IBDRY - Iberdrola: Possible Earnings Revision Coming Over Next Few Quarters

2023-04-28 11:03:25 ET

Summary

• 1Q23 results were impressive, with EBITDA increasing by nearly 40% to €4.06 billion, primarily driven by Spain and UK.
• Consensus is not pricing in management FY23 EPS growth guidance, which makes room for possible earnings revision.
• The main risk for the business is the decline in Spanish electricity prices.

Thesis

Iberdrola ( OTCPK:IBDRY ) primarily operates in the electric utility industries of Spain, the United Kingdom, Brazil, and the United States. IBDRY announced its 1Q23 results two days ago, and they were impressive. With hydro and nuclear output in Spain back to normal and supply margins expanding, 1Q23 EBITDA grew exceptionally well by 40% to €4.06 billion. Performance in its home country of Spain (40% of EBITDA) was also very strong due to higher margins and better-achieved prices in power generation. Its Electricity Production and Customers EBITDA also increased by nearly €1 billion from 1Q22, demonstrating strong performance. All in all, I would say that IBDRY is a very strong business, with strong track record of growing the business, strategically positioning itself for future trends, and most importantly a strong track record of share price appreciation (16% 10-year IRR, with 11% from share price appreciation). In particular, IBDRY's diversified business model appeals to me because its power grids and RES division will grow rapidly thanks to IRA initiatives in both the United States and Europe. Regarding long-term secular trends, management has signaled plans to plow back a sizable chunk of earnings into green power. In my opinion, this will foster healthy organic expansion. Last but not least, the recent sale of assets in Mexico has simplified operations and improved the company's balance sheet, freeing up funds that can be reinvested in the United States and the United Kingdom. All in all, I recommend a buy rating.

1Q23 results

EBITDA for the period increased ~38% to €4.06 billion, while net income hit €1.48 billion. Electricity generation and consumption in both Spain and the United Kingdom were major contributors to the strong outperformance. Improved hydro and nuclear volumes were largely responsible for Spain's success, as they allowed for a decrease in costly energy imports.

Guidance

I believe there is a good chance we see a beat and rise action for the remaining FY23, as consensus seems to not believe management guidance. Excluding one-time items, management raised FY23 net income guidance in the 1Q23 earnings report from mid-single-digit growth to high-single-digit growth. Assuming 8% annual growth, this amounts to a net income of around €4.7+ billion for FY23. Whatever the doubts are, I believe we could see a positive earnings revision over the coming as management continues to reiterate its guidance, thereby further de-risking the FY23 guide.

U.S.

In response to a question about offshore wind energy in the United States, management confirmed on the call that the previously agreed-upon fixed price for Commonwealth Wind is now too low to proceed. Management did note that the developer has the option to leave the contract with a $20 million termination fee if it is not ready to build, but that it plans to re-bid and is still interested in the US Offshore Wind market. My impression is that the management is not pursuing expansion at any cost, but is instead remaining shareholder-friendly by focusing on profitable expansion. Management also suggested that if they don't win the bid, all hope is not lost and that other options should be explored.

Brazil

Management also disclosed that it has entered into a strategic agreement with GIC to sell GIC a 50% stake in certain operational assets of its Brazilian electricity transmission network. My take on this is simple - it helps IBDRY further strengthen its balance sheet, further pushing down the leverage ratio. With this and the sale of Mexico assets, I expect management to reallocate excess capital to the growth region across the Atlantic and also sustain its dividend payout to shareholders.

Valuation

IBDRY should be valued on a forward earnings basis, as it is currently trading at 16x forward PE, just 1x above its average. The earnings outlook and the strategic focus on clean energy investment over the next few years, in my opinion, support the valuation. If IBDRY meets its FY23 guidance (8% EPS growth) and maintains a strong mid-single-digit (say 5%) momentum in the coming years, it should generate around and generates €0.83 FY25 EPS, it implies an FY24 share price of €13 if it trades at the same multiple. Adding the dividend (4% yield per year) to be paid over the next two years results in a two-year total return of 20%. In addition, the reduction in debt profile might give a boost to valuation multiples as well. While this is not much, I would like to emphasize that IBDRY is a stable company with a forward PE valuation that has a standard deviation of 2x over the last ten years.

Risks

The most significant negative factor is the decline in Spanish electricity prices. Since Iberdrola is primarily a fixed-cost generator in Spain, falling power prices due to rising gas prices and faster-than-expected additions of renewable capacity could cut into IBDRY's margins in Spain.

Conclusion

Iberdrola's 1Q23 results demonstrate strong performance, with EBITDA increasing by nearly 40% to €4.06 billion. The company's diversified business model and strategic positioning for future trends make it a compelling investment opportunity, particularly with its focus on green power and simplification of operations through asset sales. While there are risks associated with declining Spanish electricity prices, the company's solid track record and forward earnings valuation support a buy rating. With the potential for positive earnings revisions and further capital reallocation, I believe that Iberdrola is well-positioned for continued growth and long-term shareholder value creation.

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