Five utilities with dependable dividends

Utility stocks have more appeal than they used to, mainly because low interest rates have made bonds less appealing. (See later in this issue for our full analysis of why utilities are a better choice than bonds for your portfolio.)

We see all five of these electrical-power utilities as buys. That’s because they offer an attractive mix of safety, income and growth. As well, they have maintained or raised their dividends, despite the recession and stock-market downturn.

CANADIAN UTILITIES LTD. (Toronto symbols CU (class A non-voting) $47 and CU.X (class B voting) $47; Income Portfolio, Utilities sector; Shares outstanding: 125.9 million; Market cap: $5.9 billion; Price-to-sales ratio: 2.2; Dividend yield: 3.2%; SI Rating: Above Average) distributes electricity and natural gas in Alberta. It also operates 19 power plants: 15 in Canada, two in the U.K., and two in Australia, As well, Canadian Utilities sells engineering services to other utilities. ATCO Ltd. (see right) owns 52.3% of the company.

Canadian Utilities’ 2009 revenue fell 7.0%, to $2.6 billion from $2.8 billion in 2008, partly due to lower electricity prices in Alberta. But thanks to improving efficiency and regulatory relief, its earnings rose 5.9%, to $3.40 a share (or a total of $427.6 million) from $3.21 a share (or $403.2 million).

The company aims to fuel long-term growth with new projects. For example, it will soon begin work on a $1.65-billion power transmission line between Edmonton and Calgary.

Canadian Utilities is also considering building a hydroelectric plant in northern Alberta, and new lines to transmit its power to the southern part of the province. In all, it expects to spend $3.5 billion to $4.5 billion on new projects from 2010 to 2012.

Alberta supplies over half of Canadian Utilities’ revenue, and low natural-gas prices or a drop in oil prices could hurt the province’s economy. That would cut electricity demand. However, Canadian Utilities’ regulated operations will continue to give it steady cash flows. The stock trades at 14.4 times its likely 2010 earnings of $3.26 a share.

Canadian Utilities is a buy. The more liquid class “A” non-voting shares are the better choice.

ATCO LTD. (Toronto symbols ACO.X (class I non-voting) $50 and ACO.Y (class II voting) $51; Income Portfolio, Utilities sector; Shares outstanding: 58.2 million; Market cap: $2.9 billion; Price-to-sales ratio: 0.9; Dividend yield: 2.1%; SI Rating: Above Average) is a holding company. Its main subsidiary is 52.3%-owned Canadian Utilities.

ATCO recently reorganized its operations into three main divisions: Utilities (which distributes electricity and natural gas); Energy (which operates power plants); and Structures & Logistics (which provides services to energy-exploration and construction companies). ATCO owns 75.5% of the Structures & Logistics division; Canadian Utilities owns the remaining 24.5%.

ATCO earned $4.81 a share (or a total of $278.4 million) in 2009. That’s up 4.3% from $4.61 a share (or $266.3 million) in 2008. These figures exclude losses on hedging contracts and other one-time items. All three divisions cut their costs in 2009. That was the main reason for the gain, as revenue fell 4.8%, to $3.1 billion from $3.3 billion.

Based on current prices, you can buy a share of ATCO for $52, and get roughly $54 worth of Canadian Utilities. That means you get ATCO’s non-utility businesses for free. This “holding-company discount” is why ATCO trades at just 10.5 times the $4.76 a share it will probably earn this year. ATCO’s lower dividend yield compared to Canadian Utilities has also depressed its p/e ratio. However, ATCO may break itself up in the next few years. That would quickly unlock its value.

ATCO is a buy. The cheaper, more liquid class I non-voting shares are the better choice.

TRANSALTA CORP. $22 (Toronto symbol TA; Conservative Growth Portfolio, Utilities sector; Shares outstanding: 218.4 million; Market cap: $4.8 billion; Price-to-sales ratio: 1.7; Dividend yield: 5.3%; SI Rating: Average) operates roughly 80 unregulated power plants in Canada, the U.S. and Australia. Coal-fired plants account for about 57% of the power it generates. Hydroelectric and renewable sources account for 23%, and the remaining 20% comes from natural gas.

In November 2009, TransAlta paid $755 million for Canadian Hydro Developers Inc., which owns and operates 21 power-generating facilities in Alberta, B.C., Ontario and Quebec. These include 12 hydroelectric plants, eight wind farms and one biomass plant, which generates power by burning plant materials and wood waste from lumber mills. Adding Canadian Hydro will help TransAlta comply with the tougher environmental regulations that will likely come into force over the next few years.

To help pay for this purchase, TransAlta raised $412.5 million by selling 20.5 million common shares for $20.10 each. That increased the total number of shares outstanding by 10%.

In 2009, earnings fell 37.6%, to $181 million from $290 million in 2008. Earnings per share fell 38.4%, to $0.90 from $1.46, on more shares outstanding. These figures exclude unusual items. Revenue fell 10.9%, to $2.8 billion from $3.1 billion. Lower power prices and unplanned outages at some Alberta plants were the main reasons for the declines.

The stock trades at 17.6 times its likely 2010 earnings of $1.25 a share. That’s a higher p/e ratio than other power utilities, but still reasonable as recent repairs will improve the reliability of its plants.

TransAlta is a buy.

FORTIS INC. $28 (Toronto symbol FTS; Conservative Growth Portfolio, Utilities sector; Shares outstanding: 170.7 million; Market cap: $4.8 billion; Price-to-sales ratio: 1.3; Dividend yield: 4.0%; SI Rating: Above Average) is the main supplier of electrical power in Newfoundland and Prince Edward Island. It also operates power plants in other parts of Canada, as well as the U.S., Belize and the Cayman Islands. As well, Fortis operates hotels and other businesses in Atlantic Canada.

The company has been working to lower its reliance on Atlantic Canada. Much of its growth has come from the assets it bought as part of this plan.

In May 2004, Fortis bought regulated electrical utilities in Alberta and B.C. for $1.5 billion in cash and stock. In May 2007, it paid $3.7 billion for the regulated gas-distribution business of Terasen Inc. (formerly called BC Gas), which has 939,600 customers in B.C. Fortis issued $1.15 billion of new common shares to help pay for this purchase.

The new operations helped Fortis earn a record $262 million in 2009, up 6.9% from $245 million in 2008. Earnings per share fell 0.7%, to $1.51 from $1.52, on 12.8% more shares outstanding. Revenue fell 6.8%, to $3.6 billion from $3.9 billion, mainly because it sold less natural gas at lower prices.

Fortis’s 2010 earnings will probably rise to $1.67 a share. The stock trades at 16.8 times that figure.

Fortis is a buy.

EMERA INC. $24 (Toronto symbol EMA; Income Portfolio, Utilities sector; Shares outstanding: 113.0 million; Market cap: $2.7 billion; Price-to-sales ratio: 1.8; Dividend yield: 4.7%; SI Rating: Average) owns Nova Scotia Power Inc., which is Nova Scotia’s main electrical-power supplier. Nova Scotia Power supplies 94% of Emera’s revenue. The remaining 6% comes from investments in power companies in the U.S. and Caribbean.

Emera is diversifying into other businesses. For example, its Brunswick Pipeline, which carries natural gas from Saint John, New Brunswick, to the U.S. border, began operating on July 16, 2009.

The pipeline contributed $14.0 million to Emera’s 2009 earnings. That’s the main reason why its 2009 earnings rose 21.9%, to $175.7 million from $144.1 million in 2008. Emera also benefited from higher power rates in Nova Scotia. Earnings per share rose 20.6%, to $1.52 from $1.26, on more shares outstanding. Revenue rose 10.0%, to $1.5 billion from $1.3 billion.

The company uses coal and oil to generate about 80% of its electricity. To cut its reliance on these fuels and comply with tougher environmental regulations, the company is working to get more of its power from renewable sources.

In April 2010, Nova Scotia Power and U.S.-based NewPage Corp. agreed to build a new biomass power plant at NewPage’s Port Hawkesbury paper mill in northern Nova Scotia. Nova Scotia Power will invest $200 million in the plant, which should start operating by the end of 2012.

Emera should earn $1.54 a share this year, and the stock trades at 15.6 times this estimate.

Emera is a buy.