Xcel Power Inc. (NASDAQ:XEL) is likely one of the two utilities in my portfolio – the opposite is Duke Power (DUK). I’ve lined the inventory up to now because it’s one in every of my favourite defensive shares. On this article, I need to assess the inventory from a dividend development investor’s standpoint.
The unhealthy information is that XEL is someplace caught within the center on the subject of dividend development investing. Its yield is under peer common and never what some are on the lookout for when shopping for utilities, whereas its dividend development is not excessive sufficient to warrant an funding in a considerably low yield for lots of traders.
The excellent news is that the corporate scores somewhat excessive in comparison with its friends. Its yield is OK, and dividend development is getting the job finished whereas administration is sustaining a wholesome steadiness sheet regardless of the power transition and dividends. The very best information is that the inventory is doing an incredible job producing worth for its shareholders because it outperforms the S&P 500 on a constant foundation. Moreover, XEL is a inventory that will get this finished with out exposing its traders to excessive volatility, which is likely one of the finest issues a inventory can convey to the desk.
Let me elaborate on all of this.
Low Volatility Issues
On Could 24, I wrote an article that was primarily based on the significance of proudly owning low-volatility shares. The quotes under present the a part of that article highlighting why outperformance in weak financial occasions and a gentle efficiency in bull markets is the important thing to long-term outperformance and wealth creation:
This morning, I learn an fascinating article from Dutch asset supervisor ROBECO, which highlighted the true long-term advantages of low-volatility investing. The graph under reveals the huge pattern of returns between 1866 and 2021 evaluating volatility and compounded returns. What we see is that at a sure level, increased volatility causes compounded returns to break down.
Or as ROBECO places it:
“Which means taking further threat on the inventory market was not rewarded. The image is broadly comparable over the complete pattern interval, albeit returns initially improve together with threat, earlier than trending down once more because the volatility will increase. Usually, this informs us that taking up extra threat is just not essentially rewarded in the long term.”
Furthermore, conservative shares (low-volatility) did persistently higher than their speculative counterparts measures in intervals of 10 years. My apologies for the unhealthy high quality of the 2 charts under, but it surely’s the standard of the web site that I can not affect.
Moreover, and that is extremely necessary to grasp, conservative investments did significantly better throughout bear markets whereas they did sustain throughout bull markets (though with some underperformance). This enables them to outperform higher-risk shares on a long-term foundation. Once more, sorry for the unhealthy high quality of the chart under.
Once I purchase risky shares like Deere & Firm (DE), I do know that the inventory will get punished exhausting throughout i.e., manufacturing recessions. Nonetheless, I additionally know that it’s going to bounce again after a recession with outperforming returns to the upside.
A low-volatility technique is principally shopping for shares that do maintain up properly throughout a downturn. It will get higher when these shares are dividend development shares with speedy outperformance throughout bull markets. Shopping for these shares is the place traders generate spectacular long-term outcomes.
That is the place Xcel Power is available in.
XEL Provides Low Volatility
This Minnesota-based regulated electrical utility is one in every of America’s largest utility firms with a market cap of $41 billion.
The efficiency of Xcel since 2005 is completely improbable. Together with dividends, the inventory has returned 12.5% per yr. The S&P 500 returned 9.4% per yr throughout this era. The very best factor is that the usual deviation of XEL was lower than one full level increased than the S&P 500’s 14.7%. That is leading to the next Sharpe Ratio (0.77 versus 0.61), which is principally a device to check volatility-adjusted returns. Furthermore, the max drawdown throughout this era was significantly better, because it was roughly half of the drawdown the S&P 500 skilled. Additionally, the market correlation may be very low.
Furthermore, the returns stay sturdy utilizing shorter timeframes, which reveals the state of affairs hasn’t modified up to now few years.
In different phrases, technically talking, XEL presents traders outperformance throughout dire financial occasions, whereas it does maintain up fairly nicely with the efficiency of the S&P 500 throughout bull markets. It is an excellent combine to generate long-term drama-free worth.
On prime of that, it is a utility that primarily advantages from inhabitants development and better costs. Utilities are so boring that I test them possibly as soon as each quarter. And that is a superb factor.
The XEL Dividend
This half goes to trigger divided reactions amongst readers as everyone seems to be on the lookout for one thing else on the subject of dividend yields and dividend development.
XEL is paying a $0.4875 quarterly dividend. That is $1.95 per yr. Utilizing the present $75 share worth offers us a yield of two.60%. That is under the common utility yield utilizing the Utilities Choose Sector SPDR ETF (XLU) as a benchmark. It is also under the common excessive yield inventory utilizing Vanguard’s Excessive Dividend Yield ETF (VYM), which can also be yielding lower than 3%. It is actually a dire time for high-yield traders, as even the “excessive yield” Vanguard ETF is not yielding greater than 3.0%.
As I mentioned within the intro, a 2.6% yield is someplace within the center. It is above the S&P 500’s 1.4% yield, nicely above high-growth dividend yields, and under high-yield ranges.
In different phrases, it is exhausting to make an funding case solely primarily based on its yield.
So, what about dividend development?
With the intention to assess that, let’s use the In search of Alpha dividend scorecard for XEL. In comparison with its utility friends, it scores low on yield, which we already mentioned. Nonetheless, it has satisfying scores on the subject of dividend development, security, and consistency – these three are sometimes associated.
On common, over the previous 10 years, XEL’s dividend has been raised by 5.99% per yr. Over the previous three years, the expansion charge is barely increased at 6.38%.
The latest hike was introduced on February 23, 2022, when the corporate hiked by 6.6% to the aforementioned $0.4875 per quarter.
If we assume that dividend development stays at 6%, a 2.6% yield turns right into a 4.7% yield on price 10 years from now. That is a yield traders should buy now after they spend money on sure REITs, power shares, or shopper staples. But, I imagine that it isn’t an argument in opposition to XEL as a result of its dividend yield is unlikely to rise above 3%. This implies traders are very doubtless going to profit from long-term capital positive factors that sure high-yield shares will not have the ability to generate – whereas ready for the two.6% yield to rise.
On this case, the dividend is backed by excessive development charges. XEL may be a “boring” utility firm, nevertheless, its development charges are nothing wanting spectacular. Lengthy-term annual (common) income development is 2.7%, which is sensible because it’s primarily depending on inhabitants development and better costs for its prospects. Be aware that XEL has uncovered its prospects to below-average worth hikes to stay aggressive and to guard its prospects in opposition to excessive power payments. As a matter of truth, one of many firm’s priorities is to keep up common invoice development under the speed of inflation.
Because of increased efficiencies, the corporate has grown internet revenue by 7% per yr over the previous 10 years. Earnings per share (adjusted for share dilution) rose by 5.9% per yr throughout this era.
Between 2005 and 2022E, EPS has grown by 6.1% per yr. Once more, as a result of that is per share information, it does embrace share dilution to fund operations. These development charges allowed the corporate to extend dividend development from the low 3% vary to greater than 6% since 2013.
With that mentioned, what concerning the valuation?
Yr thus far, XEL has returned 11.8% excluding dividends. The S&P 500 is down 14.7% throughout this era. So, for sure, it isn’t a correction alternative as traders have fled in direction of security this yr.
XEL has a $41 billion market cap. As well as, the corporate is anticipated to finish this yr with $25.0 billion in internet debt. Be aware that internet debt is consistently rising because of much-needed investments in clear power options (I mentioned that intimately in my final article). But, the online leverage ratio is anticipated to fall as EBITDA development is outperforming internet debt development, which is essential for the monetary stability of XEL.
When including the market cap and internet debt load to simply $260 million in pension-related liabilities, we get an enterprise worth of $66.3 billion. That is 13.8x this yr’s EBITDA. Utilizing subsequent yr’s internet debt and EBITDA offers us a a number of of 12.8x.
What this implies is that I can recycle the remark utilized in my final article:
It isn’t low-cost, and it isn’t overvalued. It is precisely what one pays for a inventory with sturdy single-digit anticipated EPS development, a yield of two.6%, and mid-single-digit annual dividend development.
Like most shares, there’s a case for and in opposition to XEL. The dividend yield is not low, but it surely additionally is not excessive sufficient to draw traders who purchase utilities for a excessive yield. Dividend development is not as little as we’re used to from some high-yield shares, but it surely’s far slower than what we get when shopping for high-growth dividend shares.
But, this is not a inventory with out a function. XEL is an effective way to generate conservative long-term worth.
The two.6% dividend yield is OK, dividend development continues to be satisfying, and EBITDA and EPS are rising at a robust charge. If historical past is any indication, XEL is an effective way to outperform the market with subdued volatility.
Furthermore, the steadiness sheet is powerful and the valuation is OK.
It is a improbable inventory for dividend development traders wanting so as to add a utility to their portfolio.
(Dis)agree? Let me know within the feedback!