National Grid PLC (LSE:NG., Financial)(NGG, Financial) is an energy company operating in the U.K. and the U.S. It delivers electricity and gas safely, reliably and efficiently to the customers and communities it serves, all while working towards a clean energy future. In last year’s Investor Day presentation, CEO John Pettigrew called National Grid the “The Energy Transition Company.”
Approximately 93% of its asset base is in regulated markets, which means while you are not ever going to get rich holding this stock, its returns and asset growth are inflation protected. Its asset split is 70% electricity and 30% gas.
Recent earnings
For its full fiscal year ended March 31, the company saw operating profit rise 11%, while underlying earnings per share was up 10%, dividend growth was 3.7% and capital investment increased by 18% compared to the prior year. The company noted that its new assets had started to contribute to the bottom line and higher earnings from its U.K. electricity transmission division drove these increases.
Those numbers were on a pro-forma basis due to some important transactions. The Western Power Distribution acquisition was completed mid-fiscal year and various other assets are being held for sale, including 60% of National Grid Gas, which has a buyer lined up for 2 billion British pounds ($2.45 billion). This is because the company is making a strategic pivot towards higher growth electricity, which can be produced using renewable energy and also benefits from the electrification of vehicles.
Chief financial officer Andy Agg said of the results that despite the volatile electricity environment, National Grid would stick to its investment plan, which is “focused on connecting renewables to the grid." These investments total £30-£35 billion through 2025, around 70% of which aligns with the European Union’s green taxonomy classification. This is important because it leads to government subsidies and lending options as well as making the company an attractive investment for ESG focused institutional investors who are being driven on portfolio allocation by green taxonomy considerations. “That is one of the largest levels of net zero capex in the FTSE 100,” Agg noted.
Net debt remains high, which is common for asset-heavy, infrastructure based companies, and it rose £15 billion to £42.8 billion last financial year. This should come down by £3 billion this year, management said. The company has a pretty good Piotroski F-Score of 6 out of 9, but its Altman Z-Score of 1 is fairly low and represents a chance of bankruptcy in the next two years. I’m prepared to overlook the low Altman Z-Score, however, due to National Grid’s monopoly status and its inflation protection. In fact, National Grid's equity is really like a bond. This makes it sensitive to U.K. interest rates, which are going up only very slowly.
Valuation
National Grid is rated modestly undervalued by the GF Value chart:
For the current financial year, National Grid has guided for flat earnings as inflation drives up some costs and £130 million is passed back to end users due to the two-year delay in the Western Link project in Scotland. The company is one year into a new efficiency program which delivered £140 million of “enduring savings” and is on track to meet its three year cost saving target of £400 million.
Risks
The final determination of the regulatory rules for the company within its U.K. electricity distribution business will be decided in December 2022.
The company is facing some of the biggest challenges in its history with the energy transition. Management has set out medium and long-term targets to reduce its Scope 1 & 2 emissions by 80% by 2030, by 90% by 2040 and to Net Zero by 2050. This is being supported by the British Energy Security Strategy, the U.K. Energy Bill and the U.S. Infrastructure Investment and Jobs Act.
The company will host an ESG Investor Webinar, a presentation and live Q&A by its CEO on June 28 on its website, for those interested.
Conclusion
National Grid is a highly defensive stock, and in my mind defensive stocks are going to have relatively good performance this year as high beta stocks get hit by the risk off environment. National Grid has an attractive dividend yield of 5.13% and it has one of the longest track records of dividend growth in the FTSE 100, thanks to its mandate to grow profits in line with inflation. The overall regulatory certainty and progress it is making with its rate cases and agreements across its jurisdictions provide attractive inflation-protected growth opportunities too. Its pivot towards electricity is the right strategy in the era of decarbonization of energy systems.
