Utilities
Sector Analysis
Bharat Deore
Nate Druckenmiller
Chris Henschen
Agenda
 Overview
 Business Analysis
 Economic Analysis
 Financial Analysis
 Valuation Analysis
 Recommendation
 Questions
Size of the Utilities Sector
• Utilities – 3.2%
S&P Sector Size – As of February 4, 2011
Overview
Business
Economic
Financial
Valuation
Conclusion
Utilities - Industries
Industry
Market
Cap (B)
P/E
ROE %
Div. Yield
%
P/B
Electric
6,953
13.5
9.7
3.57
1.52
Water
3,529
20.0
7.2
3.11
1.81
Diversified
3,402
13.6
11.8
4.38
1.85
Gas
568
16
12.5
3.73
2.87
Foreign
46
15.4
17.9
3.66
2.98
Valuation
Conclusion
Overview
Business
Economic
Financial
Utilities - Largest Companies
Company
Market Cap (B)
P/E
Ann. Revenue
Ann. Net Income
37.05
21.36
25,511
845
31.51
15.79
17,456
1,975
31.32
11.71
22,627
2,239
28.28
11.05
18,644
2,563
26.79
19.82
9,036
1,365
25.32
8.84
15,118
2,915
23.86
19.32
12,731
1,063
Nextera Energy
23.04
11.61
15,317
1,957
Kinder Morgan
Energy Partners LP
22.53
58.13
7,003
332
PG&E Corporation
18.13
16.36
13,399
1,194
American Electric
Power Company
17.11
14.07
14,400
1,451
Spectra Energy Corp.
16.98
16.31
4,552
843
Public Service
Enterprise Group
16.30
10.02
12,406
1,592
Enterprise Products
Partners L.P.
The Southern
Company
National Grid plc
(ADR)
Exelon Corporation
TransCanada
Corporation (USA)
Dominion Resources,
Inc.
Duke Energy
Corporation
Overview
Business
Economic
Financial
Valuation
Conclusion
S&P 500 vs. SIM Weight
Telecommunica on
Services
2.92%
Materials
3.65%
S&P 500
U li es
3.26%
Consumer
Discre onary
10.30%
Informa on
Technology
18.97%
Consumer Staples
10.21%
Energy
12.70%
Industrials
11.15%
Financials
16.13%
Health Care
10.70%
• Currently underweight 94 bps
Overview
Business
Economic
Financial
Valuation
Conclusion
Performance
YTD
Performance
5-year
Performance
Overview
Business
Economic
Financial
Valuation
Conclusion
Business Analysis
Overview
Business
Economic
Financial
Valuation
Conclusion
Five Forces Analysis
 Industry Rivalry

Low competition; geographic first-mover advantage; new capacity for higher
forecasted demand or efficiency gains
 Suppliers

Low power; highly competitive and fragmented commodity fuel industry prevents
price gouging
 Buyers


Medium power; most end users subject to prevailing regulations
37% Household, 36% Commercial, and 27% Industrial demand
 New Entrants

Low; high barriers to entry; capital and regulation
 Substitutes

Low; natural monopolies with enormous economies of scale
 Sixth Force???
Overview
Business
Economic
Financial
Valuation
Conclusion
Catalysts & Risks
 Catalysts





Excessively hot/cold weather patterns
Improvement in the economy, especially manufacturing
Increased number of households
Favorable “Green Energy” policies
Favorable rate regulations
 Risks




Mild temperatures
New economic recession / slow economic growth
High/variable commodity fuel prices
Unfavorable energy policy and rate regulation
Overview
Business
Economic
Financial
Valuation
Conclusion
Unemployment Rate vs. GDP
15,000.0
14,900.0
14,800.0
14,700.0
14,600.0
14,500.0
14,400.0
14,300.0
14,200.0
14,100.0
14,000.0
13,900.0
11.0%
10.5%
10.0%
9.5%
9.0%
8.5%
8.0%
Nominal GDP
Overview
Business
Economic
Unemployment Rate
Financial
Valuation
Conclusion
S&P 500 vs. Sector vs. Industry
Year End Price Performance
1600
300
1400
250
1200
200
1000
800
150
600
100
400
50
200
0
0
2006
S&P 500
Overview
Business
2007
2008
Utilities Sector
Economic
2009
2010
Electric Utilties Industry
Financial
Valuation
Conclusion
Utilities Power Generation
Overview
Business
Economic
Financial
Valuation
Conclusion
Natural Gas ETF Price
Utilities Sector ETF (XLU) vs.
Natural Gas ETF (UNG)
70
60
R² = 0.714
50
40
30
20
10
0
0
10
20
30
40
50
Utility Sector ETF Price
Overview
Business
Economic
Financial
Valuation
Conclusion
Utilities Sector ETF (XLU) vs.
Oil ETF (USO)
120
Oil ETF Price
100
R² = 0.6084
80
60
40
20
0
0
10
20
30
40
50
Utility Sector ETF Price
Overview
Business
Economic
Financial
Valuation
Conclusion
Utilities Sector ETF (XLU) vs.
Coal ETF (KOL)
70
Coal ETF Price
60
R² = 0.599
50
40
30
20
10
0
0
10
20
30
40
50
Utility Sector ETF Price
Overview
Business
Economic
Financial
Valuation
Conclusion
Regulation
 US Regulation:
 Clean Air Act
 The current administration aims to include CO2 in the CAA
regulations
 American Climate and Energy Security Act (2009)
 Passed the house committee in 2009
 Expected to include structured subsidies to help soften price
increases
 Waxman-Warkey Act of 2009
 Requires a progressive % of power to supply to be produced
by renewables given the supplier generates more than
4GW/Year for public consumption
Overview
Business
Economic
Financial
Valuation
Conclusion
Effects of the Regulation
 Expected to shift employment away from industries hit hardest by
increased costs
 Investments will follow into industries less affected by the regulation
 Could cut foreign investment if other countries don’t follow suit
 Expected to reduce negative externalities over the long run, offsetting
the higher costs to consumers
 Expected to reduce the growth of GDP (congressional budget office) .2 to -3.4% depending on the stringency of the regulation
 Provisions in HR 2454 will directly impact the Coal Industry
 Direct subsidies expected to last until 2026 for the Coal Industry
 $4.1 billion in funding through 2019 to help those who lose employment
Overview
Business
Economic
Financial
Valuation
Conclusion
Financial Analysis – Sector
Revenue and Earnings
45.0000
40.0000
35.0000
30.0000
25.0000
20.0000
15.0000
10.0000
5.0000
0.0000
3.5000
3.0000
2.5000
2.0000
1.5000
1.0000
0.5000
0.0000
Revenues
Overview
Business
Economic
Earnings
Financial
Valuation
Conclusion
Financial Analysis: Margins
Overview
Business
Economic
Financial
Valuation
Conclusion
Financial Analysis: Price/Earnings
Ratio
Overview
Business
Economic
Financial
Valuation
Conclusion
Valuation Analysis
Relative to SP500
High
Low
Median
Current
P/Trailing E
1.1
0.44
0.83
0.79
P/Forward E
1.1
0.48
0.9
0.89
P/B
1.0
0.4
0.7
0.6
P/S
1.2
0.3
0.9
0.9
P/CF
0.8
0.4
0.6
0.6
Absolute Basis
High
Low
Median
Current
P/Trailing E
19.4
8.4
14.4
12.5
P/Forward E
17.8
10.2
14.5
12.9
P/B
2.6
1.1
1.8
1.4
P/S
1.6
0.4
1.1
1.1
P/CF
8.8
4.4
6.4
5.9
• Utilities sector is relatively cheap on an absolute
basis as well as relative to S&P
• P/S is in line with 10 year median
Overview
Business
Economic
Financial
Valuation
Conclusion
Valuation Analysis
Overview
Business
Economic
Financial
Valuation
Conclusion
Valuation Analysis : Across Sector
Utilities
P/Trailing E
P/Forward E
P/B
P/S
P/CF
Overview
Median
14.4
14.5
1.8
1.1
6.4
Business
Electric Utilities
Current
12.5
12.9
1.4
1.1
5.9
Median
15.5
14.9
2.1
1.4
6.9
Economic
Gas Utilities
Current
11.9
12.3
1.4
1.3
5.7
Median
15.8
15.8
2.1
1.1
7.3
Financial
Multi Utilities
Current
23.0
18.5
2.5
0.7
8.9
Median
15.6
14.5
16.0
0.9
6.4
Valuation
Current
13.3
13.1
15.0
1.1
6.3
Conclusion
Technical Analysis
• XLU Utilities ETF
Overview
Business
Economic
Financial
Valuation
Conclusion
Summary
Analysis
Conclusions
View
Business
Mature industry; potential gains
from favorable legislation
Neutral
Economic
Slow growth, with gains strongly
correlated to improvements in the
overall economy
Slightly positive
Financial
Recent revenue decline; stable
profit margin and ROE; declining
net profit margin; very strong
dividend yield
Neutral / Slightly
positive
Valuation
Sector trading at discount
Positive
Overview
Business
Economic
Financial
Valuation
Conclusion
Recommendation
 Stable cash flows, strong dividend yield, consistent
ROE, and low Beta for portfolio diversification
Therefore …
 Increase weight by 94bps to S&P 500 benchmark
 Consider moving cash reserves into sector
 Final weighting: Even with S&P 500 at 3.26%
Overview
Business
Economic
Financial
Valuation
Conclusion
Questions?