Rising Capital Costs Will Compress Grid Margins And Spark Hope

Key Takeaways

• Increasing adoption of distributed energy and efficiency programs is constraining electricity demand growth and limiting potential revenue upside.
  
• Higher financing costs and regulatory challenges are putting sustained pressure on margins and posing risks to long-term earnings growth.
  
• Strategic focus on regulated core utilities, infrastructure upgrades, and constructive regulation is strengthening financial stability, earnings outlook, and long-term revenue predictability.

Catalysts

A public utility holding company, engages in the energy delivery business.

• The accelerating growth in distributed energy resources such as rooftop solar and home battery storage is expected to cut into long-term electricity demand from the grid, jeopardizing regulated revenue streams and ultimately leading to slower revenue growth for Eversource Energy.
  
• Aggressive energy efficiency programs, particularly across New England, could offset much of the upside from electrification of transportation and heating. This will cap per-capita electricity consumption, limiting top-line revenue growth despite rising grid investments.
  
• Escalating interest rates and tightening credit conditions are expected to increase Eversource's cost of capital, making it more expensive to finance its expanding $24.2 billion capital plan. This will compress net margins and put downward pressure on future earnings.
  
• Heavy, ongoing capital expenditure requirements for grid modernization and climate resiliency are driving up leverage on the balance sheet. This increases the risk of future credit rating downgrades and higher interest expenses, further squeezing net income and eroding return on equity.
  
• Regulatory and political headwinds, particularly in Connecticut and Massachusetts, are likely to limit Eversource's ability to fully pass increased costs on to customers through rate hikes. This will impede earnings growth and create greater risk for sustained margin compression over the long term.

Eversource Energy Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Eversource Energy compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Eversource Energy's revenue will decrease by 0.9% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 6.6% today to 15.0% in 3 years time.
• The bearish analysts expect earnings to reach $2.0 billion (and earnings per share of $4.96) by about August 2028, up from $858.0 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 13.1x on those 2028 earnings, down from 28.1x today. This future PE is lower than the current PE for the US Electric Utilities industry at 20.7x.
• Analysts expect the number of shares outstanding to grow by 3.84% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.24%, as per the Simply Wall St company report.

Eversource Energy Future Earnings Per Share Growth

Risks

• Continued electrification of transportation and heating in Eversource's service regions is fueling rising electricity demand, which has already led to 2% load growth year-over-year, indicating strong revenue momentum and potential for further topline expansion in the long term.
  
• Constructive regulatory outcomes, such as the recent rate increases approved in New Hampshire and Massachusetts and supportive performance-based rate mechanisms, are enabling timely recovery of infrastructure investments, thereby stabilizing or potentially increasing earnings over time.
  
• The company's strategic exit from higher-risk businesses like offshore wind and divestiture of the water business are improving balance sheet strength and reducing operational complexity, which contributes to improved credit metrics and could support higher net margins in the future.
  
• Progress in grid modernization-including advanced metering infrastructure deployment and innovative battery storage projects-demonstrates an ability to invest in resilient, future-proof infrastructure, which can both improve operational efficiency and help secure long-term regulator-approved returns, thus supporting net income growth.
  
• Ongoing favorable trends in regulatory frameworks, including legal clarity on cost recovery and the applicability of prudency standards, as well as recent legislative measures like Connecticut's Senate Bill 4, are likely to enhance predictability and stability of future revenues and strengthen Eversource's earnings outlook.

Valuation

• The assumed bearish price target for Eversource Energy is $51.21, which represents two standard deviations below the consensus price target of $70.33. This valuation is based on what can be assumed as the expectations of Eversource Energy's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $87.0, and the most bearish reporting a price target of just $47.0.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $13.4 billion, earnings will come to $2.0 billion, and it would be trading on a PE ratio of 13.1x, assuming you use a discount rate of 7.2%.
  
• Given the current share price of $65.04, the bearish analyst price target of $51.21 is 27.0% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
  
• 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.