Note: This report contains substantially new material. Subsequent reports will have new or revised material highlighted.
Reason for Report: 3Q17 Earnings Update
Prev. Ed: 2Q17 Earnings Update was done on Aug 30, 2017
Broker’s Recommendations: Neutral: 66.7% (8 firms); Positive: 33.3% (4) Negative: 0.0 (0) Prev. Ed: 10, 4, 0
Brokers’ Target Price: $34.78 ( $0.95 from the last report: 8 firms) Brokers’ Avg. Expected Return: 9.4%
*Note: Though dated Nov 09, 2017; Share price and broker material are as of Nov 07, 2017.
Note: A Flash Update was done on Oct 26, 2017 (3Q17 Earnings Results)
Note: We did not have access to broker reports with positive rating.
Portfolio Manager Executive Summary
FirstEnergy Corp. is a diversified energy company headquartered in Akron, OH. Its subsidiaries and affiliates are involved in the generation, transmission, and distribution of electricity, as well as energy management and other energy-related services. The total capacity of the company’s power generation portfolio is roughly 17,000 megawatts (MW) sourced from coal, nuclear power, hydroelectric, wind and oil.
Of 12 firms in the Digest group covering the stock, eight firms provided neutral ratings and four assigned positive ratings. None of the firms gave a negative rating on the stock. The Zacks Digest target prices range from a low of $31.0 (2.5% downside from the current price) to a high of $39.0 (22.8% upside from the current price), with an average of $34.78($0.95 from the previous report; 9.4% upside from the current price).
Neutral or equivalent (66.7%; 8/12 firms): A few neutral firms believe that the company’s performance is likely to be dependent upon changes and risks associated with revisions in the company’s share prices after it exits its competitive energy business. They prefer to retain a neutral outlook given the uncertainty around the company’s potential liability involving its full exit from Competitive Energy Services and a flattish earnings growth outlook.
Positive or equivalent (33.3 %; 4/12 firms): Out of 12 firms, four firms assigned positive rating to the company.
Nov 09, 2017
Overview
The firms have identified the following issues to consider while evaluating FirstEnergy as an investment:
Key Positive Arguments / Key Negative ArgumentsCompliance Measures: FirstEnergy has undertaken a number of initiatives to meet environmental regulations and mandates.
Balance Sheet: A strong balance sheet excellent operating performance and well-managed merchant power operations are growth drivers for the company.
Investment in Regulated Operation: Investments in regulated operation will drive performance, as the company exits from its competitive energy business completely and convert into a full regulated utility.
Massive Infrastructure Modernization: FirstEnergy is currently involved in a massive infrastructure modernization drive to boost its service reliability. / Operational Risks: FirstEnergy’s generation, transmission and distribution facilities are subject to risks associated with the breakdown or failure of equipment or processes due to an aging infrastructure.
Commodity Price Risk: FirstEnergy is exposed to financial and market risks resulting from the fluctuation in interest rates and commodity prices – electricity, energy transmission, natural gas, coal, and nuclear fuel and emission allowances.
Regulatory Risks: To meet regulatory standards regarding carbon emission, the company has to bear extra infrastructural costs that could adversely impact its bottom line.
High debt levels: FirstEnergy’s debt/capital ratio stands at 76.70% compared with the industry average of 49.25% and the S&P 500’s 41.72%. The high debt level amid the increasing interest rates, hurts margins and profitability.
Headquartered in Akron, OH, FirstEnergy is a diversified energy company. Through its subsidiaries and affiliates, the company engages in the generation, transmission and distribution of electricity, as well as energy management and other energy-related services. Following its merger with Allegheny Energy Inc., the company operates in six states, namely, Ohio, Pennsylvania, New Jersey, New York, Maryland and West Virginia. FirstEnergy has the nation's largest investor-owned electric system. The service areas encompass approximately 65,000 square miles. Further, it serves a customer base of approximately 6 million in these regions.
FirstEnergy’s diverse generating fleet features non-emitting nuclear, scrubbed coal, natural gas, and pumped storage hydro and other renewable energy plants. The company along with its subsidiaries has control over nearly 17,000 megawatts (MW) of clean and low-emitting generating capacity.
Of its generation asset portfolio, approximately 56% consist of coal-fired capacity, 24% of nuclear capacity, 9% of oil and natural gas units, and 11% of renewables.
FirstEnergy provides electricity services through its utility operating subsidiaries namely, Ohio Edison (OE), Cleveland Electric Illuminating Company (CEI), Toledo Edison (TE), Penelec (PN), Met-Ed (ME), Penn Power (PP), West Penn Power (WP), Jersey Central Power & Light (JCP&L), Monongahela Power Company (MP), The Potomac Edison Company (PE), American Transmission Systems, Inc. (ATSI), and Trans-Allegheny Interstate Line Company (TrAIL). The company sells energy and related products and services through its unregulated competitive subsidiaries — FirstEnergy Solutions Corp. (FES) and Allegheny Energy Supply Company, LLC (AE Supply). Further information on the company is available at its website: www.firstenergycorp.com. FirstEnergy’s financial year ends on Dec 31.
Nov 09, 2017
Long-Term Growth
Management is committed to electric and gas service expansion strategies in its regulated service territories. The company's strong fundamentals include a regulated profile, a high-return non-regulated merchant power segment, a solid dividend and an excellent cost-control program. The company’s goal is to maximize the margin potential from each megawatt of electricity produced. It is well positioned to benefit from long-term power market trends such as steady supply/demand conditions.
FirstEnergy has shifted its focus toward regulated operations and has decided to dispose of non-profitable assets. Its capital spending has been primarily directed toward refurbishing its utility-scale infrastructure. In the coming years, the company plans to exit completely from its Competitive Energy Services and focus on its regulated operations, which offers more visibility to its earnings stream.
The company remains on track to meet the capital expenditure target of $4.2 billion over the 2014–2017 timeframe. The company has revised transmission investment in the range of $3.2-$4.8 billion in the 2018-2021 time period.
First Energy currently anticipates regulated earnings per share CAGR of 5%–7% through 2019 from traditional utility growth based on a 2016 weather-adjusted base and 7%–9% when including the Ohio DMR.
In June, 2017, the company completed $3 billion of debt offering and utilized proceeds from issue to refinance old debts. FirstEnergy also used it to lower its dues under the revolver borrowings and further lowered its interest burden amid the rising interest rates.
Firms anticipate a gradual revival in the housing sector in FirstEnergy’s service territories, which will spur the demand for electricity. In order to cash in on this, FirstEnergy intends to strengthen and modernize its utility distribution system to ensure uninterrupted services for its customers.
With the help of an internal Cash Flow Improvement plan, FirstEnergy expects to capture both medium and long-term cost-reduction opportunities which will result in higher-than-anticipated savings. Through 2018, it expects to generate positive cash flows.
Nov 09, 2017
Target Price/Valuation
Rating Distribution
Positive / 33.3%
Neutral / 66.7%¯
Negative / 0.0%
Avg. Target Price / $34.78
Highest Target Price / $39.0
Lowest Target Price / $31.0
No. of Brokerage Firms with Target Price/Total / 8/12
Key risks to the company’s realization of target price include regulatory burden associated with the implementation of pro-environment laws, commodity price sensitivity, interest rate sensitivity, and uncertainty regarding rate case approvals filed by the company.
Recent Events
On Oct 26, 2017, FirstEnergy Corporation reported third-quarter 2017 operating earnings of 97 cents per share, beating the Zacks Consensus Estimate of 86 cents by 12.8%. Quarterly earnings were also up 7.7% year over year. Moreover, the third-quarter earnings exceeded the guidance of 75-90 cents provided by the company during second-quarter 2017.
On a GAAP basis, the diversified energy company reported earnings of 89 cents, in line with the prior-year quarter’s earnings.
On Oct 17, 2017, FirstEnergy’s subsidiary Penn Power recently announced that it is currently concluding work on power line and substation projects worth $15 million to reduce the number and duration of power outages in its service area.
The projects are part of Penn Power's 2016-2020 Long-Term Infrastructure Improvement Plan (LTIIP) approved by the Pennsylvania Public Utility Commission. Notably, the company expects to invest $62 million through 2020 under this project, with an aim to improve infrastructure and distribution lines across the service area.
On Oct 5, 2017, FirstEnergy’s subsidiary Metropolitan Edison Company (Met-Ed) announced that it has successfully completed the upgradation of project equipment worth $3 million at a substation in Reading, PA. The equipment upgrade will enable the company to efficiently meet the increasing electrical demands of 2,500 customers in the Glenside area of the city going forward.
Per the details, the upgradation primarily included the replacement of an old transformer and other equipment built back in 1940. The project upgradation was designed keeping in view the local electric system's capacity without expanding the substation's area or constructing additional power lines.
On Oct 2, 2017, FirstEnergy announced that the company along with its subsidiaries is set to rebuild and modernize an electric transmission line that will enhance the service reliability of its customers in the Western Pennsylvania region.
With the completion of this work, the company will be able to provide customers from West Penn Power and Penn Power in Butler and Mercer counties with reduced frequency and duration of power outages. The same will be achieved by reinforcing the local electric system and using smart technologies.
Revenue
FirstEnergy generated total revenues of $3,714 million in third-quarter 2017, beating the Zacks Consensus Estimate of $3,640 million by 2.04%. Reported revenues were down 5.5% from $3,917 million reported a year ago. The top line declined primarily due to lower contribution from Competitive Energy Services and Regulated distribution segments.
Total electric sales decreased 2,899 thousand megawatt-hours (MWh) or 7% year over year. Residential sales declined 2,275 thousand MWh or 14.1%, while commercial sales fell 777 thousand MWh or 6.5%. Industrial sales improved 150 thousand MWh or 1.2% primarily on account of higher usage by shale and steel customers.
Margins
For the third quarter, FirstEnergy incurred operating expenses of $2,781 million, down 9% from $3,056 million a year ago, primarily due to lower unit cost of fuel and cost of purchased power. Operating income in the reported quarter was pegged at $835 million, up from $861 million in the prior-year quarter.
Earnings per Share
FirstEnergy reported third-quarter 2017 operating earnings of 97 cents per share, beating the Zacks Consensus Estimate of 86 cents by 12.8%. Quarterly earnings were also up 7.7% year over year. Moreover, the third-quarter earnings exceeded the guidance of 75-90 cents provided by the company during second-quarter 2017.
On a GAAP basis, the diversified energy company reported earnings of 89 cents, in line with the prior-year quarter’s earnings.
Guidance
FirstEnergy has revised operating earnings guidance for full-year 2017 in the range of $3.00-$3.10 per share from previous expectation of $2.70-$3.00.
Outlook
The firms with a neutral outlook revised earnings outlook for 2017 and 2018 upwards taking into consideration higher earnings from transmission and shorter than expected nuclear plant outages.
Research Analyst / Sritapa GuhaCopy Editor / Tuhin Roy
Content Ed. / Jewel Saha
Lead Analyst / Jewel Saha
QCA / Jewel Saha
No. of brokers reported/Total brokers / 8/12
Reason for Update / 3Q17 Earnings Update