Exelon: No-Smokestack Zone
With its fleet of nuclear plants reliably churning out low-cost electricity, Exelon’s (EXC) energy operation has been generating hefty profits, and seems poised to keep right on doing so. But the Chicago power generator’s once-pricey shares have fallen out of favor with investors.
YCharts Pro says they’ve fallen too far. In fact, its Large Cap Value model lists Exelon shares among the most attractive investments it found.
Exelon’s shares surged a few years ago, when sky-high electricity demand and a number of other positive trends lined up just right. The stock then plunged when recession pinched off energy demand. But now, despite a strengthening economic recovery, investors have stayed away.
Exelon may not be sitting quite as pretty as it was during the go-go days of 2007 and early 2008, but revenue and earnings are coming back nicely.
This company still has a lot of things going for it. Leading the list: It is by far the nation’s leading operator of nuclear power plants.
The energy those nukes turn out is cheap, compared to the juice rival energy providers produce at coal-fired or natural-gas electric plants. So when electricity demand is strong and fossil-fuel prices are high, the wholesale market price of electric energy soars – and Exelon earns fat margins on the power it sells to electric-distribution utilities. (Including its own modest retail energy-distribution operations.)
When global recession hit in 2008, however, demand for electricity weakened – and so did the cost of natural gas and coal. That drop in fuel costs allowed rival energy producers to chop their electricity prices, sending wholesale prices lower and reducing Exelon’s formerly fabulous energy-sale profits.
You can see the sag in the parent company’s margins in the chart below, along with a disproportionately large decline in Exelon’s P/E ratio:
Why should the company’s multiple take such a hit despite still-solid earnings? Despite a rock-solid balance sheet and a continued strong flow of free cash?
The answer is, some investors are concerned about how long current profits can hold up.
Extensive hedging has allowed Exelon to shield profits from being ravaged by near-term price fluctuations, so far. But with natural gas prices currently really low — and likely to remain low – the hedge protection will erode and Exelon’s margins appear vulnerable to a potential major hit beginning in 2012.
Another issue weighing on Exelon is the question of whether the environmentally friendly generator will reap financial benefits from climate-change rules.
As recently as a year ago, it looked as if federal lawmakers were going to impose some kind of price on carbon dioxide emissions, through a tax or some form of cap-and-trade system. That would have raised costs for Exelon’s fossil-fuel-fired rivals, and it promised a profit bonanza for Exelon, because its nukes don’t emit any taxable greenhouse gas.
But with the prospect of carbon regs now dimmed, Exelon investors have over-reacted, overlooking the company’s continued status as a low-cost generator.
Taking the long view, Exelon intends to divert a big slug of the company’s cash to fund a pension plan this year. That one time action will strengthen its financial position, but also will limit share buybacks, which were substantial not long ago.
But Exelon’s once-modest dividend yield has grown increasingly attractive as the stock suffers what we consider an unjustified and likely temporary decline.
Over time, we think Wall Street will come to agree with longtime CEO John Rowe, who told analysts recently that Exelon represents “absolutely the best platform for future upside in our business.”
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