NextEra Energy (NYSE:NEE), a holding company that owns and runs Florida Power and Light, wants to acquire a regulated utility. NextEra Energy stock, the largest publicly traded utility, is bound to do well — if only it get another utility to agree to a merger or acquisition.
The Wall Street Journal recently reported that NextEra Energy recently was turned down by Duke Energy (NYSE:DUK) in its takeover offer. The problem is that the story was light on details on the offer, and neither party confirmed the offer attempt.
Nevertheless, it shows that NextEra Energy is on the warpath. It wants to expand. For example, NextEra Energy stock has a $147 billion market value. By contrast, Duke Energy comes in at just $68 billion. NextEra could have easily gobbled up DUK stock through a mixture of cash, stock and new debt.
Moreover, The Wall Street Journal called it a “renewable-energy giant” based on its expansion into non-gas and coal sources of energy production in the past several years. According to The Motley Fool, the combined company, should Duke Energy change its mind, would be a “behemoth.”
Here is why:
“Duke has operations in Florida, the Carolinas, and the Midwest. In 2019, NextEra generated $19.2 billion in revenue; Duke Energy had $22.8 billion in revenue.”
Importantly, NextEra Energy is the largest producer of wind and solar energy, and among the largest battery storage companies in the world.
However, the fundamental problem is that NextEra Energy is struggling to find a partner for a merger or acquisition. There are major hurdles to getting any deal passed by regulators and political forces. One of the biggest of these challenges is simply to appease the selling utility. Will NextEra Energy find success in this quest? And if it does, what would that mean for NextEra Energy stock?
Stellar Finances Back NextEra Energy
What I like about the company is — unsurprisingly — its large cash flow. Its cash flow is high enough so that over the past several years, while it has been investing in renewable energy, it did not take on extra debt.
Moreover, NextEra Energy stock pays a significant dividend that it has been able to finance solely through cash flow. For example, the dividend per share is $1.40 per quarter, and the next dividend is likely to be declared on Oct. 30.
What is interesting is that after this dividend announcement it is likely that NextEra Energy will raise the quarterly dividend. This is because the company tends to raise the dividend after every four quarterly payments. That represents a potential catalyst for NextEra Energy stock.
For example, the $5.6o annual dividend might increase by 60 cents per share, based on its previous increase. That would make it $6.20 on an annual basis. Since the stock price is just over $300 per share, the dividend yield will be just over 2%. That is a reasonably good dividend yield.
Moreover, the company seems to be able to afford this dividend on a cash flow basis. For example, Seeking Alpha shows that over the past year, the company produced $8.7 billion in cash flow from operations. But its common stock dividends cost just $2.6 billion.
What to Do With NextEra Energy Stock
The fact that NextEra Energy seems to be stuck in Florida for its growth is concerning. Unless it can convince another utility to agree to a merger or acquisition, its growth will be geographically limited.
I am also a bit concerned that the stock is now overvalued. For example, in the past year, NextEra Energy stock is up 29%. On a year-to-date basis, the stock is up 24%. That is pretty good for a utility stock.
By contrast, Duke Energy stock is down 3.4% in the past year, and up just 1% on a year-to-date basis. The Southern Company (NYSE:SO) stock, another electric utility, is down 4.6%, and down 8.5% year-to-date. Xcel Energy (NASDAQ:XEL) is up 14% on both a one-year and year-to-date basis. So NextEra Energy stock has done much better than its peers.
However, as a result, the stock now has a premium price-earnings ratio. Seeking Alpha says that its forward P/E is 33.4 times this year and 30 times next year. I am not comfortable with that, especially when its peers are much cheaper. For example, Xcel Energy is at 24.6 times next year’s earnings. Duke Energy is at 17.6 times earnings next year earnings, and The Southern Company has a similar P/E.
Moreover, its historical P/E ratio for the past five years has been 21.7. In addition, NextEra Energy stock is at a lower dividend yield than its normal average over the past four years. That implies that the stock might fall to reach its average higher dividend yield.
Therefore I suspect that its valuation may be too high. Unless, that is, NextEra Energy can figure out how to buy another utility company at a much lower price-earnings valuation.
On the date of publication, Mark R. Hake did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.