shortly. 

• Industry beating margins: Despite a hard time, the management’s solid determination helped the group in leaping the industry median margins on many fronts in FY2020, which is a key positive. However, the gross margin of the industry median was higher than the company. The chart below gives a glimpse of this.

Source: Refinitiv (Thomson Reuters)

• Acquired majority interest in Texas Coastal Wind Facilities: The Company's Renewable Energy Group acquired a 51% stake in three of four wind facilities ("Texas Coastal Wind Facilities") from RWE Renewables Americas, LLC, a subsidiary of RWE AG, in Q1 2021. The Stella, Cranell, and East Raymond wind farms are both up and running and accounting for 621 MW of the overall portfolio. The fourth wind facility (West Raymond) is scheduled to begin commercial operations in the second quarter of 2021, with a generation capability of 240 MW and a total portfolio capacity of 861 MW. The Texas Coastal Wind Facilities are based in south Texas' coastal area and are intended to have a wind capability to supplement the Company's current assets in the state. 

• Completed Maverick Creek Wind Project: The Company's Renewable Energy Group achieved full commercial operations at its 492 MW Maverick Creek Wind Facility in Concho County, Texas, on April 21, 2021. The Maverick Creek Wind Facility is the Renewable Energy Group's 14th wind-powered electric generating facility, which is expected to produce approximately 1,920 GW-hours of electricity each year. Most of the output would be sold through two long-term power purchase deals with investment-grade rated companies, which is a key positive. 

• Raising liquidity through the issuance of Green Senior Unsecured Notes: On April 9, 2021, Algonquin Power Co., the parent company for the Renewable Energy Group's generating assets in the United States and Canada, issued CAD 400.0 million of "green" senior unsecured debentures with a maturity date of July 15, 2031, at a rate of 2.85%. The Company would use the net proceeds to fund or refinance its projects in solar electricity production and clean energy technology. 

• Risks Associated with Investment: The Company is exposed to several risks and uncertainties. A resurgence in COVID-19 cases could impact the group's operating, supply chain and project development and construction delays, disruptions and cost overruns, and also delayed collection of accounts receivable and increased levels of bad debt expense. Further, the functional currency of most of AQN's operations is the U.S. dollar; however, AQN is exposed to currency fluctuations from its Canadian and Chilean operations.

Financial Overview of Q1 2021

Source: Company

• In Q1 2021, The company’s total revenue increased by USD 169.6 million or 36.5% to USD 634.5 million compared to USD 464.9 million in the previous corresponding period. The increase in the revenue was primarily due to healthy performance from all the segments, partially offset by lower non-regulated energy sales.
• The company’s Adjusted EBITDA in Q1 2021 increased by USD 40.7 million or 16.8% to USD 282.9 million compared to USD 242.2 million during the same period in 2020. The rise in Adjusted EBITDA was mainly due to higher operating profits from Regulated Services Group and Renewable Energy Group.

Source: Company

• Operating income for the period of Q1 2021 decreased to USD 86.0 million, against USD 120.0 million in the previous corresponding period. The decrease was mainly due to higher total operating expenses, which increased to USD 548.4 million, against USD 344.8 million in pcp. The company witnessed an increase in all line items of its operating expenses.
• The company minimized its loss from operating income to USD 24.9 million, against USD 93.0 million in the previous corresponding period. The group was able to minimize its operating losses mainly due to higher revenues. However, the interest expense increased to USD 49.5 million compared to USD 46.2 million in the previous corresponding period.
• In the reported period, the net earnings attributable to shareholders increased by USD 77.7 million or 121.8% to USD 13.9 million compared to a net loss of USD 63.8 million in the previous corresponding period. The increase was primarily due to a change in the fair value of investments carried at fair value for USD 119.1 million.
• During Q1 2021, cash provided by (used in) operating activities decreased by USD 310.4 million. It stood at USD (243.5) million compared to USD 66.9 million during the same period in 2020, while Adjusted Funds from Operations increased by USD 26.0 million to USD 205.3 million, against USD 179.3 million in the previous corresponding period.
• The company’s cash and cash equivalents increased to USD 142.4 million from USD 101.6 million in pcp. 

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which forms around 24.59% of the total shareholding. BMO Asset Management Inc. and RBC Dominion Securities, Inc. hold the company's maximum interests at 3.30% and 3.13%, respectively. The company's institutional ownership stood at 54.67%, and ownership of the strategic entities stood at 0.28%.

Source: Refinitiv (Thomson Reuters) 

Valuation Methodology (Illustrative): EV to EBITDA based Valuation Metrics

Note: Premium (discount) is based on our assessment of the company’s growth drivers, economic moat, competitive advantage, stock’s current and historical multiple against peer group average/median and investment risks. 

Stock recommendation

The Company reported strong Q1 2021 results, which despite the challenges presented by the COVID-19 pandemic, reflect year-over-year growth in its key financial metrics. Moreover, the Company is committed to delivering growth and operational excellence in a sustainable manner through an expanding global pipeline of renewable energy and electric transmission development projects, organic growth within its rate-regulated generation, distribution, and transmission businesses. It is busy executing its previously announced 1,600 MW renewable energy construction program - the largest in the Company's history. Nearly 1,400 MWs have already been placed in service, and the remainder is on schedule for completion by the year-end. This would effectively double the group's portfolio of owned and operated renewables, underscoring its commitment to growth, operational excellence, and sustainability.

Also, the Company provided an update on its USD 9.4 billion capital expenditure plan from 2021 through the end of 2025. Approximately 70% of the capital plan is expected to be invested by the Regulated Services Group, and approximately 30% is expected to be invested by the Renewable Energy Group.

The Company has an excellent track record of dividend distribution, and recently it increased the distribution by almost 10%, which is encouraging from an income investor's point of view. Moreover, the stock is offering a dividend yield of 4.30%, which is decent amid a low interest rate environment.

Therefore, based on the above rationale and valuation, we suggest a "Buy" recommendation on the stock at the closing price of CAD 19.29 on May 07, 2021. We have considered CMS Energy Corp, Atco Ltd and CenterPoint Energy Inc etc., as a peer group for the comparison purpose.

1-Year Price Chart (as on May 07, 2021). Source: Refinitiv (Thomson Reuters)

*Recommendation is valid at May 10, 2021 price as well.

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