Capital Power Corp (TSX: CPX) is a growth-oriented North American power producer headquartered in Edmonton, Alberta. The Company develops, acquires, owns and operates power generation facilities using a variety of energy sources. Capital Power owns approximately 6,500 megawatts (MW) of power generation capacity at 28 facilities across North America. Approximately 350 MW of owned generation capacity is in advanced development in Alberta and North Carolina.

Investment Rationale

• CPX is a cash cow: The group has a solid track record of dividend distribution. The group has consistently distributed a dividend irrespective of the economic cycles.

Dividend History: Source: Refinitiv (Thomson Reuters)

• Guided for higher dividend: The group has consistently increased the dividend payment in last seven years. The group’s dividend distribution grew at a CAGR of ~7% since 2013. Further, the group has mentioned that it is likely to increase the dividend by 7% in 2021 and 5% in 2022.

Source: Company filings

• Offering a lucrative dividend yield: At the last traded price, the stock was offering a dividend yield of 6.5%, which is lucrative considering the current interest rate environment. We believe that high yield and consistency in dividend payment is likely to keep shares of CPX in the investor’s limelight on the stock exchange.

• Stock Hovering above the Crucial Support Levels: Shares of CPX hovering above the crucial support levels of 200-day, 100-day, 50-day and 30-day SMAs, which implies a bullish trend in the stock. The Price/200-day ratio of SVM stood at 1.08x, which shows that stock is trading approximately 8% above the 200-day SMA support level and moving averages are moving up, which is another bullish technical indicator.

Technical Price Chart (as on November 09, 2020, after the market close). Source: Refinitiv (Thomson Reuters)

• Solid Performance in 9MFY20: The company reported decent performance in the first 9 Months of FY20, with revenue and other income improved 11% to CAD 1,421 million, adjusted EBITDA improved 9% to CAD 735 million, basic earnings per share surged 197% to CAD 0.87 and normalized EPS improved 4% to CAD 1.09. Further, the company reaffirmed its 2020 outlook and financial guidance.

Source: Company Presentation

• Industry Leading Margin Profile: In the September quarter, the company reported an EBITDA margin of 68.2%, significantly improved on a sequential basis and significantly higher against the industry median of 53.7%. Operating margin for the September quarter stood at 43% vs 26.7% industry median and Net margin stood at 23.4% against 4.8% industry median. The leading margin profile reflects the competitive advantage of the group against its peers. Further, the company reported ROE of 3.6% whereas the industry median stood at 0.3%.
• Risk Associated to Investment: Responses to the COVID19 pandemic throughout North America have driven a reduction in demand for electricity as municipal, provincial and state authorities implemented social distancing policies, and stay-at-home and/or “shelter in place” directives. In turn, this puts downward pressure on forward electricity prices for the balance of 2020 and for 2021. Further, As a result of the current economic uncertainty created by the pandemic and the reduction in the price of oil, the Canadian dollar has weakened notably as compared to the U.S. dollar in the first quarter followed by partial recovery during the second and third quarters of 2020. These fluctuations affect the company’s capital and operating costs, revenues and cash flows and unfavorable fluctuations can adversely impact the company’s financial performance.

Q3FY20: Financial Highlights

Source: Company Filing

• Revenues and other income in the third quarter were CAD 453 million, down 12% compared to the third quarter of 2019 mainly due to the unrealized changes in fair value of commodity derivatives and emission credits and the lower Arlington Valley toll contract.
• Adjusted EBITDA was CAD 284 million, unchanged from a year ago. The additions of Cardinal Point, Whitla Wind, Buckthorn Wind, and strong trading performance were offset by the Arlington Valley toll decrease.
• Normalized earnings of CAD 0.66 per share were up 10% compared to CAD 0.60 per share in the third quarter of 2019.
• In the third quarter, the average realized power price of CAD 59 per megawatt-hour was 34% higher than the average spot of CAD 44 per megawatt-hour. The low spot price in the third quarter reflected lower market demand from reduced oil and gas production and the impact from COVID-19, and softer pricing from a stable base load supply, strong hydro and wind generation, and moderate temperatures.
• Generated net cash flows from operating activities of CAD 258 million and adjusted funds from operations (AFFO) of CAD 221 million in the third quarter of 2020.
• On March 16, 2020, Cardinal Point Wind, a 150 MW facility in the McDonough and Warren Counties, Illinois, began commercial operations. Subsequently, the Company received approximately CAD 221 million (USCAD 157 million) in tax equity financing on March 26, 2020, net of issue costs of CAD 3 million (USCAD 2 million) associated with the financing, from two U.S. financial institutions in exchange for Class A interests of a subsidiary of the Company.
• On July 29, 2020, the Company’s Board of Directors approved an increase of 6.8% in the annual dividend for holders of its common shares, from CAD 1.92 per common share to CAD 2.05 per common share. This increased common share dividend will commence with the third quarter 2020 quarterly dividend payment on October 30, 4 2020 to shareholders of record at the close of business on September 30, 2020.

Improving Power Demand

Source: Company Presentation

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 24.54% of the total shareholding. Letko, Brosseau & Associates Inc. and TD Asset Management Inc. holds the maximum interests in the company at 9.68% and 4.02%, respectively. The institutional ownership in CPX stood at 30.1%, and ownership of the strategic entities stood at 0.30%.

Source: Refinitiv (Thomson Reuters) 

Valuation Methodology (Illustrative): Price to Earnings Based Valuation Metrics

(Note: All forecasted figures and peers have been taken from Thomson Reuters)

Peer Comparison

Source: Refinitiv (Thomson Reuters)

Stock Recommendation: The company reported decent performance in the third quarter of FY20, with Revenues and other income in the third quarter were CAD 453 million, down 12% compared to the third quarter of 2019 mainly due to the unrealized changes in fair value of commodity derivatives and emission credits and the lower Arlington Valley toll contract. Adjusted EBITDA was CAD 284 million, unchanged from a year ago. Normalized earnings of CAD 0.66 per share were up 10% compared to CAD 0.60 per share in the third quarter of 2019.

The company has consistently increased its dividend over the past seven years and guided for an increase in the next two years as well, which is encouraging from an income investor’s standpoint. Further, the company is offering a decent dividend yield of 6.5%, which is lucrative, considering the current interest rate environment.

Moreover, the company is featuring a free cash flow yield of 9.3%, which ensures a sufficient fund with the company to cover its obligations, dividend payment and fund future growth as well. Also, the company has lower debt contribution, with Long-term debt to equity ratio of 43.7%, with an interest coverage ratio of 4.70x, implies no balance sheet risk for the company.

Therefore, based on the above rationale and valuation, we have given a “Buy” recommendation at the closing price of CAD 31.56 on November 9, 2020.

CPX daily technical chart. Source: Refinitiv (Thomson Reuters)

Disclaimer

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