Duke Energy Corp (DUK)

[chmcnfunds]

Duke Energy: Time To Get Going

Aug. 12, 2014 1:01 PM ET | About: Duke Energy Corporation (DUK)

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)

Summary

Company likely to benefit from capital expenditures, fueling rate base, EPS and dividend growth.
Efforts to expand regulated operations and scale down merchant operations will portend well for future financial performance.
Healthy dividend yield of 4.3% makes it a good investment option for dividend investors.
Duke Energy (NYSE:DUK) is among the leading utility companies in the U.S. DUK have been posting a healthy financial performance in the past. The company's earnings and dividend growth are likely to benefit from its ramping up of capital expenditure starting 2015. Also, the construction of combine cycles and combustion turbines in South Carolinas and Florida will positively impact the long term earnings growth. Moreover, in efforts to increase its regulated business, the company is on track to selling its Midwest assets and announced to acquire North Carolina Eastern Municipal Power Agency's (NCEMPA) assets, which will portend well for the company. Furthermore, the company offers a healthy dividend yield of 4.3%, which makes it a good investment for dividend investors.

Financial Performance

The company reported a better-than-expected financial performance for 2Q14. DUK registered an EPS of $1.11 in 2Q14, beating consensus estimates of $1.00 per share as compared to $0.87 in 2Q13. DUK's performance was strong across all its segments, driven by the strong performance of regulated utilities. Also, in 2Q14, favorable weather conditions, lower effective tax rate and a healthy international segment performance positively affected DUK's performance in the quarter. The company reported quarterly revenues of $5,283 million, up 7.4% year-on-year.

The company has also been working to lower its costs and benefit from merger synergies, which will portend well for its bottom-line growth. In 2Q14, DUK's operating costs dropped by 4.3% and operating income improved by more than 30% year-on-year to $1,116 million. As a result of a strong financial performance in 1H14, the company raised its 2014 adjusted EPS guidance range from the prior range of $4.45-$4.60 per share to $4.50-$4.65 per share.

Increasing Regulated Operations

As merchant power operations have remained weak and volatile in the recent past, utility companies in the U.S. have been increasing their regulated operations. DUK also has been working to increase its regulated operations. Recently, DUK announced to purchase NCEMPA assets for $1.2 billion, including two coal generating assets and two nuclear assets in Carolina. The NCEMPA assets have a generation capacity of 700MW. DUK has plans to include the acquired assets into its regulated asset base. The company is likely to finance the asset purchase through debt and equity. DUK can use cash proceeds from the sale of Midwest assets and cash repatriation from Duke International to finance the purchase of NCEMPA assets.

DUK has plans to sell its Midwest assets and generate cash proceeds of more than $2 billion. The company can use the proceeds to finance the planned purchase of NCEMPA assets and to repurchase shares, which will positively affect EPS growth in the future. The company expects to close the Midwest assets sale by the end of 2014 or 1Q15. Also, the company is likely to announce a winning bidder of Midwest assets in the fall. During the 2Q14 earnings call, the company's CEO, Lynn Good, said:

"The exit of the Midwest merchant generation business is progressing. We are committed to redeploying the proceeds in a manner that maximizes shareholder value and expect the transaction will be accretive to our adjusted earnings per share, beginning in 2016."

Moreover, the company has been conducting a strategic review of its international business operations to evaluate growth opportunities. Also, the company is looking for effective tax strategies for domestic use of offshore cash (DUK holds $1.7 billion in offshore cash). The strategic review of the international segment is likely to be completed by the end of 2014.

Moreover, the company plans to accelerate its capital expenditure from 2015, which will fuel its EPS growth in 2016-2018. The company has plans to incur capital expenditures of $16-$20 billion from 2014-2018, including $6.9-$7.5 billion in 2015 and $7.2-$8.2 billion in 2016, as compared to $5.3 billion in 2013. I believe the increase in capital expenditure will help the company increase its regulated operations, which will provide earnings stability and rate base growth.

Dividends
As the company has plans to increase its regulated operations, it will fuel its EPS growth and portend well for future dividend growth. DUK currently offers a dividend yield of 4.3%, which is supported by its operating cash flow yield of approximately 13%. The company has been consistently increasing its dividends and targeting a long term payout ratio of 65%-70%. The following table shows annual dividends, payout ratio and dividend coverage for DUK from 2010-2013.

Dividend Per Share (Annual)
Payout Ratio
Dividend Coverage
2010
$3.00
75%
2.70x
2011
$3.04
95%
2.60x
2013
$3.12
90%
2.65x
Source: Company Reports and Calculations

Conclusion
I believe DUK is likely to deliver a healthy financial performance in the future. The company is likely to benefit from capital expenditures, which will fuel its rate base, EPS and dividend growth. Also, DUK's efforts to expand its regulated operations and scale down merchant operations will portend well for the company's future financial performance. Also, the company's healthy dividend yield of 4.3% makes it a good investment option for dividend investors.
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