Take a pass on Algonquin Power, says iA Capital

It’s still a “Hold” on Algonquin Power & Utilities (Algonquin Power & Utilities Stock Quote, Charts, News, Analysts, Financials TSX:AQN), according to analyst Naji Baydoun of iA Capital Markets who updated clients on the company in a report on Friday.

Incorporated in 1988 and headquartered in Oakville, Ont., Algonquin Power and Utilities owns and operates a portfolio of regulated and non-regulated generation, distribution and transmission utility assets in Canada, the United States, Chile and Bermuda and generates and sells electrical energy through non-regulated renewable and clean energy power generation facilities.

Baydoun’s latest analysis comes after the company announced the pricing of subordinate debt offerings to help finance the pending acquisition of Kentucky Power Company and AEP Kentucky Power Transmission Company, valued at nearly $3 billion. (All report figures in US dollars except where noted otherwise.)

All told, the acquisition is expected to add approximately $2.2 billion of rate base in a new utility jurisdiction for the company, as well as opening up longer-term investment opportunities.

“The acquisition of Kentucky Power and Kentucky TransCo is a continuation of AQN’s disciplined growth strategy, adding to its regulated footprint in the United States,” said Arun Banskota, President and Chief Executive Officer of AQN in the October 26 press release initially announcing the acquisition.

“Kentucky Power offers an opportunity for AQN to utilize its ‘greening the fleet’ capabilities in a complementary and constructive jurisdiction. Including Kentucky Power under the AQN umbrella also enables AQN to leverage its operational experience to improve customer outcomes in Kentucky by executing on AQN’s core values of providing safe and reliable service to its customers,” Banskota wrote.

The company is expected to fund the cash portion of the Kentucky transaction from proceeds from the $800 million bought deal equity offering at $18.15/share, as well as $1 billion to be sourced from hybrid debt, equity units, and/or asset sales in 2022.

On Wednesday, the company announced two 60-year junior subordinate notes for public offerings in the United States and Canada for approximately $750 million at 4.75 per cent and $320 million at 5.25 per cent, respectively. Algonquin Power management notes that it expects to use the net proceeds from the offerings to partially finance the acquisition.

“In our view, the successful $1 to $1.1 billion hybrid debt raise should provide funding certainty for investors and clear the equity overhang in the shares related to this acquisition,” Baydoun said.

Baydoun notes that while the financing de-risks the funding associated with the Kentucky acquisition, the subordinated notes only received a BB+ rating from Fitch, with the 4.9 per cent blended interest rate on the notes coming in higher than expected.

The company’s most recent quarterly financials were reported in November, headlined by $528.6 million in revenue for a 40 per cent year-over-year increase, paired with $252 million in adjusted EBITDA for a 27 per cent year-over-year increase.

Algonquin Power kicked off 2022 by completing the acquisition of New York American Water Company, a regulated water and wastewater utility serving over 125,000 customer connections across seven counties in southeastern New York, from American Water Works Company for approximately $608 million.

Baydoun expects the company’s adjusted EBITDA to clear ten figures imminently, with a $315 million projection in the final quarter of 2021 leading to a fiscal year projection of $1.1 billion for an implied year-over-year increase of 27.8 per cent. Looking ahead, Baydoun projects adjusted EBITDA of $1.36 billion in 2022 for an implied year-over-year increase of 23.9 per cent, while the $1.58 billion estimate for 2023 is an implied year-over-year increase of 16.5 per cent.

Meanwhile, Algonquin Power continues to provide a return in Baydoun’s projections, with his EPS estimate set at $0.71/share in 2021, growing to a projected $0.75/share in 2022, then to a projected $0.75/share in 2023.

In terms of valuation, the consensus views Algonquin Power in a positive light, with a projected reduction from the reported 20.8x in 2020 to a projected 17.1x in 2021, then to a projected 13.5x in 2022. The consensus P/E multiple projections follow a similar trajectory, dropping from the reported 21.9x in 2020 to a projected 19.6x in 2021, then to a projected 18.6x in 2022.

“AQN offers investors a well-balanced mix of growth and income with a diversified business model (regulated utilities & non-regulated power), healthy medium-term growth (about seven to nine per cent annual Adj. EPS and FCF/share growth through 2026), an attractive dividend profile, and upside from additional growth initiatives,” Baydoun said.

With the update, Baydoun maintained a “Hold” rating and C$20/share target price on AQN for an implied return of 18.8 per cent at the time of publication.

Algonquin Power’s stock price has dropped by 19.4 per cent over the past year, getting to a high point of $22.54/share on February 11 before gradually falling ever since, closing Friday at a 52-week low of $17.36/share.