Enel Announces New Strategic Plan, BUY Reaffirmed (OTCMKTS:ENLAY)

Dear readers,

Enel (OTCPK:ENLAY) is an Italian-based global utility company with operations in Italy (30%), Latin America (28%), Spain (24%) and the U.S. (8%). The company is vertically integrated and therefore operates throughout the energy production sector from electricity production to distribution. Notably, Enel has a heavy exposure to renewables of 55% and is actively working on it increasing further.

I became very interested in the stock in 2022 when price fell from a high of about 9 EUR per share (for the native shares) to just EUR 4 per share. The sell off was mainly sparked by high interest rates which disproportionally affected Enel’s price given their high leverage. But with record high electricity prices at the time, cash flow remained quite stable and the dividend remained very well covered, despite a high 10% yield.

Consequently, Enel made for a rare case of a safe and high dividend, combined with major upside potential on a decline in yields. I’ve covered the stock a number of times, most recently in October when I highlighted (1) Enel’s successful de-leveraging fuelled by disposals of non-core assets and (2) an appealing valuation of 9x earnings (vs a 10-yr average of 13x). My BUY rating has done well since then, with a RoR of 13.3%, which matched the return of the S&P 500 (SPX) over the same period.

Over the past four months, Enel has released its Q3 results and has announced its strategic 2024-2026 plan.

Q3 results

The first nine months of 2023 were pretty good for Enel. Ordinary EBITDA has increased by 29% YoY to EUR 16.4 Billion and Net Ordinary Income has increased by a whopping 65% to EUR 5 Billion. As a result, management has revised their full year 2023e EBITDA and Net Income targets to EUR 21.5-22.6 Billion and EUR 6.4-6.7 Billion, respectively.

Strong operational results have supported (1) a dividend increase of 7.5% YoY to EUR 0.215 per share (paid semi-annually for a total dividend yield of 7%), and (2) significant de-leveraging of the balance sheet.

Enel has been able to bring down their net debt/EBITDA from 3.6x in Q3 2022 to a very reasonable 2.6x just one year later, primarily thanks to (1) superb EBITDA growth and (2) an aggressive disposal program of their non-core assets in Tier 2 countries. Management targets ND/EBITDA of 2.4-2.5x by the end of 2023 and expects to achieve this as a result of three ongoing disposals:

1. Sale of Peruvian assets which should reduce net debt by EUR 3.1 Billion
2. Sale of 50% in Greek EGP Hellas expected to generate EUR 300 Million
3. Sale of 150 MW solar and geothermal capacity in the U.S. for another EUR 300 Million

Strategic plan

I went over Enel’s 2022-2025 strategic plan in my past articles. That plan was mostly about (1) increasing the share of renewables to 75%, (2) selling non-core assets worth a total of EUR 21 Billion, and (3) reducing leverage.

Over 2022-Q3 2023, Enel has done a very good job of delivering on that plan. In particular, it has grown the proportion of renewables to 65% and is well on track to hit its debt reduction targets thanks to EUR 15.6 Billion in disposal proceeds over the past two years.

On the most recent investors’ day, Enel announced its updated strategic plan for 2024-2026 which intends to:

1. grow renewables further (to 86%),
2. optimize CAPEX spending (by EUR 1.8% Billion / about 7% a year),
3. reduce leverage (to 2.3x EBITDA),
4. and grow EBITDA and Net Income by a 5-6% annual CAGR.

Additionally, I like the fact that Enel is not pushing their growth plans into the future, but rather coming with an aggressive 2024 forecast which is expected to deliver a significant part of the progress planned for the next three years. In particular, EBITDA and Net Income are targeted to increase by 10% and 13% next year, respectively and ND/EBITDA at 2.4x by 2024.

Why Enel remains a BUY

In my mind, Enel is first and foremost a dividend play. The company set a dividend floor at EUR 0.43 per share until 2026, which more or less guarantees a 7% dividend yield until the end of 2026. Moreover, with a targeted 70% pay-out ratio and Net Income expected to grow, I estimate a 6% dividend CAGR over the next three years, with a larger than proportional part of the increase in 2024 (fuelled by Net Income growth of up to 13%).

Beyond the dividend, I also expect a fair bit of upside.

Currently, the stock trades at 9.2x forward earnings which is below the 10-year historical average of 13x and below peers such as the Spanish-based Iberdrola (OTCPK:IBDSF) which trades at 14.5x.

In my last article, I assumed 6% earnings growth in 2024 and 2025 and an exit multiple of 11.5x (halfway between today and the 10-year average) for a price target of EUR 8 per share, up 30% from today. Following the release of Q3 earnings and the updated (ambitious) strategic plan I’m sticking to that price target and reiterate my BUY rating for Enel here at EUR 6.1 per share.

Frankly, I only expect the upside to materialize once yields decline, but in the meantime, investors get paid a very high (and reliable) dividend to wait.

Risks

On the risk side, I see two factors that could jeopardize my thesis.

First, Enel is very reliant on energy prices and only (partially) hedges its near-term exposure. Consequently, a decline in electricity in Europe (where Enel generates 70% of their revenues) would negatively impact earnings and consequently the stock price. I see such a decline as highly unlikely unless the EU somehow agrees to once again source their natural gas from Russia.

Second, high leverage makes Enel a high duration stock. Therefore a prolonged period of high interest rates is bearish for the stock. Luckily, similarly to the Fed, the ECB is very likely done hiking rates and is now considering the timing of the first cut.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.