Everus Spin-Off And Utility Challenges Signal Dark Clouds Over Future Growth And Profitability

Key Takeaways

• The tax-free spin-off of the Construction Services business and revised revenue guidance for Everus introduce market uncertainty and project execution risks.
  
• Increased operational challenges and a $2.7 billion regulated capital investment plan present risks to profitability, earnings growth, and dividend payout ratios.
  
• Diverse strategies, including a tax-free spin-off, capital investments, and strategic rate adjustments, position MDU Resources Group for revenue growth and improved earnings.

Catalysts

Engages in the regulated energy delivery, and construction materials and services businesses in the United States.

• The anticipated completion of the tax-free spin-off of the Construction Services business, Everus, is expected to transform MDU Resources’ operational and financial structure, which could add to market uncertainty regarding the future performance of the now more narrowly focused company, potentially affecting its stock valuation as investors reassess the standalone company's growth prospects.
  
• Revising revenue guidance for Everus downwards from previous forecasts, due to lower revenues experienced on a year-to-date basis largely from the timing of projects, indicates project execution and timing risks that may impact future revenue growth and profit margins, influencing investor sentiment and stock value negatively.
  
• Operational challenges in the utility business, such as higher operation and maintenance expenses and cooler weather impacting electric volumes, suggest that profitability may be pressured in the near term, with potential adverse effects on net margins if strategic rate relief and adjustments cannot fully offset these impacts.
  
• The ambitious $2.7 billion regulated capital investment plan aimed at driving a 7% compound annual growth rate on the utility rate base presents execution risk amidst a backdrop of increasing operation and construction costs, potentially affecting forecasted earnings growth and dividend payout ratios if capital costs escalate or project delays occur.
  
• While the move towards pure-play regulated energy delivery could streamline operations, it also increases MDU Resources' exposure to regulatory risk and the potential for slower growth if regulatory approvals for rate cases or infrastructure projects are delayed or less favorable than expected, impacting anticipated revenue and earnings growth.

Assumptions

• Analysts are assuming MDU Resources Group's revenue will grow by 3.7% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 9.3% today to 5.9% in 3 years time.
• Analysts expect earnings to reach $286.9 million (and earnings per share of $1.41) by about October 2027, down from $410.4 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 24.3x on those 2027 earnings, up from 14.4x today. This future PE is lower than the current PE for the US Construction industry at 34.9x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 7.57%, as per the Simply Wall St company report.

Risks

• The completion of the tax-free spin-off of its Construction Services business, Everus, could unlock value and possibly improve MDU Resources Group's financial performance, positively impacting net margins and earnings.
  
• MDU Resources Group's $2.7 billion of regulated capital investment is driving a 7% compound annual growth rate on its utility rate base, with customer growth expected to be 1% to 2% annually, which could lead to long-term revenue growth and improved earnings.
  
• The company's strategic rate adjustments and infrastructure investments are yielding solid results in its utility business, despite unfavorable weather, which could mitigate risks related to net margins and earnings.
  
• The pipeline segment's record second quarter earnings, driven by unprecedented transportation volumes and increased storage revenues, indicate strong demand for MDU Resources' services, potentially boosting future revenues and earnings.
  
• MDU Resources' focus on expanding its electric and natural gas utilities customer base and system growth, coupled with the high demand for construction services, provides a robust growth outlook that could support higher than expected earnings and revenues.

Valuation

• The analysts have a consensus price target of $27.5 for MDU Resources Group based on their expectations of its future earnings growth, profit margins and other risk factors.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $4.9 billion, earnings will come to $286.9 million, and it would be trading on a PE ratio of 24.3x, assuming you use a discount rate of 7.6%.
• Given the current share price of $28.99, the analyst's price target of $27.5 is 5.4% lower. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.