Launched in 1994 with seed capital of $37,000, Altagas (TSX:ALA, Financial) has grown rapidly into a major diversified midstream pipeline company with assets of $7.6 billion. Revenues of $2.29 billion in 2013 generated $1.02 billion in operating profit along with a free cash flow of $295 million. Market capital now amounts to about $5.2 billion.
ALA conducts its business through three divisions: Midstream and Transmission (45%), Natural Gas Distribution (30%), and Power Generation (25%). In fact, the corporate strategy is to integrate these divisions as much as possible so that they complement each other and provide synergy. The idea is to create a more profitable overall organization. It also provides varying degrees of regulation. Currently the mix is Highly Regulated 30%, Loosely Regulated 50%, and Unregulated 20%.
The reason why I like AltaGas is the disciplined but aggressive management. You get a real feeling of activity and initiative, something that is likely to pay off as the pipeline industry adjusts and comes to terms with a changing environment. At the same time, the company's growing power generation and distribution operations provide a solid earnings base to support acquisitions and dividend distributions. Most important, AltaGas has the only natural gas pipeline currently in place to serve the energy export industry taking shape on Canada's west coast.
Almost unnoticed while the Northern Gateway controversy raged, ALA slipped below the radar in 2012 and acquired Pacific Northern Gas, a company that owned a pipeline cutting across British Columbia to the emerging export hub at Kitimat. AltaGas is wasting no time capitalizing on the opportunity. Last October it purchased a 67% stake in Petrogas in order to secure a supply of propane for its proposed West Coast terminal. Idemitsu Kosan of Tokyo acquired the remaining 33%. AltaGas and Idemitsu have a joint venture dedicated to exporting 2.7 million tonnes per annum of liquefied natural gas by 2017 from Canada to Asia. Analysts believe that this and other initiatives should give ALA one of the highest growth rates in the sector during the next several years.
Dividends are another reason why AltaGas is attractive. Priced at $44.95 and paying $1.53, the stock yields 3.4% and distributions are expected to increase to $1.62 in 2014 and as much as $1.75 next year. When that happens the shares, based on today's cost, would yield almost 4%, equal to approximately 5.7% from a bond in an unregistered account. Studies have shown that stocks that pay rising dividends almost always outperform the averages.
A word of caution, however. The shares have had a good run and are not cheap. A sudden jump in interest rates could cause a correction but I would regard that as a buying opportunity. There is also the risk of increased opposition to all pipelines. Altagas may have a west coast link but it's not out of the woods. A lot of people are unhappy about fleets of oil tankers operating off British Columbia's pristine beaches and you can understand why. The provincial government, however, is determined to open up this coast and when it does ALA will be extremely well positioned.
Summing up, I expect to see earnings of about $1.75 a share in 2014 with a sharp increase to $2.25 next year. The company's lower risk regulated business provides a solid platform while the west coast projects offer significant potential. One forecaster has described the AltaGas Asian export program as transformational for the company.
Action now: AltaGas is a Buy at C$44.95, US$40.70 with an initial target of $48. I have set a $36 revisit level.
