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Utilities’ Free Cash Flow Continues Downtrend, AEP No Exception

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Jun. 1 2016, Updated 3:05 a.m. ET

American Electric Power’s free cash flow

There is no respite for utilities in this challenging environment. In the last five years, electric utilities have generally experienced stable or declining cash flow from operations, while their capital expenditure has increased.

The chart above shows American Electric Power’s (AEP) free cash flow over the last five years. Free cash flow is a measure of the difference between a company’s capital expenditure and the cash flow it generates from operations. Through this free cash flow, a company can pay dividends, expand, and make acquisitions.

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AEP’s operating efficiency

Like many other utilities, American Electric Power saw its operational cash flow grow slowly while its capital expenditure steadily increased. AEP’s free cash flow for 2015 declined to $218 million from $367 million in 2014.

The principal cause of this free cash flow decline was falling load growth. In the last eight to ten years, electricity demand growth has lingered near 0%. Utilities have managed to keep their top lines healthy by expanding their customer bases or widening their product portfolios. However, weather and energy efficiency programs had a substantial influence on utilities’ performance. Also, utilities’ capital expenditure has risen drastically in the last five years. In fact, utilities’ business model forces them to spend more to earn more.

With interest rates bound to increase in the near future, utilities’ (XLU) cash flows are expected to be impacted. American Electric Power accounts for 3.2% of the First Trust Utilities AlphaDEX ETF (FXU). FXU’s top holdings include SCANA (SCG), Public Service Enterprise (PEG), and Exelon (EXC), which each make up 4% of FXU.

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