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8/13/20 Conrad's Utility Investor Live Chat
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AvatarRoger Conrad
1:56
Greetings everyone. Thank you for joining this Conrad's Utility Investor subscribers only live chat.
1:59
First a couple of ground rules. There is no audio. You'll need to type your questions in and I will get to all of them as soon as I can answer them comprehensively and concisely. I will keep the chat going as long as there are questions in the queue to answer, as well as from the emails we've received prior to the chat. And you'll be sent a link to the published transcript of all Q&A from the chat shortly after I sign off.
2:00
I'm going to start as I always do, by posting answers to questions from emails we received previous to the chat. There are quite a few so please be patient. Now let's get started!
Q. I just noticed that while you used to cover and recommend Suez (Paris: SEV, OTC: SZEVY) in the Aggressive Portfolio—as "SZEVY at under $6.00—you are now showing it as SZEVF at under 14. Why the change in symbols or issues covered? How are they different? Which is preferrable and is SZEVY still buy under $6.00?—Mr G
 
A. Basically what happened is Suez delisted its American Depositary Receipts that had traded in the US with the counter under the symbol SZEVY. In its place, the company has launched a new “Level 1 ADR program” in the US designed to attract American ownership.
 
The securities now actually trade under the symbol “SZSAY” with essentially the same terms. And my information is that if you owned SZEVY, you now own SZSAY, which like the former SZEVY is a receipt for one-half of one Paris traded share priced in US dollars rather than Euros.
Due to lack of an available price at press time, however, I was forced to list the company in the Portfolio tables using the Paris-listed shares, which are traded over the counter as SZEVF. And since these represent one Paris traded share, the price and highest recommended point are essentially twice what old SZEVY was.
 
As I said in the August issue, there’s no change to returns, but prices and dividends shown in the portfolio tables are now twice previous levels. And now that SZSAY is actively trading, I will be using that symbol going forward in Portfolio tables.
The most important thing about Suez is Q2 results were quite strong and demonstrate management is still executing on its long-term profitability plan, despite Covid-19 fallout in multiple areas of its business. There’s also potential for M&A the next few months.
 
So to sum up, if you’ve been swapped into the new ADR traded under the symbol SZSAY, my advice is to buy below 7, just as it was for the now cancelled ADR traded as SZEVY. If you own as SZEVF, the buy target is 14.
2:01
Hi Roger. I've been nibbling on EIX below $54/ share, just wondering if you could expand a little on the comment in the August newsletter below. I'm not sure what the implications are: "California’s consideration of eliminating water utility decoupling bears watching for state electrics like Edison International (NYSE: EIX)." Thanks-- Dan E.
 
A. First, I apologize for any confusion resulting from that comment. Basically, California’s electric utilities operate purely distribution and transmission systems under a fee for service model. This “decouples” revenue from actual demand for electricity and natural gas. And it means earnings have been to date insulated from Covid-19 fallout’s impact on demand.
 
Edison is purely an electric utility, so the decoupling applies only to power, PG&E Corp (NYSE: PCG) and Sempra Energy (NYSE: SRE) distribute both electricity and gas, so decoupling applies to demand for both commodities.
To date, there’s been no official challenge in California to decoupled rates for these companies. What we did see last month, however, was a member of the state Public Utilities Commission propose eliminating decoupling for water utilities, which like the electrics are also now compensated on a fee for service basis with the amount not affected by water volumes shipped on their systems.
 
Decoupling has been around since early in the previous decade and has arguably been extremely successful incentivizing utilities to find ways to promote conservation. It’s also made their earnings highly predictable, which has resulted in an extremely low cost of capital.
The water utilities have used their ability to access cheap money to make capital investments that have improved efficiency in a state that obviously experiences frequent droughts. The electrics have had a rockier time because of the state’s doctrine of “inverse condemnation,” which essentially makes them the insurance company of last resort for wildfire damages.
 
But arguably, the assurance of decoupled rates was a major factor allowing PG&E to exit bankruptcy. And if the state is to have any prayer of transitioning to a carbon neutral energy system—including transport—by mid-century, it’s going to need huge investment from its utilities to get there in the kind of grid investments to support electric vehicles etc.
2:02
It’s hard to see how that gets done if decoupling comes under threat, as the added earnings volatility will almost certainly trigger a spike in cost of capital. But it’s also easy to see why politicians and regulators would consider action to take a bite out of utilities in tough economic times.
 
I didn’t mean to imply that action is imminent here. And at just 11.7 times expected 2020 earnings, Edison is trading at an extremely discounted valuation, pricing in a great deal of bad news that frankly isn’t likely to happen. My view is that discount is due to lingering concerns about the ongoing wildfire season and how well the state’s insurance system will work—and that it will narrow as these mechanisms demonstrate in real time the compelling case they made when they were still on the drawing board.
I also believe the odds favor decoupling being upheld and extended for California’s utilities, even as it’s now being increasingly adopted in other states. But I do intend to monitor this particular case closely to make sure I’m right. And I would consider a real movement toward rate decoupling as undermining the case for the state’s utilities, even at this low level of valuation.
Q. Hi Roger. In the early days of the Covid-19, both you and you partner Elliott Gue felt we would see a "W" shaped economic recovery. In fact, Elliott had about a 2-hour Deep Dive Investing presentation on just that. But so far, the reaction has been more "V" shaped. What's your vision for what's to come for the economy and for energy?--Mr G.
 
A. The S&P 500’s recovery since late March has definitely had a “V” shape. And the big technology stocks on the Nasdaq 100 hit new all-time highs in June and have never looked back. If you look at the “value” side of the market, however, you’re still about two-thirds of the way back to the mid-February peak.
 
That includes the Dow Jones Utility Average, though the more renewable energy focused stocks like NextEra Energy have made new all-time highs this summer. It also very much applies to the oil and gas sector: There have been nearly 70 dividend cuts this year in our Energy and Income Advisor coverage universe. And even high quality companies like Enterprise
2:03
Products Partners (down -35 percent) are well underwater year to date.
 
Bottom line is it’s still a mixed bag right now for the stock market as far as whether you call this a V shape recovery, a “W” or even an “L” as it is for many companies. And I think you can say the same things about the economy as a whole as well—maybe not a “W” as we had originally thought, but hardly a universal V either.
 
That said, as I wrote in the August CUI feature article, the earnings of Utility Report Card coverage universe companies provide valuable clues for what is actually happening in the economy—and in fact I think they’re especially valuable this time around since so many people are only looking down at the situation from 30,000 feet.
What the data shows is some sectors of the economy and stock market are doing extremely well. But others are in tatters, while most really just more or less muddling through. That makes it extremely important for us investors to look closely at everything we own to make sure it’s on the right side of that divide. And that task is made even more complicated by the fact that everything here is dynamic—you can’t count on what’s done well one quarter to live up to expectations the next.
 
I’ve identified the past several months where I think companies are truly vulnerable, and where I think investors are misreading the situation by either pricing in too much or too little risk. And I think making good decisions based on those underlying themes is what’s going to separate good investment performance from underperformance over the next 6 to 12 months—as we wait on a vaccine for Covid-19 and continue to count on federal largesse to see us through until that happens.
Q. Will you please comment on prospects for MPLX LP (NYSE: MPLX), now that we have had time to see more of the impact of COVID-19 and the turmoil in energy markets?--Paul J.
 
A. MPLX is not among the handful of midstream and energy companies I track in Utility Report Card. But it’s very much a continuing recommendation for Energy and Income Advisor for several reasons.
 
First, we believe the share price reflects too much dividend risk at a yield of 14 percent plus. Coverage was very strong at 1.39 times in Q2, which was the worst in memory for both of its key businesses oil and gas gathering and refined products throughputs. And the company stayed on track to generate excess cash flow next year after all CAPEX and dividends paid.
Since then, the company has reported improved operating metrics at its major assets and key cost cutting efforts on track as well. Debt to EBITDA at 4.1 times is probably higher than what management would want to see. But it also indicates little real pressure on the balance sheet, which is still rated the equivalent of BBB at all major agencies. There’s no maturing debt in 2020 and the bonds of April 2058 yield just 4.34% to maturity—which means the company’s refinancing efforts can actually cut its interest costs as an opportunity.
 
The big issue at MPLX is what its general partner and 61.15 percent owner Marathon Petroleum (NYSE: MPC) ultimately decides to do with it. Speculation for well over a year has ranged from spinning the company off or selling it to converting to a corporation.
Marathon has been under pressure from activist investment firm Elliott Management to make a move but it looks like Covid-19 fallout has put everything on hold for the time being. And there are other considerations, such as the tax burden Marathon would incur.
 
What has been happening is a series of incremental moves to help both companies, since MPLX now contributes the lion’s share of Marathon’s earnings. That includes a transaction on July 31, which transferred MPLX’ wholesale distribution business to Marathon in exchange for redeeming $340 million MPLX units. The deal reduces risk for MPLX while further focusing operations. And it increases distributable cash flow per share as well.
2:04
Our view is if there is a conversion or spinoff, it will be shareholder positive—since Marathon is on the same page with other investors as a 61.15 percent owner. MPLX also owns 9 percent of the Dakota Access Pipeline and 100 percent of the Tesoro High Plains pipeline that feeds it. Management estimates $100 million of potential EBITDA exposure if the court orders the pipeline shut.
 
That’s roughly 2 percent of total annual EBITDA, not enough on its own to trigger a distribution cut, especially if the overall business continues to recover. MPLX is not without risk clearly. But we see value and continue to recommend it.
Q. My question for the August 13th chat is what are the best takeover stocks with a time horizon of 12 months? This could be either utilities, MLPs, or energy stocks.—Kurt C
 
A. My takeover target strategy is based on a simple premise. I never want to buy any company I wouldn’t want to own if no deal ever materializes. That cuts down on the number of stocks I’m ever actively considering. And it leaves me out of some potential deals. But it also keeps me out of stocks with failing businesses that will keep sliding if there’s no deal. And it’s also pretty good protection from “takeunders,” where buyers are able to use current circumstances to buy for less than a company is worth.
 
At this point, I think there’s appeal in some of the small fiber broadband communications companies, particularly Alaska Communications (NSDQ: ALSK), which I last recommended as a 2020 pick for communications in the July feature article. I would generally be wary of most small telecoms, however, as they are relentlessly losing
business to larger and better-capitalized companies.
 
I think several small to mid-sized natural gas distributors have become attractive targets again. South Jersey Industries (NYSE: SJI) is one we hold in the Portfolio. Small to mid-sized electrics are as well and I believe Centerpoint won’t remain independent long once it’s able to carve out a deal for its 50 percent general partner and 53.7 percent limited partner interest in Enable Midstream.
 
Finally, the remaining yieldcos like Atlantica Sustainable Infrastructure (NSDQ: AY) and Clearway Energy (NYSE: CWEN) may stay independent a while longer, as share prices have risen to decrease cost of capital for expansion. But they like smaller power producers—Atlantic Power, Boralex, Innergex—are all growing and are still cheap. We track a number of oil and gas potential targets in Energy and Income Advisor.
2:05
Q. What should I do with the following? Buy more, hold or sell: Enable Midstream (NYSE: ENBL), EnLink Midstream (NYSE: ENLC), Enterprise Products Partners (NYSE: EPD), Plains GP Holdings (NYSE: PAGP), South Jersey Industries (NYSE: SJI), TC Energy (NYSE: TRP) and Williams Companies (NYSE: WMB)—Mr. G
 
A. First off, since these are all energy stocks, I invite you to attend our Energy and Income Advisor live chat on August 31. With the exception of South Jersey Industries these companies are all from that coverage universe.
 
I do track South Jersey, Enterprise, TC and Williams in Conrad’s Utility Investor. I also provide some commentary on Enable as it’s a big driver of value for Centerpoint. And I track Plains All-American Pipeline (NYSE: PAA), which basically accounts for all the earnings of Plains GP Holdings.
That said, the short answer is Enterprise, Plains, TC Energy and Williams Companies are all part of a group of 11 North American “Midstreams that Matter” I’ve been highlighting. These are companies that in this mature business are large, financially strong and diverse enough to weather this energy crisis at both ends—falling demand due to Covid-19 fallout and falling prices from chronic oversupply.
 
And doing so while rivals falter means they’re going to emerge in the next up cycle more dominant that ever in the industry. All of these stocks are also cheap and dividends are well protected, as they showed with resilient Q2 results. They’re all buys at prices shown in Utility Report Card.
South Jersey I addressed in the question I answered previously as a takeover target. It’s also a very solid gas distributor with robust customer growth and is on track for a big earnings rebound this year. Enable is more of a speculative pick. I have it as a buy up to 6 on the premise that it will get taken over at a higher price as that as a volumes-sensitive midstream it will get a lift as volumes improve in second half 2020. EnLink we still have rated a sell—not enough heft as a business and the dividend is still at risk.
Q. At one point you had a special presentation that included Enviva Partners LP (NYSE: EVA). What is your current perception of this company? What are the prospects of having it included in the Utility Report Card? Keep up the good work.--Jim N
 
A. Thanks Jim. We do track it in the Energy and Income Advisor “MLPs and Midstream” coverage universe. And it was rated a buy for most of this year until recently, when it exploded upward into the low 40s.
 
I had the opportunity to meet with management several years at what used to be the NAPTP conference, which was the premier event each year for exploring master limited partnerships. And my partner Elliott Gue and I would put together a presentation following it with our observations, as well as picks and pans. It was a great event for us for many reasons, not least of which uncovering and examining up close companies like Enviva.
I really do feel like going there gave us an edge over our competition in the energy investment advisory space, which largely doesn’t exist anymore. And I’m very sorry the conference is no longer the big deal it once was either—though even thriving events I’ve been going to recently like the Edison Electric Institute Financial Conference in November are going to be virtual this year.
 
I wouldn’t wholly rule out adding Enviva to Utility Report Card coverage at some point. It’s more of a materials provider for power generation than an actual provider of essential services. But the business plan of gathering wood waste—mainly fallen trees etc in the heavily wooded Southeast US—processing them into pellets usable to reduce power plant emissions and then shipping them to contracted customers in Europe and Asia is a solid one that’s conducive to delivering reliable dividends.
2:06
With the boost announced this month, they’ve now raised their payout for 20 consecutive quarters. And the solid Q2 results and reaffirmed 2020 guidance (1.2 times coverage ratio) demonstrate the business model’s resilience to Covid-19 fallout. The acquisitions in Georgia just announced should keep the expansion going and most encouragingly they seem to be increasing profitability as they add scale. That includes market capitalization, which is now approaching $2 billion and has made Enviva a lot more investable for larger outfits.
 
Shares may have gotten a little ahead of themselves and I would wait for a pullback to 40 or lower to buy more. That is an increase in the highest recommended entry point currently shown on the EIA website, which reflects the fact that Q2 results are more recent.
Q. What effect do you see in general that the Pandemic will have on Utilities value and corresponding dividends?—Winton H.

A. That’s been the big question for me since the pandemic became a real issue for the US economy and stock market since early spring. And I’ve basically devoted a portion of every feature article since to that question, including the August issue that posted earlier this week.

Now that we have Q2 results in, I think we can say with assurance that Covid-19 fallout has NOT delivered a significant blow to utilities’ earnings and ability to pay dividends.

Companies have not only been able to issue clear guidance but up and down the line they’ve reaffirmed the same numbers laid out at the beginning of the year, before the pandemic became a factor.
For some, the difference maker has been rate mechanisms, such as decoupling revenue from actual demand for energy and water but instead making rates essentially a fee for service. For some, the key has been a big rise in residential demand, which has largely offset the pandemic’s negative impact on commercial and sometimes industrial demand. Effective cost cutting has helped as well.

Second, utilities have also been largely able to keep capital projects on track, which is the fuel for their long-term earnings and dividend growth. That’s both for upgrading existing infrastructure and for electric companies investing in the ongoing energy transition—phasing out coal for natural gas and utilities. This investment is rate based and largely pre-approved by regulators, so it basically adds to earnings as spent.
Third, utilities have so far kept regulators on their side. Earlier this spring, for example, Portland General decided not to raise its dividend as it usually did each year that time. Management at the time said a boost would be insensitive given Covid-19 fallout on its service territory. But late last month it clearly felt comfortable enough to make that move with a boost of 5.8 percent. That’s a clear sign it’s still on good footing with regulators.

So utilities are weathering Covid-19 probably better than any other industry on an earnings basis. What we haven’t seen is that outperformance really manifest in share prices. There was a sharp sector rebound over about three weeks from late March to mid-April. But since then, in contrast to the S&P 500, its rise has been gradual at best, halting at worst—with the exception of more renewable energy focused companies like NextEra Energy.
2:07
In my view, utilities’ underperformance is part and parcel of investor preference for “growth” stocks over “value” and high dividend stocks. But for this rally to continue, value eventually has to take the lead. If value does take the lead, utilities should make up the performance gap on the upside. If it fails to, the rally will sputter out and they’ll outperform by not falling as much as “growth” stocks will.

Whatever the case, utilities have proven their resilience as businesses in the worst economic contraction in at least 90 years. That makes me very comfortable holding the best in class, which are our focus in Conrad’s Utility Investor.
Q. Hi: Still not sure of rationale for Brookfield Renewable’s two share classes: BEP and BEPC. What are the pluses and minuses to the normal investor? What are the long term and short term benefits of one versus the other? Also, T-Mobile US (NSDQ: TMUS) and Verizon Communications (NYSE: VZ) appear to be putting distance between them and AT&T Inc (NYSE: T). What’s your current take on AT&T's performance versus the others?—Jim N.
 
A. I highlighted the mechanics of what was effectively a uniquely structured stock split at Brookfield Renewable Energy Partners (NYSE: BEP) last month in the July 31 Utility Roundup. Basically, for every four partnership units of BEP, investors received one share of Brookfield Renewable Corporation (NYSE: BEPC).
BEPC shares and BEP units are the same in every way—same share of ownership, same dividend—except one. That is BEPC’s quarterly payout of 43.4 cents is taxed as shares of common stock are, while BEP’s identical quarterly payout of 43.4 cents is taxed as a partnership unit. You get a 1099 for dividends paid on your BEPC shares and a K-1 for what’s received from your BEP partnership units.
 
Brookfield made this move because it wanted to open up ownership to large institutions that are unable to own partnership units for various reasons. Management thought doing that would propel both its partnership units and its common shares to a higher valuation, cutting cost of capital and thereby increasing its opportunities to expand and grow earnings and dividends faster. And so far it’s succeeding—as both BEP and BEPC now trade at much higher split-adjusted levels than they did at the beginning of the month.
I don’t really know of any minuses for investors from this. Clearly, both BEP and BEPC share prices have risen. And unlike in most deals where partnerships have sought to expand their investment pool, this one has not hurt common unitholders in any way—as an outright conversion would by levying a big tax bill.
 
There is a decision of sorts for investors here. Mainly, are you benefitted from the tax advantages of holding tax advantaged partnership shares and going through the complication of filing a K-1 at tax time? Or would you be better off owning ordinary common stock without that complication?
 
My view is there are advantages of both and that BEP owners who received the BEPC shares should continue to own both. But the important thing to remember is BEP and BEPC are nothing more than two different ways to own the same company—which is a premier global pure play on long-term contracted “emissions free” power generation.
2:08
That’s a fast growing market, and the companies in it enjoy very low cost of capital as they gain scale, which Brookfield is definitely doing. And the business model is proving itself resilient against Covid-19 fallout and global economic turmoil as well. Both BEP and BEPC are buys on a dip to 40 or lower.
 
As for AT&T, I have extensive comments on the company in the August issue, with the important details on Q2 numbers and guidance in Utility Report Card comments. As you point out, it has underperformed Verizon and apparently T-Mobile on an earnings basis so far in 2020—though I should point out that I found it very difficult to get a good read from T-Mobile numbers on how well the Sprint integration is going. That’s something we’re only going to see in coming quarters, though low interest rates have to be helping with debt refinancing.
It’s important to note that AT&T is not underperforming at the wireless business, which is where it primarily competes with Verizon and T-Mobile. But it is feeling a major drag at its large media and entertainment operations from Covid-19 fallout. And that’s the primary reason for lagging Q2 numbers as well as softer share price performance.

I thought the key numbers for AT&T were still there. That is first and foremost the free cash flow generation, which was robust enough to cover industry leading CAPEX and dividends with billions left over to pay off debt and buy back stock. The company probably more than any other is reaping the benefits of extremely low corporate borrowing costs with extensive refinancing leveling out maturities long-term and cutting interest costs at the same time. And that’s probably the most important thing for preserving the dividends.
I don’t think the stock is going to rebound until there are better results at Warner Media. And no doubt that will be too long for some investors to wait. But at the current multiple and with the core business basically stable, I think AT&T is still a worthwhile holding for more patient, long-term investors. When Warner Media does rebound, this will be a mid-40s stock in short order.
Q. I see that AT&T has been trading below its dream price. Any comments?—Bob J.

A. It’s certainly been right there for a while. But as I answered in the previous question, I think the company is still making the important numbers in an exceedingly difficult environment for the media and entertainment operations, which should still be a primary growth engine for the longer term.

Dream Buy prices as I’ve said are levels we’ve set in calmer times that we’ve deemed would only be reached under extreme circumstances. Those no longer apply for the overall stock market with the S&P 500 on the doorstep of a new all-time high. But it does for AT&T and other companies that have high media and entertainment exposure to their bottom line.
2:09
What’s important for every company that winds up at a Dream Buy price is whether the business inside is still healthy. Clearly some parts of AT&T are struggling now. But the free cash flow picture demonstrates the company overall is navigating this environment, even as other telecoms like Frontier Communications are in bankruptcy that will wipe out its current shareholders.

I never recommend anyone really load up on one particular stock. “Doubling down” in the stock market can pay off. But it’s also a strategy that invites emotion, which can lead to poor decisions. And even the strongest companies can stumble in unexpected ways when they’ve appeared solid.
All this is to say that I believe AT&T stock is very attractive at this price for long-term, patient investors. But investors who already have a good chunk of the company are best off looking elsewhere for fresh money buys that will provide an opportunity for big gains betting on different situations.

For more on the handful of other Portfolio companies that are still trading at or close to Dream Buy prices, see the Portfolio section of the August issue.
Q. Roger. Thank you for all the hard work. My question regards Energy Transfer LP (NYSE: ET). What do the recent earnings tell us about the company? Any changes to your buy rating? Cheers—Ben F.
 
A. Thank you for reading Ben. The big picture for Energy Transfer is the company is so far managing the toughest operating environment in its history. But at the same time, all of its business lines are under varying degrees of pressure, and the current distribution level of 30.5 cents per quarter has to be considered at elevated risk.
 
I highlight the key numbers in my August issue Utility Report Card comments. Probably the most important were Q2 distribution coverage was 1.54 times, even after a -13.8 percent drop in Q2 EBITDA and -20.6 percent lower distributable cash flow. That left $448 million in excess cash to fund CAPEX, which with $3.4 billion still planned for 2020 left a significant shortfall to be covered largely by additional debt.
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