In this article, let's take a look at The AES Corporation (AES, Financial), the world's largest independent power producer, which produces and distributes electricity in international and domestic markets.
Diversification
The company has a good presence in key markets where demand for electricity is expected to grow in the future, and sold $1.5 billion of businesses with limited growth potential. The company has organized itself into six geographically-aligned strategic business units with two segments: generation and utilities.
AES has utility and generation assets in 20 countries, which reduces country- and region-specific risk. Geographically, revenues come from U.S. (23% of 2013 revenues), Brazil (32%), Chile (10%), El Salvador (5%) and Dominican Republic (5%). The remaining countries make up the other 25%. We expected operations for the South America Strategic Business Units, or SBUs, to provide a little more; Mexico, Central America and the Caribbean about 20%; Europe, the Middle East and Africa (EMEA) 18%; and Asia about 7%. For the U.S., it is expected 19%.
Other Countries
Good tariff rates in countries such as Brazil and El Salvador, as well as the construction of lots of power plants in Chile, Vietnam and Jordan should help the firm to grow and perhaps achieve its mid-single-digit annual EPS growth target next year.
Large-Scale Projects
The global strategy focuses on large-scale projects. The company seeks to improve profitability, and in that way it concentrates on mergers and acquisitions, as well as exploring opportunities in the climate change business, such as the production of greenhouse gas reduction activities. On the local level, AES' plan is to expand focuses on constructing new power plants.
Dividends Growth
AES has restated the commitment to return cash to investors in the form of dividends as it generates healthy cash flow on a regular basis. In January 2014, it increased the dividend to an annual rate of $0.20 per share from $0.15 per share. The current dividend yield is 1.4% and efforts would be made to provide a dividend yield comparable to the S&P 500 (about 2%). Dividends have been paid since 2012.
Revenues, Margins and Profitability
Looking at profitability, the revenue growth (9.27%) has outpaced the industry average. Earnings per share declined in the most recent quarter compared to the same quarter a year ago. However, we think this is not a long-term downward trend.
During the past fiscal year, the firm turned its bottom line around by earning $0.37 versus -$1.30 in the prior year. This year, Wall Street expects an improvement in earnings ($1.31 versus $0.37). The firm´s annual EPS growth target is 4%-6% during the next five years.
Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.
| Ticker | Company | ROE (%) |
| AES | AES Corp. | -1.35 |
| DUK | Duke Energy Corporation | 5.40 |
| EIX | Edison International | 16.28 |
| Â | Industry Median | 8.61 |
The company has a current ROE ratio of negative 1.35% which is lower than its peers –Duke Energy (DUK, Financial) and Edison (EIX, Financial); and the industry median. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.
Relative Valuation
In terms of valuation, the stock sells at a price-to-book ratio of 2.4x trading at a premium versus the industry average of 1.53x while the price-to-sales ratio of 0.60x is below the industry average of 1.55x.
As we can see in the next chart, the stock price has a downward trend in the five-year period. If you had invested $10.000 five years ago, today you could have $9.190, that is an 7.1% compound annual growth rate (CAGR).
Final Comment
Though the company faces regulatory, political and economic uncertainty in various markets, a higher interest rate environment and an unfavorable commodity price trend, the company's projects are estimated to provide returns above the cost of capital.
Although we analyzed a negative ROE and a five-year downward trend in price performance, I think is the right moment to be long on this stock, for its upside potential.
Hedge fund gurus like Louis Moore Bacon (Trades, Portfolio) and Jim Simons (Trades, Portfolio) added this stock to their portfolios in the second quarter of 2014, as well as Pioneer Investments (Trades, Portfolio).
Disclosure: Omar Venerio holds no position in any stocks mentioned
