Company Profile:

Algonquin Power & Utilities Corp (TSX: AQN) is a North American generation, transmission, and distribution utility. Within its distribution group, 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 and, in turn, most of this division's revenue comes from its distribution of natural gas. In its generation group, 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. Finally, the company's transmission group focuses on building and investing in natural gas pipelines and electric transmission systems.

Investment Rationale

• An Income Play: Despite a large-cap marker capitalization and defensive business model of the company, its shares are offering a lucrative dividend yield of 4.3% which is significantly higher given the current lower interest rate environment on the back of large amount of cheap money coming from the Central Banks and finding a decent risk adjusted nominal rate of return on fixed income securities is quite tough. The dividend yield of 4.3% is approximately 3.38 times of the US 10-Year Treasury Bond Yield of 1.304%. Moreover, the company has history of consistent dividend payment over the past two decade. Further, AQN currently targets annual growth in dividends payable to shareholders underpinned by increases in earnings and cash flow.

20-Years Dividend Paymemt History. Source: Refinitiv, Analysis by Kalkine Group

• Creating Growth Assets: The company’s capital expenditure jumped gigantically in Q2FY21 to US$ 1,207.6 million compared to US$ 216.6 million in the same quarter of the previous financial year. The Regulated Services Group invested US$1,019.5 million in capital expenditures as compared toUS$147.2 million during the same period in 2020. The Regulated Services Group's investment was primarily related to the acquisition of the Neosho Ridge and Kings Point Wind Facilities (US$847.2 million), construction of transmission and distribution main replacements, work on new and existing substation assets, and initiatives relating to the safety and reliability of the electric and gas systems. The Renewable Energy Group incurred capital expenditures of US$188.1 million as compared to US$69.4 million during the same period in 2020. The Renewable Energy Group's investment was primarily related to the acquisition of the previously unowned portion of the Altavista Solar Project from its joint venture partner, to advance the development and/or construction of the Dimension and Carvers Creek Solar Projects, and Shady Oaks II Wind Project, and ongoing maintenance capital at existing operating sites. AQN’s aggressive Capex looks well positioned to capitalize on the future growth opportunities.

• Generating High Return on Equity: The company’s ROE stood at 17.24%, which looks decent on comparing with the industry average of 9%. This probably laid the ground for Algonquin Power & Utilities' significant 53% net income growth seen over the past five years. The AQN has bulit upon strong fundamental, and the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health.

• Increase in Electric Distribution System: In Q2FY20, the electric distribution systems' usage totaled 1,463.2 GW-hrs as compared to 1,282.7 GW-hrs for the same period in 2020, an increase of 180.5 GW-hrs or 14.1%. The increase in electricity consumption is primarily due to the acquisition of Ascendant in the fourth quarter of 2020, which contributed 117.9 GWhrs, increased consumption due to favorable weather at the Granite State and CalPeco Electric Systems, as well as customer growth at the Empire Electric System.

• Progress on Renewable Construction Projects: The Company continues to execute on its largest construction program in its history. Of the approximately 1,600 MWs of new renewable energy projects that the Company had under construction in 2020 and to date in 2021, approximately 1,400 MWs have been placed in service and the remainder are on schedule for completion by the end of 2021. These new projects are expected to approximately double the size of the Company's portfolio of renewable energy facilities that it owns and operates.

• Completed Maverick Creek Wind Project - On April 21, 2021 , the Renewable Energy Group achieved full commercial operations at its 492 MW Maverick Creek Wind Facility, located in Concho County, Texas . The Maverick Creek Wind Facility is the Renewable Energy Group's 14th wind powered electric generating facility and is expected to generate approximately 1,920 GW-hrs of energy per year with the majority of output being sold through two long-term power purchase agreements with investment grade rated entities.

• Completion of the Altavista Solar Project - On June 1, 2021 , the Renewable Energy Group achieved full commercial operations at its 80 MW Altavista Solar Facility, located in Campbell County, Virginia . The Altavista Solar Facility is the Renewable Energy Group's sixth solar powered electric generating facility and is expected to generate approximately 174 GW-hrs of energy per year with the majority of output being sold to Facebook Operations, LLC, a wholly-owned subsidiary of Facebook, Inc., pursuant to a power purchase agreement.

• Bullish Doji Candle Appeared on Daily Price Chart: On the last trading session, a Doji candle stick pattern occurred on the daily price chart after recent downtrend, which indicates that bears are not able bring AQN shares down. Moreover, the leading momentum indicator, the 14-day RSI is hovering in neutral zone with bullish bias at 51.6, indicates downtrend is exhausting and potential trend reversal could be witnessed in near-term.

Technical Chart (as on August 27, 2021). Source: Refinitiv, Analysis by Kalkine Group

• Risk Associate to 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 majority of debt outstanding in AQN and its subsidiaries is subject to a fixed rate of interest and as such is not subject to significant interest rate risk in the short to medium term horizon. Also, 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 Highlights: Q2FY21

Source: Company Filing

• In the second quarter of FY21, AQN reported total revenue of US$527.5 million as compared toUS$343.6 million during the same period in 2020, an increase of US$183.9 million or 53.5%. This was driven by higher pass-through commodity costs in Electricity and Gas division and growth in connections at the Midstate’s, Beardsley and Arkansas Water Systems.
• During the three months ended June 30, 2021, Adjusted EBITDA totaled US$244.9 million as compared toUS$176.3 million during the same period in 2020, an increase of US$68.6 million or 38.9%.
• For the three months ended June 30, 2021, Adjusted Net Earnings totaled US$91.7 million as compared to Adjusted Net Earnings of US$47.4 million for the same period in 2020, an increase of US$44.3 million.
• For the three months ended June 30, 2021, the electric distribution systems' usage totaled 1,463.2 GW-hrs as compared to 1,282.7 GW-hrs for the same period in 2020, an increase of 180.5 GW-hrs or 14.1%.
• For the three months ended June 30, 2021, usage at the natural gas distribution systems totaled 6,373,000 MMBTU as compared to 7,608,000 MMBTU during the same period in 2020, a decrease of 1,235,000 MMBTU, or 16.2%.
• For the three months ended June 30, 2021, the water and wastewater distribution systems provided approximately 6,915 million gallons of water to customers and treated approximately 677 million gallons of wastewater. This is compared to 3,796 million gallons of water provided and 614 million gallons of wastewater treated during the same period in 2020, an increase in total gallons provided of 3,182 million, or 72.2%.
• For the three months ended June 30, 2021, administrative expenses totaledUS$18.2 million as compared toUS$17.9 million in the same period in 2020.
• For the three months ended June 30, 2021, depreciation expense totaledUS$98.2 million as compared toUS$75.7 million in the same period in 2020. The increase was primarily due to higher overall property, plant and equipment, and the acquisitions of Ascendant and ESSAL.

Top-10 Shareholders:

The top 10 shareholders have been highlighted in the table, which together forms around 24.70% of the total shareholding. BMO Asset Management Inc. is the entity holding maximum shares in the company at 3.75%. RBC Dominion Securities, Inc. is the second-largest shareholder, with an outstanding position of 3.34%.

 

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

 *1US$ = CAD 1.26.

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:

AQN is strong utility player based out in Canada, with US$15 billion in assets, it operates two business segments, the Regulated Services Group and the Renewable Energy Group.

Further, AQN’s Earnings has growth with a CAGR of 53% over the past 5-years, Earnings growth is an important metric to consider when valuing a stock. Also, the company’s ROE stood at 17.24%, which looks decent on comparing with the industry average of 9%. This probably laid the ground for Algonquin Power & Utilities' significant 53% net income growth seen over the past five years

Further, AQN has a very aggressive plan for capital expenditures, the capex plans are very front-loaded with 2021 representing the peak.  CapEx can be used to encourage growth or boost productivity in coming future.

AQN is also yielding higher on TSX and offering a decent dividend yield especially for income seeking investors. Together with a yield of 4.38%, the company has track record of consistent dividend payment over the past 20-years and increase its dividend over the same period. A high income play with almost investment grade credit profile poised it well for investors looking for higher risk adjusted nominal rate return.

Therefore, based on the above rationale and valuation done using the above methodology, we have given a “Buy” recommendation at the closing price of CAD 19.68 (as on August 27, 2021).

*Depending upon the risk tolerance, investors may consider unwinding their positions in a respective stock once the estimated target price is reached.

 Technical Analysis Summary

1-Year Price Chart (as on August 27, 2021). Analysis by Kalkine Group

*The reference data in this report has been partly sourced from REFINITIV

* Recommendation is valid at August 30, 2021 price as well.

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