Earnings Preview: Warmer-Than-Expected Summer Should Boost Duke’s Profits

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Duke Energy

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Duke Energy (NYSE:DUK), one of North America’s largest utility holding companies, is expected to publish its Q3 2015 earnings on November 5th. [1] In the previous quarter, the company reported a 15% decline in Earnings Per Share (EPS) mostly due to one-time tax settlement with a smaller impact from lower amounts of electricity sold in Indiana, U.S., and South America. [2] The negative impact of currency conversion also contributed to lower reported revenue for Duke’s International Power business. [3] However, the company guided for an increase in contributed EPS for the third quarter in its earnings call. Below we take a look at what we expect from the company’s third quarter results.

We have a $68 price estimate for Duke Energy, which is about 6% below the current market price.
Regulated Utilities Should Benefit From Increased Demand
Duke’s regulated utilities business is its biggest division and generates around 92% of its revenues and more than 90% of its valuation, according to our estimates. The division encompasses sale of utilities both through a contracted wholesale channel and a retail channel. Duke had previously guided for higher wholesale volume but its retail business is also likely to benefit from a warmer than expected summer that boosted demand for electricity during the July-September period. [4]
During the first six months of the year, Duke sold higher amounts of electricity in all of its business regions except Indiana and the Carolinas. On a year-over-year basis, the decline in Indiana exceeded 5%, so we’ll be looking out for data on whether this represents a secular trend or whether the decline was due to special causes. [3]
Additionally, Duke also filed 15-year plans for Duke Energy Carolinas and Duke Energy Progress with the regulators in North and South Carolina last month. Industry watchers have expressed some doubts about the realism of those plans in a rapidly changing energy landscape. [5] Earlier, Duke’s CEO Lynn Good had stated that the company is serious about diversifying its assets and expanding into renewables, storage batteries and distributed generation, but the plan submitted to the regulators focused mainly on replacing the company’s existing coal assets with natural gas. We’ll be looking for more color on this front in the earnings call.
International Business Continues To Remain Weak
Duke’s international business is likely to be its biggest growth driver, going forward. Compared to its commercial power business, the international business is much more productive – contributing around 5% of revenues despite accounting for only 4% of the total assets.  This is in comparison to the commercial power business, which contributes just 1% revenue but accounts for 5% of the asset base. [6] However, 40% of Duke’s international revenue comes from Brazil, whose economy has been in a downward spiral since the commodity super cycle collapsed as a result of slowing growth in China.
The Brazilian Real has fallen by over 30% against the US dollar over the past year. [7] Economies of many South American countries are highly dependent on exports. China is a trade partner to many of these countries, and a decline in its GDP growth rate, currency devaluation in China and the Chinese stock market crash of July have resulted in spillover effects of contraction on these South American economies. The situation has been made worse by the exhaustion of a credit boom, which was responsible for raising consumer demand in the prior period. The decline in the value of the Brazilian Real and the strength of the U.S. dollar against currencies of Chile, Peru, Ecuador and El Salvador should weigh on the company’s margins, but low demand for electricity from these struggling economies could also contribute to weakness.
Notes:
  1. Duke Energy Investor Relations []
  2. DUK 8-K, SEC []
  3. Ref:2 [] []
  4. Duke Energy (DUK) Lynn J. Good on Q2 2015 Results – Earnings Call Transcript, Seeking Alpha, August 2015 []
  5. Duke Energy’s long-term plans can prove dicey in a rapidly changing industry, Charlotte Business Journal, October 2015 []
  6. Ref: 2 []
  7. Brazilian Real vs US Dollar, XE []