Is the 5% Yield in This Utility Good Enough?

Is Algonquin Power & Utilities Corp.’s (TSX:AQN)(NYSE:AQN) dividend safe? How much upside does the stock have?

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Algonquin Power & Utilities (TSX:AQN)(NYSE:AQN) is doing its job as a stable utility in any portfolio. Despite the market correction from October, the stock has essentially stayed where it was from a year ago. You’ll notice that on the NYSE the stock declined about 7% in that period. This indicates that the strong U.S. dollar against the Canadian dollar has helped lift the stock on the TSX.

Dividend and dividend growth

Dividends are a big reason for holding utilities. At $13.55 per share as of writing, Algonquin offers a yield of just over 5%. The utility pays out a U.S. dollar-denominated dividend, which equates to an annualized payout of US$0.5128 per share.

So, if the Canadian dollar strengthens against the U.S. dollar, your payout will decline from current levels if you’re receiving the dividends in Canadian dollars. Along the same train of thought, the dividend growth will be slower as well.

Algonquin’s five-year dividend-growth rate is 9.4%, while its quarterly dividend per share is 10% higher year over year. Its recent payout ratio was about 80% of adjusted earnings. Its payout ratio has come down substantially from about 127% in 2013. So, its dividend is safer than it was before.

Recent key financial results

To get a sense of Algonquin’s scale, let’s take a look at some of its recent financial information compared to the same period in 2017.

Q1-Q3 2017 Q1-Q3 2018 Change
Revenue US$1,112.5 million US$1,227.5 million 10.3%
Adjusted EBITDA US$497.1 million US$603.7 million 21.4%
Cash from operations US$210.6 million US$361.7 million 71.7%
Adjusted net earnings US$158 million US$241.6 million 52.9%
Dividends declared to common shareholders US$135.4 million US$172.4 million 27.3%
Adjusted net earnings per share US$0.41 US$0.52 26.8%
Diluted earnings per share US$0.26 US$0.29 11.5%
Total assets US$8258.6 million US$9072.6 million 9.9%
Long-term debt US$3,553.7 million US$3561.3 million 0.2%

The increase in assets has roughly matched the increase in revenue, while profitability increased even more with adjusted EBITDA, adjusted earnings per share, and diluted earnings per share up by about 21.4%, 27.3%, and 11.5%, respectively.

Notably, though, the diluted earnings per share in the three quarters did not fully cover the dividends declared in the period. Based on diluted earnings per share, the recent payout ratio would be about 129%. This makes Algonquin’s dividend less safe than Fortis’s and Emera’s, as their dividends are covered by diluted earnings. Algonquin’s debt-to-asset ratio improved from 43% to 39.3% in the period.

Investor takeaway

There’s little near-term upside in Algonquin stock according to analysts. Thomson Reuters has a mean 12-month target of US$10.80 per share on the stock, which represents near-term upside potential of about 5.3%. If you’re looking for value and total returns, I suggest you look elsewhere. That said, the utility offers a yield of roughly 5% which seems safe.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Kay Ng has no position in any of the stocks mentioned.

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