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admin 11.04.2016

Duke Energy (DUK) is a favorite high-yield dividend stock for income investors, and it’s no wonder why.
Regulated utility companies such as Duke can provide safe retirement income with less risk than other types of businesses because of their predictable earnings, government-supported competitive advantages, and relatively low stock price volatility. For these reasons and more, we own several utility stocks in our Conservative Retirees and Top 20 Dividend Stocks portfolios.
While utility companies can be relatively attractive income investments compared to bonds due to their potential for capital appreciation and moderate income growth, it’s still important to diversify a portfolio’s income streams in other sectors.
Let’s take a closer look at Duke Energy’s business to see if it’s a stock we should consider for our utilities exposure.
Duke Energy’s history dates back to the early 1900s, and the company is largest electric utility in the country today with over $23 billion in annual revenue and operations reaching across the Southeast and Midwest regions.
Regulated utilities account for about 90% of Duke Energy’s business mix, but the company also has a commercial portfolio of renewables and gas infrastructure (5%) and an international energy business in Central and South America (5%), which it recently put up for sale.
The company’s regulated utilities primarily rely on coal (29%), nuclear (27%), and natural gas (23%) for its generation of electricity. Building and operating the power plants, transmission lines, and distribution networks to supply customers with power costs billions of dollars, and it would generally be unprofitable and inefficient to have more than one supplier for a region. The downside to the “monopoly” enjoyed by regulated utilities is that their services are priced by state commissions. We think these returns are very reasonable and suggest a generally favorable set of regulatory bodies in Duke’s core operating states.
In addition to the industry’s promotion of stability, Duke’s business has undergone a rather significant transformation over the last five years to improve the reliability of its earnings and cash flows. Duke Energy’s biggest move was its acquisition of Progress Energy in mid-2012 for over $13 billion, significantly enhancing the company’s scale and market share in regions such as the Carolinas. The company next entered the regulated pipeline business in 2014 to help its efforts to replace coal power plants with cleaner and cheaper natural gas generation facilities. Piedmont is a regulated gas distribution company that delivers natural gas to customers in the Carolinas and Tennessee. Regulated gas companies also offer strong and predictable returns on capital (Piedmont’s return on equity is about 10%) and should continue to benefit as a result of the natural gas surplus in the U.S. Compared to electricity sales, which seem likely to slow as energy usage becomes increasingly efficient, gas has a stronger growth profile (Piedmont has investment pipeline growth of 9%). Piedmont will about triple Duke’s number of natural gas customers to approximately 1.5 million and help establish a platform for future growth in gas infrastructure projects. Duke Energy has also gotten rid of non-strategic assets to lower its risk profile and improve the quality of its earnings. Duke Energy believes its current business mix is now 100% focused on its core operations, whereas 25% of the company’s 2011 net income was derived from non-core businesses. Management has simplified Duke’s mix to focus on core regulated businesses that provide reliable earnings and new growth opportunities in natural gas and renewable generation resources. Uncontrollable macro factors such as mild temperatures and industrial activity can impact Duke Energy’s near-term financial results. The bigger risks worth monitoring are changes in state regulations, population growth trends in key states, increased environmental regulations, and execution of the company’s business strategy (e.g. Simply Safe Dividends helps dividend investors increase current income, make better investment decisions, and grow their wealth faster. However, the company is banking on these conditions remaining stable as it continues investing for growth and depending on states to approve rate increases to earn a fair return on its capital-intensive investments.
The Environmental Protection Agency (EPA) also creates risk for utility companies in the form of enhanced safety and emissions standards. Finally, over the very long term, electric utility companies will need to deal with the reality that demand is gradually decaying thanks to increasing energy efficiency and distributed generation (e.g.
Duke has earmarked about $2 billion for growth investments on commercial and regulated renewables over the next five years, but it’s still a relatively small proportion of the overall business.
We analyze 25+ years of dividend data and 10+ years of fundamental data to understand the safety and growth prospects of a dividend. Our Safety Score answers the question, “Is the current dividend payment safe?” We look at factors such as current and historical EPS and FCF payout ratios, debt levels, free cash flow generation, industry cyclicality, ROIC trends, and more. Duke Energy’s Dividend Safety Score of 80 indicates that the company has a very safe dividend payment.
However, regulated utility companies are able to safely maintain higher payout ratios because their earnings are (generally) extremely steady, making utilities one of the best stock sectors for dividend income. Using management’s “adjusted” earnings, Duke Energy’s payout ratio is closer to the company’s target range of 65-70%. Duke Energy’s earnings are steady, but regulators control the rates the company can charge customers to ensure pricing is fair. The capital-intensive nature of utility companies makes them heavily dependent on debt to run and grow their businesses. However, the company’s excellent business stability has enabled Duke Energy to maintain an A- credit rating with Standard & Poor’s. Overall, the stability of Duke Energy’s earnings and non-discretionary nature of its services significantly boost the safety of its dividend payment despite its levered balance sheet and relatively high payout ratio.
Our Growth Score answers the question, “How fast is the dividend likely to grow?” It considers many of the same fundamental factors as the Safety Score but places more weight on growth-centric metrics like sales and earnings growth and payout ratios.
While regulations generally protect utility company’s earnings and market share, they also limit growth opportunities. The company’s Dividend Growth Score is 20, which suggests that its dividend growth potential is lower than 80% of all other dividend-paying stocks in the market.


For most of the last 10 years, Duke Energy grew its dividend by an annualized rate of about 2%. Higher dividend growth will cause Duke Energy’s earnings payout ratio to increase from its 65-70% target to closer to 75% in the near-term as its growth investments continue, but the payout ratio is expected to turn down over time. Since 2009, the company has met its long-term annual adjusted diluted earnings per share growth objective of 4-6%.
Considering the stability of Duke Energy’s earnings, which are largely composed of regulated utility operations, we think the stock is reasonably valued today but not a bargain. For investors seeking exposure to utility stocks and safe dividend income, Duke Energy appears to be a reasonably-priced blue chip dividend stock to consider. One such utility defensive-minded investors should consider right now is Duke Energy (NYSE:DUK). Slow and steady wins the race Last year, Duke Energy did what high-quality utilities do best.
Duke has sufficient financial flexibility to provide further dividend increases in the future. Going forward, Duke management expects solid growth to continue for the foreseeable future, due to further transmission growth and additional cost cuts. Why you can count on Duke Energy Utility stocks can be extremely valuable, especially in times like these when economic growth remains muted. Electricity is something people will use regardless of the current state of the overall economy, and as a result, it's extremely likely Duke Energy will keep profits and dividends flowing through to investors for many years to come.
Duke isn't the only energy company with a yield that might look attractiveRecord oil and natural gas production is revolutionizing the United States' energy position. Duke Energy Foundation Supporting Indiana High School Students’ STEM Career Development through Operation Catapult Scholars ProgramJuly 18, 2014The Duke Energy Foundation is partnering with Rose-Hulman to support Indiana high school students’ interest in careers in science, technology, engineering, and mathematics (STEM). The foundation has provided an $80,000 grant to provide scholarships during the next two years for 24 students from Duke Energy service areas to attend Rose-Hulman’s successive summer STEM career exploration program, Operation Catapult.
Operation Catapult’s goals of promoting STEM learning and careers, as well as providing students with a pre-college experience, are a good fit with the Duke Energy Foundation’s priorities. For 48 years, Operation Catapult has provided high school seniors with the opportunity to explore their interests in STEM areas through collaborative, hands-on, and innovative projects.
Duke Energy Indiana’s operations provide about 7,500 megawatts of owned electric capacity to approximately 800,000 customers in a 23,000-square-mile service area, making it the state’s largest electric supplier. Duke Energy recommends if you get a call demanding payment to hang up and call Duke Energy customer service or police. The company has paid uninterrupted quarterly dividends for 90 years and is set to increase its dividend for the ninth consecutive year in 2016.
However, just because a stock appears to have little fundamental risk does not mean it is a safe investment.
Unexpected shocks can still happen across entire sectors, and no one living off dividends in retirement desires to deal with unpleasant, avoidable surprises when it comes to their nest egg. Hydro and solar generate another 1% of the company’s total energy, and Duke Energy also purchases about 20% of its power. With the exception of Ohio, all of Duke’s electric utilities operate as sole suppliers within their service territories. State utility commissions also have varying degrees of power over the construction of generating facilities, which further restricts competition. This is done to keep prices fair for consumers and allow utility companies to earn a reasonable, but not excessive, return on their investments to encourage them to provide safe and reliable service. Duke Energy has realized over $500 million in cost synergies from the deal and become a more efficient energy provider. In October 2015, Duke Energy announced a deal to acquire Piedmont Natural Gas for $4.9 billion to boost its push into gas.
The company owns valuable gas infrastructure that currently supports Duke’s gas-fired generation in the Carolinas and will be further expanded to help with Duke’s ongoing conversion from coal to gas. This is because new pipelines coming on-line will allow gas to replace dirtier power sources such as coal in regions where gas was previously inaccessible. After the deal closes, Duke Energy expects roughly 90% of its assets to earn regulated returns, which should provide very reliable earnings. Management sold the company’s merchant Midwest commercial generation business to Dynergy for $2.9 billion in early 2015 and placed its struggling Latin American generation business up for sale in February 2016. The company has excellent scale as the largest electric utility in the country and operates primarily in regions with generally favorable demographic trends and regulatory frameworks. While the utility sector is gradually evolving, we believe Duke Energy is here to stay for a long time to come. However, we believe these are transitory issues that have little bearing on the company’s long-term earnings potential. Similar to what we observed when we analyzed Southern Company, another regulated utility, most of the regions Duke Energy operates in have generally favorable regulatory environments and are characterized by positive population and economic growth.
Duke is still dealing with its notorious coal ash spill that took place in North Carolina in 2014, and the company is gradually shifting its mix of power away from coal in favor of cleaner sources such as natural gas.
The company’s acquisition of Piedmont should also help the company with growth initiatives outside of regulated electric utility services. Duke Energy’s long-term dividend and fundamental data charts can all be seen by clicking here. Duke’s dividend has consumed 81% of its diluted earnings per share over the last 12 months. As a state-regulated monopoly company selling non-discretionary services, it’s no surprise to see Duke Energy’s consistent results below.


As a result, the returns Duke can earn on its capital projects are capped, and the company’s return on invested capital has remained in the low- to mid-single digits over the last decade.
As seen below, Duke has less than $1 billion in cash on its balance sheet compared to nearly $40 billion of debt. While the company’s free cash flow will remain restricted the next few years to fund its major growth investments, forcing it to lean even more on debt markets, we still view Duke as a healthy business as well.
As a result, most utility businesses have below-average dividend growth rates, and Duke Energy is no exception.
However, management expects to double the dividend’s growth rate to 4% per year to better reflect an improvement in Duke’s lower risk business mix and core earnings growth rate of 4-6% per year. Assuming Duke Energy’s growth projects continue helping its core businesses realize 5% annual earnings growth over the coming years, the stock’s total return potential appears to be about 9% per year. Almost all of the company’s business mix consists of regulated operations, which provide predictable earnings with low volatility. Of course, there's good reason for this, since utility stocks operate highly consistent businesses that are quite literally a matter of national security. That's because Duke definitely fits the bill as a strong, well-run utility with solid profits and a high dividend yield. The addition of Progress Energy, which Duke acquired last year, added significantly to growth. For example, Consolidated Edison (NYSE:ED) posted just 1% growth in its profits from continuing operations last year, as well as 1% growth in revenue. Like Consolidated Edison, PPL managed a scant 1% increase in earnings from ongoing operations last year. Not surprisingly, it used a sizable portion of its profits to pay a high dividend to shareholders.
It produced $4.35 per share in adjusted EPS last year, meaning its payout ratio stands at a comfortable 71%. The company expects to generate between 4%-6% growth in adjusted earnings per share per year through 2016.
A well-run electric utility like Duke Energy offers the stability of a highly stable business model, reliable profits, and consistent quarterly dividends. Finding the right plays while historic amounts of capital expenditures are flooding the industry will pad your investment nest egg. This funding will also allow high school STEM teachers to attend training and curriculum development workshops. Headquartered in Charlotte, North Carolina, Duke Energy is a Fortune 250 company traded on the New York Stock Exchange under the symbol DUK. The price paid for a stock is still very important, and that is especially true for low-growth utility stocks. A payout ratio this high is usually cause for some concern because it provides less wiggle room in the event of an unexpected drop in profit. While customers use somewhat less electricity during periods of weak growth, they still need it to live. Duke Energy has made quarterly dividend payments since the 1920s and will raise its dividend for its ninth consecutive year in 2016, keeping it a far distance from joining the dividend aristocrats list but rewarding shareholders nicely. And, Duke managed to cut costs as well, which helped support its generous dividend payments throughout the year. In addition, Duke achieved favorable rate outcomes and lowered costs through synergies related to its merger. This year will actually be a difficult one for ConEd, as its management expects earnings from ongoing operations to fall 1% at the midpoint of its 2014 guidance. This year, management expects operating earnings to fall by as much as 12%, driven primarily by challenges in its Supply segment. That should give more than enough room for management to keep increasing its dividend at a modest rate and investing to grow the business. This is especially true in an investing climate like this, where yield is hard to come by due to interest rates that are near historic lows.
For this reason, the Motley Fool is offering a look at three energy companies using a small IRS "loophole" to help line investor pockets. I look for growth at a reasonable price, with a particular fondness for market-beating dividend yields.
The scammers are calling businesses, like restaurants, right before their busiest time saying the power will be turned off in an hour if they don't pay a past due bill immediately.
We will never call you at the spur of the moment, give you one-hour notice and tell you that your power is about to be disconnected. As a result, their revenues are virtually assured, and their track records of stable cash flow and steady dividend payments are indeed impressive. That's why Duke and its 4.3% yield should be on your radar if you're interested in receiving reliable income. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.
To try to improve the situation, management is committed to selling off its Montana hydro assets and cutting costs in the Supply unit.



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