3 Utility Stocks for Electric Returns

Utility stocks are often thought of as slow-growth companies that are best owned primarily for the dividend income that they provide. While utility stocks often offer a generous yield, we believe that investors looking for high total returns can find opportunities throughout the sector. We think that investors with a bias towards utility stocks could be missing out on strong total returns. This article will examine our three highest rated utility stocks for total returns that can all be bought today, including: Sempra Energy South Jersey Industries, Inc. Suburban Propane Partners, L.P. Top Utility Stock: Sempra Energy First up is Sempra Energy, which pays a dividend yield that is nearly three times the average yield of the S&P 500 index. Through its holdings, the company sells electricity and gas to customers located primarily in Southern California. Sempra Energy also has an 80% ownership stake in Oncor, which sells electricity to customers in Texas. In total, Sempra Energy has 7 million gas and 5.2 million electric customers. The company is valued at $39 billion and generated revenue in excess of $11 billion last year. Sempra Energy's primary competitive advantage is that it operates in two of the most populated states in the U.S. California, in particular, has been very fruitful for the company as its focus on safety and reliability has enabled Sempra Energy to successfully grow its rate base. For example, the Southern California Gas and San Diego Gas & Electric companies were recently granted rate base growth of 12% and 9%, respectively. In Texas, Oncor, the largest electric utility in the state and fifth largest in the country, is expected to grow by 8% annually over the next five years. The utility recently announced a nearly 25% increase in its capital budget to $15 billion to support expansion projects. In addition, wind generation is expected to see a massive buildout over the next few years as well as the demand for renewable energy increases. Sempra Energy recently acquired the remaining 30% it didn't own of a subsidiary that operates in Mexico, expanding the company's reach even further. We expect that Sempra Energy can leverage these catalysts and grow earnings per share at a rate of 5% annually through 2026 off of our expected EPS of $8.05 for 2021. With the shares closing last Friday's trading session at $122.76, the stock has a price-to-earnings ratio of 15.2. For context, the stock has an average P/E ratio of 18.8, implying that shares are undervalued today. Reverting to the long-term average P/E ratio would add 4.2% to annual returns over the next half-decade. Total returns would also include the stock's dividend yield. Sempra Energy, which has increased its dividend for 11 consecutive years, currently yields 3.6%. In total, we expect that Sempra Energy will return 12.8% per year through 2026 due to a combination of a 5% earnings growth rate, a 3.6% yield and a mid-single-digit contribution from multiple expansion. Top Utility Stock: South Jersey Industries Next on our list is South Jersey Industries, which has a generous yield of 5%. South Jersey Industries can trace its beginning back to the early 1900s. Today, the company distributes natural gas to customers in New Jersey and Maryland. South Jersey Industries generates annual revenues of $1.5 billion and has a market capitalization of $2.5 billion. South Jersey Industries is one of the smaller utility names in the sector with just over 700,000 total customers, but the company is fairly diversified. Beyond its regulated business, South Jersey Industries has made investments in in renewable natural gas projects. For example, it recently announced a $12 million renewable natural gas facility at the site of the largest dairy farm in Connecticut. Collected biogas will then be transformed into commercial-grade natural gas and integrated into a subsidiary's distribution system. The company also sells natural gas and pipeline transportation capacity on a wholesale basis to variety of customers, including commercial and which provides South Jersey Industries with a sizeable income stream. Finally, South Jersey Industries holds oil, gas and mineral rights in the Marcellus Shale region of Pennsylvania. EPS growth over the last decade has been minimal, but this is mostly due to a growing share count. We forecast that South Jersey Industries will see its EPS rise at a rate of 3% annually through 2026. South Jersey Industries closed last week at $24.23. Using our expected EPS of $1.60 for this year, the stock has a P/E ratio 15.1. Our fair value multiple of 18 times earnings is actually below the long-term average. Valuation could add 3.6% to annual returns over the next five years. At 22 years, South Jersey Industries has the longest dividend growth streak of the stocks discussed in this article, showing that the company has been able to grow its distributions though several difficult economic environments. The current yield is almost four times the average yield of the market index. We expect that South Jersey Industries will return 11.6% per year for the next five years due to a 3% earnings growth rate, a 5% yield and a low single-digit contribution from multiple expansion. Top Utility Stock: Suburban Propane Our top pick in the utility sector for total returns is Suburban Propane, which converted to a master limited partnership in 1996 and has a yield approaching 9%. The company supplies propane, fuel and oil in the U.S. Suburban Propane revenue totaled $1.3 billion in fiscal year 2021 and is valued at $938 million. Suburban Propane sells several refined fuels to much of the U.S. The partnership has approximately 700 locations and 1 million customers across including 41 states. The bulk of Suburban Propane's revenue comes from propane. Fortunately, the propane market is highly fragmented, with the largest names in the industry controlling roughly a quarter of the business. This presents Suburban Propane with the opportunity to make strategic acquisitions to bolster its leadership position. Acquisitions work to offset the weakness of natural gas prices, which have remained low for some time. Warmer weather has also contributed to lower prices. As such, we believe that the partnership will see an annual cash flow growth rate of just 1% over the next five years. Considering the expected growth rate, it is not surprising that Suburban Propane trades with a low valuation. We have a five-year target price-to-cash-flow ratio of 6.5. Even so, the shares look undervalued at current prices. Using the recent price of $15 and our projected cash flow per share of $3.30 for the fiscal year, Suburban Propane has a price-to-cash-flow ratio of 4.5, implying the possibility of a significant contribution from multiple expansion. Valuation could add 7.6% to annual returns. Like many MLPs, Suburban Propane has a very high yield of 8.7%. Also, like many MLPs, the partnership's dividend has a somewhat shaky history as Suburban Propane has cut its dividend several times over the past few years, including a 50% reduction during the worst of the Covid-19 pandemic. However, Suburban Propane did raise its dividend by more than 8% last summer. The partnership's dividend growth history is far from steady, but a raise so soon after a cut should be taken as a good sign by investors. We expect that Suburban Propane will provide a total annual return of 17.3% over the next five years, stemming from a 1% cash flow growth rate, an 8.7% dividend yield and a high single-digit contribution from multiple expansion. Final Thoughts Investors who eliminate the utility companies from their investments due to biases of low growth for the entire sector due so at their own peril. The sector has several names that provide not just a strong dividend yield, but also solid growth prospects along with the possibility of multiple expansion. Sempra Energy, South Jersey Industries and Suburban Propane are our three favorite names for investors looking for growth and income. All three utility stocks have market beating yields and at least low double-digit total return potential. As a result, we rate all three as a buy.

3 Utility Stocks for Electric Returns

Investors who eliminate utility companies as investments becasue of sector biases due so at their own peril.

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