Dominion Energy Retools, Relying on State Regulation for Gains

“Dominion is well positioned to benefit from some of the secular trends that are impacting the entire sector—the main one being clean energy and decarbonization,” says Sarah Akers, senior equity analyst at Wells Fargo Securities, which rates the stock Overweight.

Utilities haven’t done well in 2021—partly due to worries about inflation and rising interest rates, as these stocks are often considered bond proxies. The

Utilities Select Sector SPDR
exchange-traded fund (ticker: XLU) had a one-year return of about 6% as of Nov. 17. Dominion’s (D) return in the same period was a negative 7%.

“Utility investors have very long memories,” says Jeremy Tonet, who covers North American utilities for J.P. Morgan. “It takes a period of execution to move past historical views. We think that has fed into some of the malaise in the stock price.” Tonet rates Dominion Overweight with a price target of $88, versus about $75 recently.

Based in Richmond, Va., Dominion’s portfolio includes utilities in Virginia, North Carolina, and South Carolina. Those units contribute about 70% of its operating earnings. Another 17% comes from natural-gas distribution in six states. It also has several nuclear-power plants and a 50% stake in a natural-gas liquefaction facility in Maryland.

The market isn’t giving Dominion credit for some solid attributes, including the company’s annual earnings-per-share growth target of 6.5% through at least 2025. Throw in a dividend yield of about 3.4%, and a 10% annual return is possible if the company meets its goals.

Another plus for Dominion is that about 90% of its operating earnings come from state-regulated utility operations, providing some reliability to the company’s expected returns on capital.

Environmental, social, and governance, or ESG, considerations have become intertwined with the company’s future. Dominion has committed to achieving net-zero carbon-dioxide and methane emissions from its power generation and gas infrastructure by 2050, helped by a multibillion-dollar buildout of various renewable-energy assets such as offshore wind.

In J.P. Morgan’s most recent ranking of utilities on environmental issues, “Dominion was one of the top names as far as green rate of change,” says Tonet. A little more than half of the utility’s five-year $32 billion capital-growth spending plan is earmarked for zero-carbon generation and energy-storage projects, including solar panels, battery storage, and offshore wind.

Dominion is aiming to complete an estimated $10 billion wind farm some 30 miles off the coast of Virginia by the end of 2026—a project the company says will generate enough energy to power up to 660,000 homes. Bobby Edemeka, a portfolio manager at the

PGIM Jennison Utility
fund (PRUAX), which owns Dominion, calls it “one of the more attractive investment opportunities” among regulated U.S. utilities.

Regulated utilities such as Dominion typically rely on state utility commissions to approve rate increases, which hinge on an operator’s “rate base”—essentially, the prudent investments it makes in its grid and other assets, minus any depreciation. A utility is allowed to earn a rate of return on its asset base.

“Their renewable-energy growth is going to be 100% regulated, which is something that most of the utilities can’t say,” says Edemeka, noting that regulation reduces risk.

The Virginia Clean Economy Act, passed in 2020, calls for utilities to retire electric-generating units in the state “that emit carbon as a byproduct of combusting fuel to generate electricity”—a coal-fired plant, for example. It also requires Dominion to have offshore wind projects capable of generating 5,200 megawatts by 2034. A megawatt is a unit of power equal to one million watts.

Dominion has simplified its business mix by selling off assets, including a big chunk of its natural-gas transmission and storage assets to Berkshire Hathaway Energy in a deal initially valued at about $10 billion last year. The Questar Pipeline piece was eventually scuttled amid antitrust concerns and is now being acquired by

Southwest Gas Holdings

(SWX).

While Dominion’s retooling to focus on regulated utilities makes sense, it has had an unpleasant consequence. When it sold its gas assets last year, the accompanying cash flow went out the door—and led Dominion to slash its quarterly dividend to 63 cents a share from 94 cents. Still, Dominion has said it plans to boost its dividend at a 6% annual clip in the future.

A recent overhang for the stock was a triennial review with the state of Virginia. The most recent settlement, which includes a proposed return on equity of 9.35% for Dominion, compared with 9.2% previously, should help the stock price eventually.

Meanwhile, the stock recently traded at 18.3 times the FactSet consensus 2022 profit estimate of $4.11, in line with its five-year average. Akers of Wells Fargo expects Dominion to command a modest premium multiple to its mid-cap and large utility peers, helped by “that clean energy story.”

Write to Lawrence C. Strauss at lawrence.strauss@barrons.com