The Southern Company (SO), Duke Energy Corp (DUK), American Electric Power Company, Inc. (AEP): Here’s Why You Should Watch Out for Coal-Reliant Utilities

Financial Comparison

Data from Morningstar and Financial Visualizations on August 16th, 2013

The industry has an average P/E ratio of 35, which leaves all three stocks undervalued. Relatively, American Electric Power is the most undervalued of the group. The company’s largely coal-based portfolio helps to exploit the cheaper option of power production when gas prices are making gas-fired power plants increasingly expensive.

However, with stricter laws against coal expected to be in place by 2015, American Electric Power Company, Inc. (NYSE:AEP) will need to change its coal-heavy portfolio sooner rather than later. The company’s forward valuation also suggests that it is a cheap buy. The company’s cash flow over the past three years has been going from strength to strength as well, boding positive free cash flow/net income ratios.

In the utilities segment, large yields make the comparison significant. American Electric power has been increasing its dividend for the last 10 consecutive years while maintaining a healthy payout ratio. The Southern Company (NYSE:SO) has the largest yield of the three, and the company has also been increasing its dividends for the last 10 consecutive years. However, the company has a high valuation and volatile cash flow.

Verdict Due the high amount of regulation in the utilities industry, the dividend payouts should be considered safe for the foreseeable future. What becomes important then is the earnings growth on offer – with 37% reliance on coal-fired power, Duke Energy Corp (NYSE:DUK) looks to be in best shape for the impending environmental regulations.

American Electric Power Company, Inc. (NYSE:AEP) presents a strong case for investment, but its heavy reliance on coal will cause uncertainty in a year’s time when new rules are enforced. Furthermore, the reliance on coal is unsustainable in the long run even if the plants are installed with scrubbers, since nuclear and alternative power options offer a cheaper solution.

The article Here’s Why You Should Watch out for Coal-Reliant Utilities originally appeared on Fool.com.

Awais Malik has no position in any stocks mentioned. The Motley Fool recommends The Southern Company (NYSE:SO). 

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