Canadian Utilities is still a pass, says iA Capital

iA Capital Markets analyst Matthew Weekes likes the new renewable power acquisition by Canadian Utilities (Canadian Utilities Stock Quote, Charts, News, Analysts, Financials TSX:CU) but he’s still staying on the sidelines regarding the stock. Weekes delivered an update to clients on Thursday where he reiterated a “Hold” rating on CU and $42.00 target price, saying added wind and solar power assets will provide near-term earnings accretion and a clear path to CU’s reaching its renewable energy targets.

Calgary-based Canadian Utilities is a 52 per cent-owned subsidiary of ATCO Ltd with about $20 billion of assets operating in Western Canada, the Northwest Territories and the Yukon, Mexico, Australia and Chile. Over 90 per cent of Canadian Utilities’ earnings are regulated, with the company’s business coming from electricity generation, transmission and distribution, natural gas and water pipelines and retail energy services. 

Canadian Utilities announced on Thursday an agreement to acquire Suncor’s renewable energy portfolio for about $730 million, including four operating wind assets totalling 252 MW of capacity, over 1.5 GW of wind and solar projects in various stages of development and about 140,000 acres of land. The operating assets include the wholly owned 202 MW Forty Mile Wine Phase 1 project, which has an expected commercial operation date of the fourth quarter, 2022, and the development projects include 444 MW of wind and solar projects in near-term development and 1,110 MW in later stages, all of which are in Alberta. The transaction is expected to close in the first quarter of 2023.

“Achieving Canada’s net-zero ambitions without sacrificing affordability and reliability requires that we pursue a range of low-carbon energy solutions, including renewable electricity, hydrogen, and natural gas,” said Nancy Southern, Chair and CEO of ATCO and Canadian Utilities, in a press release. “The people of ATCO are ready to do our part to meet the essential needs of today and tomorrow.”

Looking at the deal, Weekes said it significantly expands Canadian Utilities’ portfolio of renewable power assets and gives visibility for the company to achieve its goal of owning, developing or managing 1 GW of renewable power by 2030.

“The assets also provide an entryway into wind power while positioning CU to generate high-quality earnings growth supported by strong and growing demand for renewable power offtake agreements,” Weekes said.

On the Alberta power market, Weekes noted that the province is deregulated, which facilitates power purchase agreements, it’s strong in wind and solar resources and Alberta is expected to add a significant amount of renewable grid capacity as it retires its coal units and the province moves toward 30 per cent renewable generation by 2030.

“The acquisition is driven by strong fundamentals supporting growth and long-term offtake demand in the Alberta renewable power market, and we estimate ~3.5 per cent near- term EPS accretion from the operating assets,” he said.

Weekes said coal retirements, high gas prices and strong demand for renewable offtakes are contributing to rising pool prices exceeding $100 MW/h. He said prices could normalize over time as coal is replaced with more and more renewables and combined cycle natural gas.

“Based on 72 per cent expected contracted volumes, we estimate EBITDA and EPS contribution of ~$55-70 million and ~$0.07- 0.10/share, respectively, in 2023. We estimate development projects could be constructed and contracted at high-single digit ROEs. We are maintaining our target price as we plan to refresh our sector valuations ahead of Q3 reporting,” Weekes wrote.

Looking ahead, Weekes thinks Canadian Utilities will generate adjusted EBITDA of $1.911 billion in 2022 and $1.962 billion in 2023, while his adjusted EPS has CU going from $2.17 per share in 2021 to $2.39 per share in 2022 to $2.23 per share in 2023. On valuation, Weekes estimated CU’s EV/EBITDA multiples going from 11.3x for 2021 to 10.5x for 2022 to 10.2x for 2023 and the company’s P/E going from 16.7x for 2021 to 15.1x for 2022 to 15.7x for 2023.

Canadian Utilities’ share price has been on a nice run over the past year and a half, with the stock rising from about $32 as of early 2021 to a high of about $41 by July, 2022. CU has pulled back more recently and headed a bit south of $35 in trading on Thursday. Canadian Utilities currently has a dividend yield of 4.9 per cent and a market capitalization of $9.8 billion.

At the time of publication, Weekes’ $42.00 target implied a one-year return including distribution of 21 per cent.