Algonquin Power & Utilities Corp T.AQN

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Atlantica Sustainable Infrastructure Strategic Review 2.0

OUR TAKE: Neutral. Atlantica Sustainable Infrastructure (AY-N, not covered) announced that its board of directors has commenced a strategic review process. The process has the support of Algonquin which owns 48.96m common shares (~43% of shares outstanding), representing a $1.3b investment. In 2019, a similar strategic review process was undertaken, and at that point we assumed Algonquin was looking for a new partner. We believe Algonquin is now looking for an exit. We view Algonquin’s Atlantica investment as non-core and believe the market would look favourably on its monetization. We keep our Sector Perform rating, though acknowledge we believe the risk / return for the share price is skewed to the upside. We could become incrementally more positive on the shares once there is additional clarity on the Kentucky Power acquisition and progress has been made on the 2023 funding plan.

KEY POINTS

We view Atlantica as non-core. Algonquin announced the acquisition of its first stake in Atlantica in 2017 (link) and increased its ownership to 43% through various transactions thereafter. We initially viewed the Atlantica stake as a measured way for Algonquin to step into international markets. It also was seen as a vehicle to hold contracted renewable assets that could bear high leverage that would not be suitable for Algonquin’s balance sheet. However, through the years, few joint investments or drop downs into Atlantica were completed. We see limited strategic value in Algonquin’s investment and view it as non-core. Atlantica initiated a strategic review process in 2019 (link). However, the process was terminated in March 2020 given market volatility.

A divestiture would be slightly dilutive. Algonquin equity accounts for its Atlantica stake, and it generates ~$90m of dividend income for Algonquin. Atlantica’s dividend yield of 6.8% is arguably below Algonquin’s cost of equity, and as such, we view it as an attractive divestiture candidate. We expect some limited tax leakage with any potential sale given our estimated average cost base of $21.51 per share for Algonquins' Atlantica stake. As a reminder, our estimates assume that the Kentucky Power acquisition closes (which is a question in itself) and that Algonquin completes $1b of asset sales toward the end of 2023. If we assume that Algonquin’s $1.3b Atlantica stake is monetized and replaces the other asset sales, our EPS estimates move down two pennies. This is largely driven by the larger asset sale size. The sale would also improve Algonquin’s leverage metrics (0.2x debt to EBITDA and 80 bps on FFO-to-debt) metrics.