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DPL vs. AES -- A Deregulation-Created Consolidation

April 21, 2011 | About:

Yesterday, Ohio-based utility company announced that it has accepted a bid from AES Corp. for $30 per common shares. AES would pay $3.5 billion for DPL’s equity and assume more than $1.1 billion in debt. The deal is expected to close in the next six months to nine months subject to shareholders and regulatory approval.

Today, DPL closed at $30.30, or thirty cents above the offer price. At least some investors are expecting a marginally higher bid. The truth is AES’s $30-a-share bid is 9.5 percent higher than DPL’s 20- day trading average prior to the announcement. That’s one-third of the average 29 percent offered in all-cash takeovers of U.S. electric utilities focused on integration and distribution since at least 1998, according to a Bloomberg article on this subject.

The Bloomberg source says that the $4.6 billion deal including net debt values DPL at 7.2 times earnings before interest, taxes, depreciation and amortization in the last 12 months, lower than the industry median of 7.5.

But because of the factors that DPL happens to be located in a region where utility industry is going through a de-regulation process, that its pricing power is getting eroded, and that its profit is expect to fall this year by about 4.4%, the Bloomberg article author Tara Lachapelle does not expect a sweetened deal from AES or other rivals.

Utility companies are known for their reliable dividend payment. Currently, DPL is paying 33.25 cents of dividend each quarter, that translate into $1.33 dividend per year.

For the past 10 years, its net income has grown 8.56% per year and its dividend has grown 4.19% each year. Income is more than enough to cover the dividend payment in most years:

Given the regulatory environment, it is hard to assume that DPL can grow its earnings and dividend as fast as it did in the past ten years. A quick check into the subject reveals that larger competitors such as Duke Energy (NYSE:DUK), American Electric Power (NYSE:AEP), Consolidated Edison (NYSE:ED) have all seen a slim growth or even negative growth rate in the past decade. De-regulation has been good to the consumers but not so much for the utility companies. The income and dividend of the best of the three competitors goes to Consolidated Edison:

Assuming the dividend remains steady for ever, the AES’s $30 offer infers a discount rate of 4.43% ($1.33/$30) – not too exciting. However, assuming dividends will grow in the next 10 years at the same rate as it has been in the past decade, the discount rate will be elevated to 8.6% -- Not too bad for investing in a stable utility company.

The mere fact that DPL puts itself for sale suggests the company’s management knows that growth is a thing of the past. The best course of action is to sell for whatever premium that is to be had.

Rating: 3.7/5 (16 votes)


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