Duke Energy (NYSE:DUK) reported its first quarter earnings on Friday, with earnings about flat on a year-over-year basis when excluding one-time items.  During the quarter, the relatively mild weather in the U.S. resulted in a decline in sales, but the impact was largely offset by higher electricity rates in the Carolinas and reduced operating and maintenance costs. Despite the drop in sales, the company registered solid customer additions and better cost management, which should allow for margin expansion in the future. Duke Energy provides electric and gas services in North America and Latin America and with the expected completion of the Progress Energy (NYSE:PGN) acquisition by July 2012, Duke will become the largest player in the U.S. power generation market.
We have price estimate of $25 for Duke’s stock, which is about 15% above the current market price.
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Strong U.S. customer additions, natural gas volume growth
Though Duke’s revenues declined because of mild weather conditions in the U.S., the company added about 20,000 residential customers.  However the decline in megawatt-hours (MWh) per customer dipped compared to the prior year’s quarter. Simultaneously, declining gas prices have led to increased adoption of natural gas use – Duke is also involved in the transmission and sale of natural gas in southwestern Ohio and northern Kentucky and enjoyed higher volumes and margins in its natural gas operations. Switching to natural gas from other fuels for energy production is an emerging trend and we expect Duke Energy to benefit from this. U.S. Franchised Electric & Gas is the company’s largest segment and contributes nearly 84% of our price estimate.
Margin improvement from cheaper natural gas
Duke Energy already has among the best operating margins in the industry  and we are noticing further improvement in margins. Two factors that contribute to that are higher realizations due to increases in electricity rates and a decline in operating expenses due to a better mix of generation, with less coal and more cheap natural gas. Duke’s 620-megawatt Dan River gas plant should be available for production by the fourth quarter. Going forward, we expect electricity prices to remain largely steady and natural gas prices to remain low, which should allow for sustained healthy margins.Notes:
- Duke Energy Overcomes Mild Weather to Post Solid First-Quarter 2012 Results, Press Release, May 4, 2012 [↩]
- Duke Energy’s CEO Discusses Q1 2012 Results – Earnings Call Transcript, Seekingalpha.com, May 4, 2012 [↩]
- Duke Energy Competitors, Yahoo Finance, May 7, 2012 [↩]