Last Updated on August 22, 2023 by Prakash Kolli
Dominion Energy Inc (D) announced a dividend cut this past week. It is now one of the over 400 companies to have suspended or cut the dividend due to the coronavirus. Dominion’s divided cut was tied to two other events. One event was the approximately $9.7 billion sale of Dominion’s natural gas transmission pipelines and storage segment to Warren Buffett’s Berkshire Hathaway (BRK.A) and (BRK.B). The other was that Dominion was canceling the Atlantic Coast Pipeline project and said it will take $2.7 billion to $3.2 billion in charges. The market reacted poorly to the announcements. The stock was down roughly (10%) on the announcements. Notably, Dominion also reduced the future payout ratio. Let’s take a look at some of the details for the dividend cut by Dominion Energy.
Overview of Dominion
Dominion Energy is a large integrated energy company. The utility has about 30.7 gigawatts for generating capacity and approximately 10,400 miles of electric transmission lines and 85,000 miles of electric distribution lines. The company also owns and operates natural gas transmission lines, natural gas distribution lines, and storage facilities. Dominion serves roughly 7 million customers.
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Dividend Cut by Dominion Energy
Dominion was a popular income stock before the announcement. The stock had over 77k followers on Seeking Alpha. Much of this was due to the high dividend yield compared to the S&P 500. The yield has consistently been over 4% since early 2018 and more recently has been over 5% at times. However, revenue, earnings, and cash flow will be reduced after sale of the segment means that a dividend cut likely needed to occur. There is more to the story though. The target future dividend payout ratio was reduced to 65%. This was done to align the dividend payout with the company’s peers and reflect lower future earnings.
Specifically, the company stated regarding operating guidance:
To reflect today’s announcements, Dominion Energy is revising its 2020 operating earnings guidance. The company now expects 2020 operating earnings of $3.37 to $3.63 per share. The company’s previous guidance was $4.25 to $4.60 per-share. Dominion Energy expects 2021 operating earnings per share to grow around 10 to 11 percent over 2020, reflecting the full-year impact of planned share repurchases, and by about 6.5 percent annually starting in 2022, off a 2021 base. This represents a 1.5 percentage point, or approximately 30 percent, increase from previous long-term earnings per share growth guidance.
For dividend guidance, the company stated:
The company now expects to target an approximately 65 percent payout ratio to be effective upon completion of the transaction. This new payout ratio implies a 2021 dividend payment of around $2.50 per share. The projected reduction in the annual dividend reflects the absence of income from the divested assets and a revision to the company’s target payout ratio to align with best-in-class industry peers.
Dominion Sells Natural Gas Transmission Pipelines and Storage
The driving force behind the cut is partly due to the sale of the Dominion’s natural gas transmission pipelines and storage assets. This includes over 7,700 miles of pipelines and 900 billion cubic feet of storage. Berkshire Hathaway is paying $9.7 billion. Of this, about $5.7 billion will be assumption of debt and $4 billion will be cash at closing. Buffett’s Berkshire Hathaway has a large business unit, Berkshire Hathaway Energy, that operates natural gas pipelines and storage. This acquisition will add to Berkshire’s scale in this business. For Dominion, the obvious benefit is that leverage will be reduced. In addition, Dominion intends to use the cash proceeds from the sale to repurchase shares. Dominion sheds some risk as pipeline projects are facing more resistance for approval. The sale will also result in Dominion being more focused on regulated utility operations.
Dominion Also Canceled the Atlantic Coast Pipeline Project
Separately, Dominion announced the cancellation of the Atlantic Coast Pipeline Project. This project was a partnership with Duke Energy (DUK). The pipeline would transport natural gas for 600 miles to locations in North Carolina and Virginia. The outcome and costs of the project were uncertain due to resistance from various groups and lawsuits. On the positive side, Dominion received a favorable U.S. Supreme Court decision last month who overturned a decision by a lower court. But a new court ruling from the U.S. District Court of Montana and the low probability of a successful appeal added risk. Further the estimated costs have ballooned from $4.5 – $5.0 billion when announced in 2014 to roughly $8 billion now. Pipelines are facing increasing legal challenges from environmental groups.
The Dividend Safety is Better Now
Before Dominion announced the dividend cut, the regular quarterly cash dividend was $0.94 per share. The annual dividend was $3.76. So, even at the low end of previous guidance the payout ratio would be 88% of operating earnings. This is a high value. After the sale of Dominion’s natural gas transmission pipelines and storage segment the dividend would have exceeded the new expected earnings. Hence, the divided was cut by Dominion Energy. The new forward payout ratio will range between 69% and 74% of operating earnings. This is still a bit high. Note that Dominion intends to pay one more quarterly cash dividend of $0.94 per share. The dividend will be cut in the fourth quarter in December 2020.
Note that cash flow will be reduced. For the most part Dominion’s capital expenditures have run at or slightly higher than operating cash flow for the past few years. The dividend required $2,983 million in cash in 2019. At the new dividend rate the future cash flow will now be $2,095 million (assuming 838 million shares). The dividend is on safer ground now from both an earnings and cash flow perspective and should grow in the future. Dominion is targeting dividend per share raises of 6% annually. This is much higher than the low single-digit rate increases that were occurring in the past several years.
Final Thoughts on Dominion
Despite the dividend cut by Dominion, it is still a decent stock for those seeking income. Based on the current stock price, the forward dividend yield will be about 3.3%. This is decent and greater than the current average yield of 1.9%. Clearly, one can do much worse when seeking income. Dominion will have less exposure and risk to natural gas pipelines and storage assets. The problematic Atlantic Coast Pipeline project will no longer be a sink for shareholder capital. The great majority of earnings will be from regulated utility operations. Leverage will be lower after completion of the sale to Berkshire Hathaway.
The dividend should grow with time. There are utility stocks with higher yields, but the ‘new’ and more focused Dominion should provide decent income over time.
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Prakash Kolli is the founder of the Dividend Power site. He is a self-taught investor, analyst, and writer on dividend growth stocks and financial independence. His writings can be found on Seeking Alpha, InvestorPlace, Business Insider, Nasdaq, TalkMarkets, ValueWalk, The Money Show, Forbes, Yahoo Finance, and leading financial sites. In addition, he is part of the Portfolio Insight and Sure Dividend teams. He was recently in the top 1.0% and 100 (73 out of over 13,450) financial bloggers, as tracked by TipRanks (an independent analyst tracking site) for his articles on Seeking Alpha.