Duke Energy Earnings Preview: What We Are Watching

Duke Energy (NYSE:DUK) is going to release its quarterly earnings for Q2 on 2nd August, and we expect Duke to report solid growth this quarter riding on sound growth in its regulated electric business. During the quarter, cooling degree-days, a measure of electricity requirement in summers, increased significantly in Duke’s operating territory compared to same period in 2o11. A continuous shift from coal to natural gas as a primary fuel for electricity generation is visible and is likely to prevail for the next few quarters. We expect Duke to perform well going forward due to two reasons – improving economy in the U.S. and its enlarged scale after merger with Progress Energy, which will enable it to unlock value through economies of scale.

We are in the process of updating our analysis for Duke to account for the Progress acquisition and reverse stock split.

See our complete analysis for Duke Energy here

Weather conditions have traditionally defined the earnings for electricity producers and is an indispensable factor for determining their performance. In the quarter, consumption for residential customers in Ohio, Kentucky, Carolinas, and Indiana showed considerable growth due to slightly hotter summer. We expect MWh of energy consumed per customer to increase in this quarter. As far as the margins are concerned, we expect them to remain in line with yesteryear figures.

Outlook

Duke’s renewed focus towards more natural gas-fired production rather than coal-fired could benefit in the long term as the U.S. has huge reserves of natural gas available at a relatively cheaper cost. In the near term, however, the company will try to use up its build up coal inventories while simultaneously constructing gas-fired facilities.

Of Duke’s total fuel expense in 2011, coal was the largest contributor that stood at 60%, followed by nuclear at 37% and gas and oil at less than 2%. The company’s exposure in gas is minimal presently, but it is constructing new plants. Duke’s 3 ongoing projects in Edwarsport, Indiana, and Cliffside and Dan River in Carolinas will add nearly 2,000 MW power capacity by the end of 2012. Out of this planned capacity expansion, more than 1,200 MW is going to be from gas-fired plants. This will help Duke reduce fuel costs as well as overcome the capacity loses due to scheduled plant retirements in the coming quarters. The company has applied for rate hikes to several regulators, which will help register revenue growth and improve margins.

The new rulings by Environment Protection Agency (EPA) require Duke to comply to them by specific deadlines spread over next 5 years. Some of them are restrictions on mercury discharge, coal residuals and green house gases. Altogether, we believe rate hikes and cost containment due to economies of scale and coal-to-gas switching will help grow earnings while additional expenditures towards meeting EPA restrictions might partially offset the gains in earnings. While we believe the long-term outlook for the company is good, one will need to keep an eye on how timely it gets approval for rate hikes. The recent post-merger switch in the company’s CEO has led to regulatory scrutiny, which may delay the scheduled rate increases.

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