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AEP, DUK, and SO: Are Utilities Trading Cheap?

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Valuation

Investors may find US utilities cheaper compared to where they were a couple of months ago. On November 23, 2016, American Electric Power (AEP) was trading at an EV-to-EBITDA (enterprise value to earnings before interest, tax, depreciation, and amortization) of 9.7x. AEP’s five-year historical EV-to-EBITDA average stands nearly at 9.5x. The chart below shows that AEP is fairly valued compared to peers and even to its own historical average.

AEP’s peer Duke Energy (DUK) is currently trading at an EV-to-EBITDA multiple of 10.3x. Southern Company (SO) is at a valuation multiple of 12.2x.

aep valuation

The EV-to-EBITDA ratio indicates whether the stock is undervalued or overvalued, regardless of its capital structure. EV is the combination of a company’s debt and market capitalization minus its cash holdings.

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PE multiple

Utilities have largely traded near an average PE multiple of 15x–16x in the last several years. American Electric Power is currently trading at a PE multiple of 18x, much lower than the industry average. Duke Energy is at 18x, and the industry average is currently near 20x.

Utilities (XLU) are still trading at a handsome yield of ~4%, much higher than Treasuries’ or broader markets’ yields. Plus, they’re available at much lower costs than they were a couple of months ago. Consequently, investors may have renewed interest in them despite their recent weakness. Importantly, the Fed’s upcoming December meeting may pave the way for utilities.

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