AGL Energy Limited

Company Overview:  AGL Energy Limited (ASX: AGL) is primarily involved in providing a broad range of essential services to its customers across Australia. AGL mainly delivers gas, electricity, and telecommunications services to its residential, small and large business, and wholesale customers across Australia. The company operates one of Australia’s largest electricity generation portfolios, with an operating generation capacity of 11,208 MW. Moreover, it also operates gas storage and production assets.

AGL Details

Emphasized to Enhance Customer Base- Support Overall Growth: AGL Energy Limited (ASX: AGL) is one of Australia’s leading essential service providers that deliver gas, electricity, and telecommunications services to its residential, small and large business, and wholesale customers. As on 10 December 2020, the company’s market capitalisation stood at ~$8.31 billion. The company is aiming to become Australia’s leading essential services provider and gain a leadership position in Australia’s energy transition. Currently, the company’s target is to provide 4.5 million customer services by 2024. AGL has a track record of rewarding shareholders through dividends and buy-back. From 2016 to 2020, the company has witnessed significant improvement in its bottom line, rising from a statutory net loss of $408 million in 2016 to a statutory net profit of $1,015 million in FY20.

5-Year Financial Summary (Source: Company Reports, Thomson Reuters)

Looking ahead, the company is focused on growing the breadth and scale of its customer base as it pursues its multi-product retailer strategy. Further, the company plans to transform its energy supply portfolio as it invests in batteries and other energy storage technologies. The company’s strategic focus and financial strength continue to provide resilience against current health and economic crisis caused by the COVID-19 pandemic. With decent funding and liquidity position, the company seems well placed to pursue growth opportunities, reinvest in the existing business, and fund ongoing capital management initiatives.

FY20 Result Highlights: For FY20, the company reported statutory profit after tax of $1,015 million, up from $905 million in FY19, mainly driven by the positive non-cash movement in the fair value of financial instruments. The company’s underlying profit after tax stood at $816 million, down by 22% on FY19, impacted by the unplanned outage at Loy Yang in the first half of the year, reduction in gas sales volumes, lower wholesale electricity and large-scale generation certificate prices, and increased depreciation and amortisation expense. During the year, the company’s net cash flow from operating activities after interest and tax grew by 35% to $2,156 million, allowing the company to undertake a $622 million on-market share buy-back in the 12 months to August 2020. As at 30 June 2020, the company’s net debt stood at $2,723 million, comprising adjusted total borrowings of $2,864 million and cash & cash equivalents of $141 million.

FY20 Results (Source: Company Reports)

Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together form around 20.41%. Franklin Resources Inc and BlackRock Institutional Trust Company, N.A. hold the maximum interest in the company at 5.00% and 3.14%, respectively.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

Key Metrics: For FY20, gross margin stood at 30%, up from 28.7% in FY19. Further, the company’s FY20 EBITDA margin and net margin stood at 17.1% and 8.3%, respectively. The company’s quick ratio and current ratio stood at 1.14x and 1.31x, respectively. The company’s debt to equity stood at 0.38x in FY20, slightly higher than 0.34x in FY19.

Key Metrics (Source: Refinitiv, Thomson Reuters)

Achieving Growth through Acquisitions: During FY20, the company continued to execute on its growth strategy and announced multiple acquisitions which expanded the company’s scale as well as its customer base. In September 2019, the company acquired Perth Energy, an integrated energy company operating in Western Australia. This acquisition helped the company in expanding its position in Western Australia. Later in December 2019, the company acquired Southern Phone Company, adding over 167,000 broadband and phone services to the company’s portfolio.

Recently, the company announced that it has entered into a binding agreement to acquire 100% of the Click Energy Group for $115 million. This acquisition will help AGL to expand its customer base and deliver value through all its products and services. Moreover, the company expects the acquisition to be modestly accretive to AGL’s underlying earning.

Dividend History: AGL has a track record of returning capital to its shareholders through dividend and buy-backs. On an average, the company has returned 40% of EBITDA to shareholders through dividends and buy-backs since FY17. For FY20, the company has paid a final dividend of 51 cents per share (80% franked), taking the total dividend for FY20 to 98 cents per share (80% franked). From 2016 to 2020, the company’s dividend grew at a CAGR of 9.57%. On a 5-year average basis, the company’s annual dividend yield stands at 4.80%. Currently, the company has an annual dividend yield of 7.34%, higher than the industry median (multiline utilities) of 5.6%. Encouraged by the decent net cash flow in FY20, the company has announced its intentions to pay special dividends of an additional 25% of Underlying Profit after tax in FY21 and FY22. The special dividend program will increase the company’s target dividend pay-out ratio to 100% of Underlying Profit after tax.

Dividend and Buy-Back Trend (Source: Company Reports)

Key Risks: AGL is exposed to the risks associated with COVID-19 pandemic as it has created uncertainties in electricity pricing and increased credit risk. Further, the company is exposed to the risks related to the wholesale market pricing and market disruption. Government intervention, regulatory intervention and climate change are also some of the factors that may influence the company’s future operations and performance.

Outlook: Going forward, the company plans to achieve growth by developing flexible generation assets, investing in offtakes, balancing its sustaining capital expenditure and building its origination and trading capabilities. For FY21, the company expects its underlying profit after tax to be in the range of $560 million and $660 million, subject to the ongoing uncertainty in relation to the economic impacts of the COVID-19 pandemic as well as normal variability in trading conditions. The FY21 underlying profit after tax is expected to include $80 million to $100 million after tax benefit from insurance proceeds relating to the unplanned outage at AGL Loy Yang Unit 2 that impacted FY20. The FY21 operating costs (excluding depreciation and amortisation) are expected to be broadly flat on FY20.

The company intends to reduce franking on dividends to zero in FY21 and FY22, which will allow AGL to return to generating franking credits from underlying earnings as early as the FY23 interim dividend. For FY21 and FY22, the company intends to pay special dividends of an additional 25% of Underlying Profit after tax. This will help offset the impact of the loss of franking for shareholders who value franking credits.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: P/E Multiple Based Relative Valuation (Illustrative)

P/E Multiple Based Valuation (Source: Refinitiv, Thomson Reuters)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Month

Stock Recommendation: The stock of AGL has corrected by ~9.91% in the past three months and ~24.09% in the past six months. Currently, the stock is inclined towards its 52-weeks low price of $12.460, offering a decent opportunity for accumulation.  On the technical analysis front, the stock has a support level of ~$12.776 and resistance of ~$15.624. We have valued the stock using Price to Earnings multiple based illustrative relative valuation method and have arrived at a target price of a low double-digit upside (in % terms). For the purpose, we have taken peers like AusNet Services Ltd (ASX: AST), Origin Energy Ltd (ASX: ORG), Genesis Energy Ltd (ASX: GNE), etc. Considering the company’s resilient performance during FY20, improving bottom line, track- record of paying decent dividends, FY21 outlook, current trading level, and valuation, we give a “Buy” recommendation for the stock at the current market price of $13.45, up by 0.824% as on 10 December 2020.

AGL Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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