A Capital Markets analyst Naji Baydoun thinks it is likely that Algonquin Power & Utilities Corp. (AQN-T, AQN-N) will walk away from its proposed $2.6-billion acquisition of regulated utility assets in Kentucky after the U.S. Federal Energy Regulatory Commission rejected the deal on Thursday.
FERC ruled applicants have “failed to demonstrate that the Proposed Transaction will not have an adverse effect on rates” and “failed to provide adequate information to demonstrate what, if any, effect the Proposed Transaction will have on rates.”
“We don’t see a strong case for AQN to continue pushing forward on this acquisition given (1) minor upfront per share accretion (impacted by the hybrid debt offerings completed earlier this year), (2) the challenging underlying fundamentals of Kentucky Power Company (KP), (3) KP having a lower organic growth and financial profile relative to AQN’s existing utilities (i.e., dilutive to AQN’s portfolio from lower rate base growth and utility return profile), (4) greening the fleet upside within KP being well into the future, and (5) the potential for new applications to FERC to take up to another year,” said Mr. Baydoun. “If the transaction is not concluded, AQN would pay a $65-million termination fee.”
Though he doubts Algonquin will continue to pursue the deal, the analyst thinks investors need to “recalibrate” their outlook for Algonquin regardless.
“Recall that alongside the Q3/22 results, AQN noted that it is ‘evaluating its longer-term targets and financial expectations’; we expect the 2023 Investor Day to help reset growth expectations closer to regulated utility peers (potentially closer to 4-6-per-cent rate base and EPS growth).” said Mr. Baydoun. “Overall, although the shares reacted positively to the FERC order, we continue to see significant near-term risks as AQN attempts to (1) reposition its portfolio for more consistent per share growth, and (2) regain investor confidence via improved execution and strategic initiatives.”
Keeping a “hold” recommendation for Algonquin shares, he cut his target to $14 from $16. The average is $13.60.
“AQN offers investors a balanced mix of growth and income with (1) a diversified business model (regulated utilities & non-regulated power), (2) healthy medium-term growth (4-6 per cent per year Adj. EPS and FCF/share growth through 2026), (3)an attractive dividend profile (more than 9-per-cent yield, 80-90-per-cent long-term Adj. EPS payout target),and (4) upside from additional growth initiatives (including M&A; excluded from estimates/valuation),” he concluded. “We are revising our price target to reflect lower estimates from higher costs and interest expense, as well as the removal of Kentucky from our model.”
Other analysts making target adjustments include:
* Credit Suisse’s Andrew Kuske to US$11 from US$10.75 with an “outperform” rating.
“With this decision, we do not believe AQN will proceed with an effective path to closing the deal – albeit the necessary (and required) maneuvers will likely be made to avoid potential liabilities arising from a ‘true walkaway,’” he said. “Given the concurring views in the decision (that were scathing at multiple levels as was the lead judgement), we revised our AQN estimates to exclude the KP transaction. We remain focused on multiple paths for AQN to restore confidence in the stock as per our past playbook exercises.”
* National Bank’s Rupert Merer to US$12 from US$12.50 with a “sector perform” rating.