National Grid – International Utility Priced to Buy

National Grid plc (NGG) is a London-based utility company. It owns and operates of regulated electricity and gas infrastructure networks in United Kingdom (Wales and Scotland) and North Eastern United States (upstate New York, NYC, Long Island, Massachusetts, New Hampshire, and Rhode Island). It serves approximately 20 million consumers in the United Kingdom and the United States.

NGG is part of Mergent’s International Dividend Achiever Index and has been paying growing dividends since last 12 years. My objective here is to analyze if NGG continues to be a good dividend growth stock and how it will rate on my scale of risk-to-dividends.


Trend Analysis
Here I am looking at trends for past 9 years of corporation’s revenue and profitability. These parameters should show consistently growth trends. The image below shows the trend charts.

  • Revenue: Overall growing trends on long term basis. The average revenue growth for last 8 years is 21%. Very high volatility in y-o-y revenue. This is because of significant changes in revenue due to acquisitions.
  • Cash Flows: In general, an increasing trend for operating cash flow. The free cash flow as trended lower and is now less than net income. This would be a concern.
  • EPS from continuing operation: Growing earnings albeit with high degree of volatility.
  • Dividends per share: Consistently slow growth in dividends.

NGG: Trend Analysis

Risk Parameter Calculation
Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. The risk number for risk-to-dividends is 2.2. This is a medium risk category, but very very close to being high risk. High risk driven by negative EPS growth rate and debt on its balance sheet


Quality of Dividends
This section measures the dividend growth rate, duration of growth, consistency over a period of past five years.

  • * Dividend growth rate: The average dividend growth of 7.8% is less than average EPS growth rate of 48.9%. The dividends seem to be well covered and consistent with earnings growth. Dividends have had negative growth rate (dividends cuts). However, that’s because of the currency fluctuations. NGG has been consistently growing dividends in its native currency.
  • Duration of dividend growth: 13 years.
  • 4 year rolling dividend growth rate for past ten years: Less than 10%.
  • Payout factor: In the past 8 years, it has been in the varying over wide range. It is at 64%.
  • Dividend cash flow vs. income from MMA: Here, I analyze how the dividend cash flow stacks up against the income from FDIC insured money market account. The baseline assumption is (a) stock is yielding 7%; and (b) MMA yield is 1.8%. With my projected dividend growth of 7.8%, the dividend cash flow is equal to six times MMA income.


Fair Value Calculation
This section determines what price I should pay to buy a given stock

  • Net present value (NPV) price based on 15 year DCF: $25
  • Average high yield price calculated based on past 9 years: $46
  • Pricing based on past 8 year relative price-to-earnings ratio. $70
  • Pricing based on price-to-earnings ratio of 12: $78
  • Graham number: $26 The range of fair value is calculated as $35 to $48


Qualitative Analysis

  • NGG was primarily UK based utility company. Few years back it entered US markets by acquiring few regulatory businesses in north eastern part of US.
  • It is a typical utility company with slow dividend growth but relatively higher dividend yield.
  • Its regulatory business gives it some level of stability in revenues. It is also continuing to invest in gas distribution and smart metering. It shows that it is not having problems in accessing capital.
  • The fluctuation in dividends is reflection of the impact of currency fluctuations.
  • Investing in NGG stock gives international exposure, hedge against dollar fluctuations, and hedge against increased energy commodity pricing. Regulatory businesses are able to pass on the higher cost to its customers slowly over a period of time.
  • It appears that debt increased year over year. Although, it is still below its historical levels, it is something that investors need to keep track of. Based on industry comparison, NGG has relatively higher debt that Duke (my other Utility holding).


Conclusion
NGG is an International Dividend Achiever and has been raising dividends for last 13 years. The stocks current risk-to-dividend rating is 2.2 (medium risk). Very close to being high risk at 2.3. This is a typical utility stock with slow dividend growth. The projected dividend cash flow is 6 times MMA cash flow after 10 years (at price of $40). This analysis shows that NGG continues to be potential international dividend growth investment. Since, it is getting much closer to my high risk category, I will  not be adding to existing positions. But I will continue to hold my existing position.

Full Disclosure: Long on NGG.


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