In this part, we’ll see which utilities are currently expensive or valued fairly. Xcel Energy (XEL) is trading at an EV-to-EBITDA (enterprise value to earnings before interest, tax, depreciation, and amortization) valuation of 10x. Its five-year historical average valuation multiple stands at 10x. The industry average is at 10.5x. Compared to the historical and industry average, Xcel Energy seems to be trading at a fair valuation.
The EV-to-EBITDA ratio indicates whether the stock is undervalued or overvalued irrespective of its capital structure. The enterprise value is the combination of a company’s debt and equity minus its cash holdings. We considered an EBITDA of the trailing 12 months for this calculation.
Let’s see how utilities are valued compared to the PE (price-to-earnings) ratio. Xcel Energy is trading at a PE ratio of 19x, while Duke Energy (DUK) is trading near a PE ratio of 20x. Southern Company is trading at a PE ratio of 19x.
Investors favored utilities despite their towering valuations due to their attractive risk-reward proposition. Their premium yield of nearly 4% is way better than what broader markets offer. They yield a premium of ~100 basis points compared to Treasuries. It will be interesting to see how the yield gap turns out if the Fed actually sticks to its three quarter-point rate hike target in 2017.