Tariff Pressures And Regulatory Delays Will Hamper Capital Projects

Key Takeaways

• Increased costs from tariffs and declining Plastics segment earnings could compress margins and affect overall profitability.
  
• Demand headwinds and tax policy uncertainties may hinder revenue growth and investment appeal, impacting financial performance.
  
• Strategic capital investments in renewable energy and infrastructure, along with regulatory rate approvals, are anticipated to enhance Otter Tail's financial stability and long-term performance.

Catalysts

Engages in electric utility, manufacturing, and plastic pipe businesses in the United States.

• The potential for increased costs due to tariffs on materials and components, particularly for Otter Tail Power's capital investments, may impact the timing or recovery amounts. This could affect Net Margins due to elevated costs impacting capital expenditure projects over time.
  
• The continued decline in Plastics segment earnings, driven by decreasing PVC pipe prices and increased raw material costs, suggests a potential compression in the segment's contribution to overall Earnings.
  
• Otter Tail's manufacturing segment is facing end market demand headwinds and increased production costs, particularly in the recreational vehicle and agricultural equipment markets, which could result in decreased Revenue from this segment.
  
• Uncertainty around tax policies, particularly those affecting renewable energy credits under the Inflation Reduction Act, presents a risk to future growth and investment attractiveness, potentially influencing Net Margins through tax cost fluctuations.
  
• Adding new large customer loads might face delays due to regulatory approvals and infrastructure completion, with impact on projected Revenue from these new service agreements if implementation timelines are extended.

Otter Tail Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Otter Tail's revenue will grow by 1.4% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 22.4% today to 13.6% in 3 years time.
• Analysts expect earnings to reach $187.1 million (and earnings per share of $4.91) by about May 2028, down from $295.4 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 21.5x on those 2028 earnings, up from 10.7x today. This future PE is greater than the current PE for the US Electric Utilities industry at 21.1x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.21%, as per the Simply Wall St company report.

Otter Tail Future Earnings Per Share Growth

Risks

• Otter Tail Corporation's strong balance sheet with significant liquidity and an experienced management team suggests financial stability, minimizing risks to earnings and profit margins during periods of economic uncertainty.
  
• The completion and implementation of rate cases in North Dakota, and plans for potential filings in South Dakota and Minnesota, may support stable or increased revenues through regulatory approval of new rates.
  
• Capital investments in renewable energy projects and infrastructure, such as wind repowering and solar generation, are expected to enhance energy output and efficiency, potentially leading to increased earnings and improved long-term financial performance.
  
• Opportunities to support large loads and new customer agreements are anticipated to bolster revenue and benefit existing customers by spreading fixed costs, positively impacting earnings and profit margins.
  
• Otter Tail's comprehensive financing plan ensures no external equity will be needed for at least the next five years, leveraging internal cash flows for growth, which strengthens earnings per share and enhances shareholder value over the long term.

Valuation

• The analysts have a consensus price target of $82.0 for Otter Tail 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 2028, revenues will be $1.4 billion, earnings will come to $187.1 million, and it would be trading on a PE ratio of 21.5x, assuming you use a discount rate of 6.2%.
  
• Given the current share price of $75.5, the analyst price target of $82.0 is 7.9% higher. 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.