Reader Request - Pinnacle West Capital Corporation (NYSE:PNW)
24 August 2007Dividends Matter reader Bob has requested that we have a look at Pinnacle West Capital Corporation which trades on the NYSE under the symbol PNW. This one has a very nice dividend yield of 5.27%! Looks inviting. Let’s check it out!
Company Profile:
From Yahoo Finance
Pinnacle West Capital Corporation, through its subsidiaries, provides energy services and energy-related products, as well as engages in real estate activities in the United States. It operates in two segments, Regulated Electricity and Real Estate. Regulated Electricity segment consists of traditional regulated retail and wholesale electricity businesses, and related activities, as well as includes electricity generation, transmission, and distribution. Real Estate segment involves in real estate development and investment activities.
Market capitalization of $3.99B.
Company Fundamentals:
I like to start off by evaluating management’s performance by looking at the return on invested capital (ROIC) and the return on equity (ROE).
The ROIC has been fairly steady in the 4% to 6% range over the 10 year period. And in fact, it seems to be decreasing.
This is confirmed by the return on equity as well. The 10 year average ROE is 10.74%. The 5 year ROE slips to 9.26%. The first 6 years showed consistent double digit ROE and the last 4 years have all shown sub 10% ROE.
Equity growth rates have been very steady in the 4% range. The 9 year rate is 4.2%, the 5 year rate is 3.8%, and the 3 year rate is 4%. That is pretty consistent. Last year’s equity growth rate was -0.29%.
Earnings per share growth rate has not been as kind. In fact, many of the long term growth rates are all negative. The 9 year rate is -0.12%. The 5 year rate is worse at -3.81%. The 3 year rate looks good at 11.9% and last year’s EPS growth rate was a modest 4.09%.
Sales growth rates have been low. The 9 year rate is 4.15%. The 5 year rate is -2.96%. The 3 year rate is 6.13%. And last year’s sales growth rate was excellent at 13.85%.
The company fundamentals are not exciting. Other than the steady 4% equity growth rates, the rest of the fundamentals do not look particularly appealing.
Dividend Fundamentals:
As stated in the introduction, the current dividend yield is a whopping 5.27%. That handily beats the dividend yield on the S&P 500 Index (2.03%) and the DJIA (2.39%) combined!
Like the equity growth rate, the dividend growth rate has been slow and steady in the 5% - 6% range. The 9 year dividend growth rate is 6.69%. The 5 year rate is 5.83%. The 3 year rate is 5.49% and last year’s dividend growth rate was 5.19%. Slow and steady.
The dividend payout ratio is fairly aggressive at 61.18%. It has been increasing steadily since 1997 where it was only 41.06%.
Cash flow growth rates are mostly on the decline. The 9 year rate is -1.33%. The 5 year rate is -5.57%. Even the 3 year rate is negative at -1.91%. At least last year’s cash flow growth rate is positive at 4.39%.
Valuation Models:
It is time to calculate a model price using our 3 techniques for valuing a dividend yielding stock.
From a dividend yield perspective, you would assume that this must be greater than the average high dividend yield. However, you would be wrong. The 5 year average high dividend yield is 5.74%. In fact, the highest yield delivered by PNW over the last 10 years was in 2002 where a yield of 7.49% was possible.
If we demand the 5 year average high dividend yield of 5.74%, then our model price is $36.55. At the current price of $39.83, that would be a premium of 8.96%.
However, Mr. Benjamin Graham would disagree. The Graham number works out to $48.40 which means a discount of almost 18%!
My third technique uses the discounted present value model. However, in this case, it is not going to give me an accurate price. Why? Well, let’s go through it.
For my future EPS growth rate, I would initially estimate 3.8% which is the 5 year equity growth rate. But analysts are only forecasting a mere 3% future EPS growth rate. I always use the most conservative of the two. So 3% it is.
For my future P/E, I see that the 10 year average P/E is the most conservative at 12.99. But then I think, “Who would allow such a large P/E for a stock that is only expected to grow 3%?” My rule of thumb is to use a P/E that is twice the future EPS growth rate which in this case would be 6.
Now, I will demand a yield of 5.74% which of course is the 5 year average high dividend yield. And my future dividend growth rate is 5.19% which comes from last year’s dividend growth rate.
With this information in hand, my model price works out to $11.59. That is a premium of 243%!
Of course, the big factor is the future P/E that I am using. But I can definitely find other companies with a P/E of around 13 (like PNW) and at least get future EPS growth rates in the 8% to 10% range.
Here are my PNW calculations.
Here is the 1 year stock price chart:
You can see that PNW has pretty much given back all its gains over the last year. That was investors buying PNW when it was closer to its average low dividend yield as opposed to its average high dividend yield.
Conclusion:
Would I add this company to a portfolio of superior dividend yielding stocks? No. In order to be superior, I am looking for a company delivering a dividend growth rate closer to 15%. I want that dividend doubling every 5 years.
Now, with PNW almost at its average high dividend yield, your downside should definitely be limited. And management has shown a dedication to increasing that dividend by 5% every single year.
Full Disclosure: I do not own shares in PNW.
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on August 24th, 2007 at 8:41 am
thanks average_Joe. As always a good evaluation.
skyraider