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Fri. Feb. 27, 2009

Inegrys Energy Group (TEG): Things That Make You Go Hmmm… *

Utilities may not be the perfect dividend stock, but they should be one of the more predictible ones. This is not always the case. On Wednesday February 25th, Inegrys Energy Group (TEG) issued their earnings release after the market closed. In the release they forecast 2009 operating earnings of $2.51 to $2.66 a share, which unfavorably compared to the street estimate of $3.77/share.  For the fourth quarter, TEG’s earnings of $0.30/share fell well short of the street’s estimate of $1.38/share.  The market was not pleased. Yesterday (Feb. 26th), TEG’s shares fell $9.77/share or 26.68%.  Why?

Based on TEG’s actions over the last several weeks, the market was completely surprised by its announcement. On February 17th, TEG issued a news release raising its quarterly dividend $0.01 to $0.68/share.  As a dividend investor, I viewed this as a positive development and believed that management would only raise the dividend if it could be sustained. The annualized dividend of $2.72/share is in excess of the high end of its projected 2009 earnings range. Can TEG sustain its quarterly dividend at $0.68/share?

Looking at TEG’s cash flow statement, I noted that free cash flow (operating cash flows less capital expenditures) was over three-quarters of a billion dollars negative in 2008, down from negative $154 million in 2007. More alarming is that operating cash flows in 2008 was negative. As I have previously noted in The Most Important Financial Statement, cash from operating activities should always be positive and greater than the company’s net income. Based on data from Morningstar, free cash flow has been negative for the last decade.

One might argue that management is counting on proceeds from the sale of its non-regulated business segment to sustain the dividend through 2009. If that is the case, I hope they have buyers lined up. Generally, these types of sales take time, a lot of time.

For me, the most concerning observation is the trading activity between the time the dividend announcement and the earnings release. In spite of the company’s “good” news of its 51st year of consecutive dividend increase, the stock continued to fall on increasing volume. Year to date through February 17th, the stock’s average daily volume was 719 thousand shares. From February 18th, the day after the dividend was announced through February 25th, the day earnings was released after the market, average daily volume was 1.2 million shares, or 66% higher. The 1.2 million average shares leading up earnings release were 87% higher than the 637 thousand average daily shares the week leading up to the dividend announcement (2/6 to 2/17).  This could lead to an S.E.C. inquiry and/or shareholder suits.

I am all about personal responsibility. Yes, I am disappointed about the company’s actions, including its shareholder communications, but I am more disappointed in myself for not spending sufficient time on diligence before purchasing TEG. In the end we will sometimes make bad decisions or have good investments go bad; we just need to learn from it and avoid the most dangerous investment.

Full Disclosure: Long TEG


4 Responses to “Inegrys Energy Group (TEG): Things That Make You Go Hmmm… *”

  1. ghandy says:

    thanks for the interesting analysis

  2. kewgardens says:

    So now what? Should we dump the stock, given its dividend shenanigans, lowered earnings projections and free cash flow problems? Or does the horrific haircut warrant holding on? Right now, the stock would yield well over 6% even if the company cut the payout to $1.68 (about 65% of projected earnings). And the lowered earnings projections are now (unfortunately) baked into the cake.

    If you think selling is appropriate, what is the best utility to swap into?

  3. Red Dog says:

    Sometimes (and we all do it) we “see what we want to see” and with TEG all I saw was “dividend aristocrat” so it must be good. You gloss over the figures more as an afterthought. The mind has already been made up. That’s how I bought TEG last year.

    It brings to bear though the pressure this “Aristocrat” label brings to some companies. It seams TEG was hell bent on raising that dividend at too great an eventual cost.

  4. Red Dog: You are dead on. I saw Aristocrat and Utility and read “low risk”. Our mistakes makes us better investors.

    Best Wishes,
    D4L