Sector in Focus: Utilities Stocks

Water company United Utilities and energy distributor National Grid both reported results recently. We reveal what Morningstar equity analysts think of the companies

Morningstar Equity Analysts 26 May, 2015 | 10:15AM

National Grid's Full-Year Results Highlight Investor Benefits from New U.K. Regulatory Plan says Morningstar analyst Travis Miller

Dividend growth should accelerate

We are reaffirming our £8.15 per share fair value estimate and narrow moat and stable moat trend ratings for National Grid (NG.) after the company reported fiscal-year operating earnings up 9% year over year to 58.1p per share. This was slightly lower than our forecast, but we are maintaining our long-term outlook so the adjustment to fiscal 2014-15 results doesn't have a material impact on our fair value estimate.

In the first year of the new RIIO regulatory construct, National Grid was able to take advantage of the plan's financial incentives to post remarkable returns far greater than any other regulated utilities we cover. Management reported earning a 14% return on equity at its U.K. electric transmission business and a 14.2% return on equity at its U.K. gas transmission business. These businesses combined contributed 43% of Grid's operating profit for the year, helping offset lower earned returns on equity at its other businesses.

The most upside continues to be at its U.S. regulated utilities, which underperformed their allowed returns again this year. Part of the business plan this year is to achieve rate increases that will boost those returns. Although regulatory conditions are improving in Grid's Northeast U.S. service territories, we remain sceptical that this business will be able earn much more than the 9%-10% returns on equity that most other U.S. regulated distribution utilities earn, diluting the attractive U.K. business.

Management reaffirmed its long-term dividend policy and capital investment plans, all in line with our forecasts. Management recommended a 28.16p per share final dividend, resulting in a 2% increase from fiscal 2014 and in line with management's inflation-growth target. If Grid continues achieving returns like it did in the U.K., we think dividend growth should accelerate.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
National Grid PLC897.40 GBX-1.10
United Utilities Group PLC900.40 GBX-0.16

About Author

Morningstar Equity Analysts  Morningstar stock and fund analysts cover 2,000 mutual funds, 2,100 equities, and 300 exchange-traded funds.

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