Summary
- Allete and Grid United plan to build a bidirectional 3 GW US East-West Grid connector.
- The North Plains Connector project represents further investment by Allete on decarbonizing its power services and helping integrate renewables into the US grid.
- Allete is primarily a regulated power utility but one that also has a substantial investment in the renewable energy transition.
- Allete is a regulated power provider with a steady dividend but renewables investments make the company future-proofed.
- Dividend investors might consider Allete as an alternative to traditional fossil fuel-based dividend providers, which face challenges as power gets decarbonized.
A large group of Seeking Alpha dividend investors are very focused on fossil fuel investments, especially US oil and gas majors, and in particular Exxon Mobil ( XOM ). XOM has provided dividend investors with substantial dividends for decades and in the past year outstanding share price appreciation (up 47.4% year on year). The recent share price increase and massive profitability in 2022 reflects the rare and unsettling Russian invasion of Ukraine and the resulting energy chaos in Europe that led to fossil fuel price increases around the world. This is unlikely to continue and indeed the end of the fossil fuel era is looming, with investment in renewables equaling investment in fossil fuels for the first time in 2022.
It's not clear that XOM acknowledges that its business is under threat and there's no sign that Exxon management sees the need to do other than expand its oil and gas production. I’ve argued in a number of articles that Exxon’s business is under threat from the need to reduce emissions and exit fossil fuels for power production. Here I introduce ALLETE ( ALE ), a US regulated power provider that's managing the exit from fossil fuels and embracing the emerging renewables-based grid structure. Dividend investors looking for a reliable dividend stream from a company with an eye to the future might consider Allete.
An often neglected aspect of the transition from centralized fossil fuel-based (coal or gas) power generation to distributed renewables energy based on solar PV and wind power is the need for connectivity between spatially separated grids to enable management of intermittent power generation at multiple sites. Europe and China are paying attention to development of HVDC (High Voltage Direct Current) grid elements to enable power shipments over long distances with minimal losses. The US grid is a laggard in this area, with poor connectivity between Eastern and Western power systems. Here I discuss small US utility Allete which pays a solid dividend and looks like it's future proofing its business by investing in key issues for the next generation grid.
Tomorrow’s grids look very different
The changes that Allete is embracing are part of a global effort beginning to redefine how grids of the future will look. This is happening around the globe. It's mostly happening as legacy fossil-fuel based grids are being forced to rethink their business strategies. An example is Australia’s biggest and dirtiest power provider AGL Energy Ltd (ASX:AGL), where a failed attempt to split the company into separate new energy and fossil fuel (coal) companies led to a crisis and change of direction. This is not just about exit from coal. Indeed there is a new order emerging that has elements that some traditionalists are barely aware of. The company is exiting coal early, building big battery facilities and 12 GW of new capacity, involving wind, solar PV, batteries and pumped hydro. The interesting new twist is that up to one third of the new facilities will involve “decentralised” assets. This means BEV charging, home batteries and “orchestrated” rooftop solar PV. “Orchestrated” means that the utility will be able to at least partially control the rooftop solar PV using advanced inverters to store or access the power produced. This “orchestration” is a growth area having increased 49% recently to 188 MW, but by 2035 this is expected to involve 2-4 GW of power.
Here's a look at an Australian home daily conventional energy use:
Rewiring Australia
And that for a fully electrified household:
Rewiring Australia
It's a very interesting contrast. The above figures are provided by Rewiring Australia . The staggering thing is that the two dominant energy uses in a conventional household come from vehicle fuels (ICE cars, 58.6 kWh daily) and energy wasted (16.9 kWh) in generating and transporting the electricity the household uses. The total power consumed currently by a conventional Australian household is 102 kWh (mostly fossil fuel for transport and electricity generation losses), while that of a fully electrified house is 37 kWh (electric car, heat pumps etc.).
The revolutionary aspects of the above Australian example are that a new paradigm is emerging that involves more efficient use of energy and essentially the absence of fossil fuels in the energy paradigm. This has to be dangerous for companies like XOM and for XOM investors. XOM’s website makes clear that it understands that the climate emergency is biting and that the move is toward decarbonizing global energy and transport. The website is full of the right words about decarbonizing, yet it's very clear that XOM’s business is about dramatically increasing fossil fuel exploitation.
What relevance does the above have to the US power system and Allete?
A PowerPoint presentation from Allete at the EEI Financial Conference in Hollywood, Fla., on Nov. 13-15, 2022, helps investors to get a sense of how Allete sees itself as a small but innovative US regulated power provider. The contrast with how XOM approaches the energy landscape is stark. Allete makes clear that it's acting on transitioning out of fossil fuel use and it claims to be No. 1 among investor-owned utilities for renewable investment in the US based on a percent comparison. Its Minnesota Power Regulated Operation is expanding solar PV and wind assets while at the same time retiring coal assets. It claims 50% renewable energy delivered to customers in 2020, with goals of 70% renewable by 2030 and 100% renewable by 2050.
Another key focus of Allete is enhanced resilience for grids with high levels of renewable energy, as I indicate below.
Allete’s value proposition revolves around long-term earnings growth in the range 5-7%, with a targeted payout ratio 60-70% and long-term dividend growth aligned with earnings. Robert Honeywill recently compared Allete’s performance with bond ETFs in his detailed quantitative comparison. This provides some valuable data for dividend investors to consider.
Qualitative aspects of Allete’s business
My approach to investment, while acknowledging the importance of quantitative analysis, focuses more on qualitative issues. A recent announcement from Allete is a good example of qualitative news that influences my thinking about investment. Allete has just announced a plan to build (along with Grid United) a $2.5 billion 385 mile HVDC (High Voltage Direct Current) line from Central North Dakota to Colstrip, Montana. The thing that got my attention was that this 3 GW bidirectional capacity link will double the existing transfer capacity between US Eastern and Western grids.
Why is this a big deal?
Discussions about decarbonizing power are often at a superficial level, overlooking critical features of building resilience. To give an example, the Texas power crisis in February 2021 is an interesting case study. While it was widely reported that the power failures were due to wind generators failing, in fact the dramatic power losses were primarily due to failures in thermal (gas and coal) generation (17,400 MW increased power loss, compared with renewables power loss of 4,300 MW). Clearly a major issue with the Texas power failure was failure to winterize all aspects of the Texas power system, but there's another issue that prevented adequate response to the problem. This is the issue of Texan power being isolated from the Western and Eastern power grids. The extreme cold was particularly focused on Texas. Had connectivity to Eastern or Western grids been available, the crisis would have been ameliorated.
My point is that connectivity is a big deal, especially as the percentage of renewable power increases. Here connectivity is important to help address intermittency and power excess/shortage issues. I’m convinced that grid connectivity based on HVDC connections is coming in a big way and this is why the recent report concerning Allete’s 385 mile “ North Plains Connector ” HVDC connection from central North Dakota to Colstrip Montana is worth paying attention to. Allete may be a small company but it's in the middle of innovative new generation grid development.
Investors interested in this area might have a look at this “ out there” article indicating where it might be headed, with globally connected HVDC links that have the capacity to always be able to access the sun shining somewhere.
What does the market think about Allete?
Allete is a minnow, with a market cap of just $3.4 billion, compared with XOM’s $475 billion, but it's a solid business that pays a substantial dividend. Perhaps because of its size, ALE stock doesn’t have a big coverage, with just one Seeking Alpha article (hold) in the past 30 days and Wall Street Rating from seven analysts in the last 90 days. Wall street has two strong buy, four hold and one strong sell recommendations. ALE has a Seeking Alpha Quant hold rating, as does XOM. Wall Street ratings of XOM are highly positive with seven strong buy and nine buy (12 hold) and just one strong sell in 29 Analyst ratings in the past 90 days. I’m not convinced that XOM is a safer dividend investment than ALE.
Conclusion
We're living through amazing times. There's a (hopefully) short-term crisis with the Russian invasion of Ukraine, which is providing an aberration in outperformance of fossil fuel companies, and a more confronting climate crisis that's accelerating and which must impact fossil fuel companies that are not addressing change. In this article I’ve looked at Allete as an interesting utility company that's navigating the huge energy transition with a clear strategy about continuing to pay a substantial and secure divided, while embracing a once in a century change in the energy system.
I think that it's interesting that one can choose a conservative dividend energy play while enjoying a ride to the future. Investors who have seen massive share value losses in companies that have coped poorly with decarbonization (like ASX-listed AGL which is down ~70% over the past three years) might pay attention.
I'm not a financial advisor but I pay attention to dramatic changes occurring in energy and transport. I hope that my comments about Allete might be of some interest to you and your financial advisor as you contemplate what to do about your energy and transport investments as the end of the fossil fuel era looms.
For further details see:
Allete: Dividend Play, Leading The Renewables Transition