RBC Full Comments
January 9, 2023
Algonquin Power & Utilities Corp.
Investor update preview: Will management tell investors what they want to hear?
NYSE: AQN | USD 7.19 | Sector Perform | Price Target USD 8.00
Sentiment: Neutral
Algonquin Power & Utilities (AQN) previously announced that it plans to host an investor update call on Thursday, January 12, 2023, at 8:00am ET. The President and CEO (Arun Banskota) and the CFO (Darren Myers) will provide a business update. Dial-in details: 800-806-5484 (Event Passcode: 3616196#). Click here for the webcast link. The investor update is highly anticipated after management cut its 2022 EPS guidance and pulled its longer-term outlook in November 2022. In addition to the roll-out of 2023 EPS guidance, we believe investors will be looking for more clarity on the pending $2.6 billion Kentucky Power (KP) acquisition, the dividend, the capital and funding plan, and some comments about potential asset sales and the balance sheet with respect to maintaining an investment grade credit rating.
• Will AQN remain committed to the Kentucky Power acquisition? Unless AQN has made alternative arrangements with AEP (seller), AQN will be required to use reasonable best efforts to close the transaction and potentially file another application to the FERC for approval. However, if the process extends past the April 26, 2023 Outside Date, AQN may have the option to terminate the transaction and pay the $65 million termination fee. Investors that we have spoken to all prefer that AQN not move forward with the transaction, but management may be limited in what they can say about their commitment to the transaction.
• Smaller capital plan needed. Due to the decline in AQN's share price, we don't expect the company to access the equity markets over the next several years. As a result, the company will need to internally fund its capital plan through asset sales, retained cash flows, the DRIP (assuming it won't be turned off), and on balance sheet. For reference, the current 5-year capital plan outlined in December 2021 is $12.4 billion over the 2022-26 period.
• Will the dividend cut be large enough? Under a self-funded growth scenario, we believe that AQN will need to significantly reduce its dividend. At the current dividend rate, we forecast AQN's 2022/23 payout ratios to exceed 100%. We believe a 30-50% dividend cut is appropriate, potentially at the higher end of the range if AQN acquires KP. We also believe that the company's 80-90% payout ratio target is far too high if the company needs to self-fund its capital plan.
• Further asset sales required. Management previously messaged that with respect to asset divestments, all assets are on the table, except for electric utilities. We believe the company can continue to divest assets and investments in its renewable energy group, including its ~$1.3 billion stake in Atlantica Sustainable Infrastructure. • Taking steps to maintain an investment grade balance sheet. The company's exposure to floating interest rates is a large headwind, and the pending acquisition of KP could roughly double the company's amount of debt with floating interest rates to $3.3 billion. Maintaining an investment grade credit rating is one of management's top priorities, and we believe the company will take steps to bolster its balance sheet (e.g., asset sales, dividend cut, and a smaller capital plan).
• Expecting 2023 EPS guidance, but details could be lacking on its longer-term outlook. We expect management will put forward 2023 guidance. Our 2023 EPS estimate is $0.67, which compares to consensus of $0.70. Due to the level of uncertainty with respect to the pending KP acquisition and potential asset sales, management's 5-year outlook may lack details