Integrys Energy Group Inc.
/ (TEG-NYSE)/ Equity Research / TEG | Page 1
Current Recommendation / NEUTRAL
Prior Recommendation / Underperform
Date of Last Change / 12/10/2012
Current Price (12/07/12) / $53.37
Target Price / $56.00
SUMMARY
We upgrade our recommendation to Neutral fromUnderperform on Integrys Energy Group on the back of positive rate outcomes in the company’s People Gas;NorthShore and Upper Peninsula business wings. The company’s ambitious Chicago Main Replacement program is progressing well and a portion of it is coming online in 2012, which will certainly aid in future growth. Additionally,its divestment of non-core Westwood, BeaverFalls, and Syracuse units will open up options for the company to engage in multiple high-return ventures. However, regulatory pressures, seasonal demand volatilities and unplanned outages are matters that remain a concern./ Equity Research / TEG | Page 1
SUMMARY DATA
52-Week High / $61.3052-Week Low / $50.37
One-Year Return (%) / 9.25
Beta / 0.80
Average Daily Volume (sh) / 367,780
Shares Outstanding (mil) / 78
Market Capitalization ($mil) / $4,163
Short Interest Ratio (days) / 10.37
Institutional Ownership (%) / 51
Insider Ownership (%) / 2
Annual Cash Dividend / $2.72
Dividend Yield (%) / 5.10
5-Yr. Historical Growth Rates
Sales (%) / N/A
Earnings Per Share (%) / 1.8
Dividend (%) / 0.4
P/E using TTM EPS / 15.8
P/E using 2012 Estimate / 16.2
P/E using 2013 Estimate / 15.5
Zacks Rank *: Short Term
1 – 3 months outlook / 3 - Hold
* Definition / Disclosure on last page
Risk Level * / Low,
Type of Stock / Large-Value
Industry / Util-Elec Pwr
Zacks Industry Rank * / 73out of 267
OVERVIEW
Chicago, Illinois-based Integrys Energy Group is a diversified holding company providing products and services in both regulated and non-regulated energy markets, through its subsidiaries. In addition, the company has a 34% equity ownership interest in American Transmission Company LLC (ATC), an electric transmission company operating in Wisconsin, Michigan, Minnesota, and Illinois.
Integrys Energy conducts its regulated utility operations through six wholly owned subsidiaries – Wisconsin Public Service Corporation, Upper Peninsula Power Company, The Peoples Gas Light and Coke Company, North Shore Gas Company, Michigan Gas Utilities Corporation, and Minnesota Energy Resources Corporation. These regulated operations serve customers in Illinois, Michigan, Minnesota, and Wisconsin. The company’s regulated business is divided into two segments – Electric Utility and Natural Gas Utility.As for the non-regulated energy service subsidiary, the company has shifted its focus from growth in wholesale and retail electric markets to a more inclusive operation within select retail electric and natural gas markets in their current market footprint. Integrys is often involved in short-term and long-term power purchase agreements to meet a part of their energy supply needs.
Source: Company
- Wisconsin Public Service Corporation, an electric and natural gas utility serving approximately 440,000 electric customers and 319,000 natural gas customers within its 11,000 square miles of service areas in northeastern Wisconsin and an adjacent portion of Michigan's Upper Peninsula.
- Upper Peninsula Power Company, an electric utility serving approximately 52,000 customers in the rural countryside of Michigan's Upper Peninsula.
The Peoples Gas Light and Coke Company is a natural gas utility serving roughly 826,000 residential, commercial and industrial customers in the city of Chicago.
- North Shore Gas Company, a natural gas utility serving approximately 158,000 customers in the northern suburbs of Chicago.
- Michigan Gas Utilities Corporation, a natural gas utilityserving approximately 166,000 customers in Lower Michigan.
- Minnesota Energy Resources Corporation, a natural gas utility serving approximately 213,000 customers throughout Minnesota.
In 2011, the company served approximately 1.7 million regulated natural gas utility customers and approximately 493,000 regulated electric utility customers.
Integrys Energy conducts its non-regulated operations, serving competitive energy markets in the northeastern quadrant of the United States, through its wholly-owned diversified non-regulated energy supply and services company Integrys Energy Services. It invests in and promotes renewable resources,mainly solar and also provides energy solutions to its customers. The non-regulated business has an asset portfolio of 267.7 megawatts of electric generation facilities of which 241.4 megawatts come from fossil generation, 20.2 megawatts from solar generation and 6.1 megawatts from landfilled gas fueled facilities.
In addition to the regulated and non-regulated segments, Integrys Energy has an Electric Transmission Investment segment consisting of its ownership interest in ATC. The company also has a Holding Company and Other segment that includesthe operations of the Integrys Energy Group holding company and the PEC holding company, along with non-utility activities of its six regulated subsidiaries.
Source: Company
REASON TO BUY
Integrys’ six regulated utilities provide a strong foundation, offering ample investment opportunities with more predictable and increasing earnings. In addition, the company continually looks for opportunities to manage costs and keep rates as low as possible. In an effort to improve its risk profile and lower capital requirements, the company successfully completed strategic repositioning of its non-regulated Integrys Energy Services segment, shifting focus to growing and managing its traditional utility operations.The company expects annualized earnings per share growth of 4% to 6% from 2011 to 2015.
We believe that the company’s goal of providing long-term value to shareholders and customers as well as maintaining an effective portfolio mix of generation assets and natural gas distribution properties would propel its stock position in the coming years. Integrys’ Main Replacement Activity project in Chicago has been progressing well and 130-135 miletransmission lineswill come online in 2012. The company divested its non-core merchant generation assets – the Westwood, BeaverFalls, and Syracuse facilities – the proceeds of which will enable Integrys to invest in high-quality ventures thereby boosting growth opportunities. Besides, Integrys’ 34% ownership in the American Transmission company is anticipated to continue contributing to the company’s top-line in the nearterm.
Integrys strives to maintain strong financial and sound liquidity positions to keep its growth momentum on track.The company plans to shell out capital resources of $2,704 million through the period 2012 to 2014 for funding itsongoing operations and to meet future capital requirements.The company kept its quarterly dividend rate unchanged at $0.68 per share on common stock. The strong balance sheet performance and consistent dividend are expected to boost the company’s stock outlook in the coming years.
Favorable rate case outcomes in the company’s People Gas, NorthShore and Upper Peninsula businesses will provide a thrust to the near-term top-line growth. The Wisconsin subsidiary also received approval from the regulatory authorities related to the proposed rate increase which will contribute to revenue growth.
REASONS TO SELL
Integrys Energy’s earnings are sensitive to seasonal variations as a result of which customer demand for electricity and natural gas varies according to changing weather patterns. A particularly warm winter would lower consumption of electricity and this in turn would reduce demand and adversely affect margins. Fluctuations in macroeconomic conditions also disturb energy prices which negatively impacts company’s potential growth. The warmer than normal weather in its service territories in the first nine months of 2012 lowered the earnings of the company by $27 million or $0.34 per share.
The Federal Energy Regulatory Authority (FERC) allows certain Integrys subsidiaries to sell generation from their facilities at market based prices. However, it also has the authority to withdraw this policy. In the event FERC determines that the market is not workably competitive, price charged by the firm is unreasonable or if there is non-compliance by the company to federal regulatory rules, it could compel the subsidiaries to sell power at prices based upon the costs incurred in production. If this happens, Integrys’ revenue and margins could be negatively impacted with reduction in rates authorized by FERC.
Since a major part of Integrys’ physical assets are fixed like plants and machineries, any unexpected natural disaster, equipment failures or absence of proper modernization of infrastructure, the company’s operations could be severely hampered.
Marketability of Integrys’ electric and natural gas generation is dependent on third-party transmission facilities. If any unexpected event befalls on these third-party systems, the company’s operations and financials would be severely affected.
RECENT NEWS
Integrys Energy Beats EPS, Ups View November 5, 2012
Integrys Energy Group, Inc. reported third-quarter 2012 pro forma earnings of $0.55 per share, outshining the Zacks Consensus Estimate of $0.38 per share. The quarter’s results were significantly up from the year-ago figure of $0.42 per share.
The results were driven by rate increases effective from January 2012 at The Peoples Gas Light and Coke Company, North Shore Gas Company, and Upper Peninsula Power Company. However, these were partially offset by the impact of lower sales volumes at the natural gas utilities and wholesale electric utility.
The company’s GAAP earnings were $0.83 per share in the reported quarter, up from $0.47 in the year-earlier quarter. The variance of $0.28 between quarterly GAAP and pro forma earnings reflects a non-cash gain of $0.31 per share related to derivative and inventory accounting activities, a tax benefit of $0.07 at the regulated utility segments related to health care reform legislation and loss from discontinued operations of $0.10 per share.
Operating Results
Integrys Energy’s total revenue stood at $927.6 million, marginally down 0.73% from $934.4 million in the prior-year quarter. Reported revenue also missed the Zacks Consensus Estimate of $948 million.
Integrys Energy’s retail electric sales volume in the third quarter of 2012 was 4,010.6 million kilowatt-hours (“Kwh”), up from 3,504.6 million Kwh in the comparable year-ago period. Retail natural gas sales volume was 22.3 billion cubic feet (“Bcf”), up from 18.3 Bcf in the year-ago quarter.
In the reported quarter, Integrys Energy’s fuel, natural gas and power costs declined 7.1% to $228.2 million from $245.7 million in the year-ago quarter. Operating and maintenance expenses in the third quarter of 2012 were $240.6 million, approximately flat year over year. Operating income surged 53.9% to $108.2 million from $70.3 million in the prior-year quarter.
Financial Update
Cash and cash equivalents were $18.1 million as of September 30, 2012 versus $27.3 million as of September 30, 2011. Long-term debt was $1,707.1 million, down from $2,080.7 million as of September 30, 2011.
Guidance for 2012
Integrys Energy Group increased its adjusted earnings for full-year 2012 to the range of $3.22 to $3.88 per share versus its previous expectation of $3.00–$3.15 per share. The increase reflects the company’s continued cost control efforts.
The company expects GAAP earnings per share in the range of $3.19 to $3.37 per share. The guidance reflects continued operational improvements, the availability of generation units, and normal weather conditions for the rest of 2012.
VALUATION
We believethe company’s high-quality Main Replacement program in Chicagoand its string of assets sales will be significant growth drivers in the near term. In addition, successful electric and natural gas rate increases in the company’s People Gas, NorthShore and Upper Peninsula business will propel top-line results in the upcoming quarters.
However, regulatory pressure will continue to put a leash on the company’s financials. Other potential risks include weather variations leading to revenue and reliance on third party for marketability of production.
Shares are presently trading at 15.8x trailing 12-month P/E multiple, compared to the 16.6x average for the industry and 14.4x for S&P 500. The trailing 12-month EV/EBITDA multiple of 7.9x is in line withthe industry average. Over the past five years, the company’s shares have traded in a P/E band of 8.7x to 19.1x. Our target price of $56.00 equates to 17.0x our earnings estimate for 2012.
Key Indicators
Earnings Surprise and Estimate Revision History
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DISCLOSURES & DEFINITIONS
The analysts contributing to this report do not hold any shares of TEG. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts’ personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts’ compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1025 companies covered: Outperform - 16.9%, Neutral - 76.0%, Underperform – 6.2%. Data is as of midnight on the business day immediately prior to this publication.
Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company’s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock’s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively.
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