Utilities enjoy safe predictable revenues and earnings

Utilities have been paying dividends with amazing regularity and in the main have raised their dividend payments every year for decades.

Boring Semi-Monopolies

Wall Street stockbrokers used to call Utilities with strong dividend histories "widow and orphan" stocks because they're supposedly so boring.

It's true that these companies just chug along year in and year out, providing the basic services we need to live our daily lives.

Water, electricity and gas are hardly exciting things to talk about, aren’t they?

However, they are somewhat hard to live without.

From an investment perspective, realise that:

  • basic utilities provide electric, gas, and water services, so their products are in demand no matter what the economy is doing

  • the relative revenue stability enables these companies to consistently pay their shareholders above-average yields

  • utilities’ businesses benefit hugely from low interest rates. As they have massive infrastructure, they tend to borrow a lot of money to keep things running smoothly. As interest rates move lower, they borrow at lower rates. Reduced operating costs equal bigger profits

  • the key to their growth is buying or building the infrastructure that will ramp up their transmission capacity. The more ‘hardware’ -pipelines and electricity cables- they own the more cash flow they can generate, allowing stable dividend increases.

Write-ups on some UK electricity and gas utilities

What about fluctuating
commodity prices?

My favorite investment opportunities in the energy area are those companies that preferably don’t have a great deal of commodity price sensitivity. If you are investing in say Royal Dutch Shell or BP their profitability to a certain degree is going to be a function of the price of
a barrel of oil or the price of natural gas. As we know, these fluctuate constantly and are difficult to predict.

Why I like gas pipes, water pipes and sewage pipes

In comparison to the oil and gas industry, the pipeline industry aren’t extracting the oil and gas out of the ground, instead they are moving it around. When they do so, they are usually transporting it on a fee basis. As a result, there is very little commodity price sensitivity.

Instead, electricity and gas Utilities charge fees for energy transmission through their transmission networks independent of the volume of energy transported i.e. they perform a typical toll bridge function.

That's the type of Utilities we are after. Utilities which are (almost) completely independent from fluctuating commodity prices. Utilities that ‘just’ process and ship gas and electricity, whilst other transport water.

These type of Utilities have what we call a "wide-moat". They own the pipeline. It’s very difficult to compete with it, because

  • both truck and rail can’t compete with it in terms of cost
  • it’s virtually impossible to get all of the permitting and siting required in order to build a competing line right next to an existing pipeline

No matter what the economic conditions are, the cash flows of these types of Utilities depend primarily on product volumes, not commodity prices. The government-regulated rates they can charge may vary depending on where their pipelines and cables are located, but one thing is for sure -- their rates are not pegged to commodity prices.

What about Utilities growth prospects?

The key to Utilities' growth is buying or building the infrastructure that will ramp up their transmission capacity.

Utilities are spending billions on major projects to increase the nation's ability to generate and move energy and water where it is needed.

People need energy and water, regardless of its costs.

In the long-run, an expansion of demand due to population growth and industrial and commercial development is beneficial to Utilities.

UK energy demand is expected to grow a steady +1% annually for the next 20 years, just as it has during the past 20 years. As a result, Utilities should continue to see plenty of demand for their services and provide investors a growing income stream for years to come.

So for something like that 'low-risk' to offer a solid dividend yield into the five per cents, and in some cases even better, you are not taking that "where-is-the-price-of-oil-going-to-go" type of risk.

For the time being, the UK continue to consume hydrocarbon forms of energy. And while in the long run this may change, I am quite sure that during the next 10 years or even 20 years, the United Kingdom remains addicted to oil and gas.

I'll admit it, I love Utilities. The income... the stability... what's there not to like?

Write-ups on some UK electricity and gas utilities

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