If you are looking for a high-quality dividend growth company, you will be very interested in our next undervalued stock. We will discuss Black Hills Corp. (BKH), an undervalued Dividend King utility. 

Black Hills Corporation is one company I own and have been buying recently, and it continues to look like an excellent share price range to pick up some more shares. The stock is trading at $55.69 per share as of this writing. This article will determine if the company is undervalued and deserving of our hard-earned money. 

Based on the Fastgraphs, the stock will return over 15.05% per year for the next three years at the current price.

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Source: Fastgraphs

Here, we have a technical chart of BKH. We can see that it’s near a long-term trendline and down a few red bars on the monthly time frame.

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Source: TradingView

Overview of BKH

Black Hills Corporation operates within the United States as a utility company in electric and natural gas services. The company functions through its subsidiary entities, divided into two distinct segments: Electric Utilities and Gas Utilities.

In the Electric Utilities division, Black Hills Corporation generates, transmits, and distributes electricity. Their services cater to approximately 220,000 electric utility customers in Colorado, Montana, South Dakota, and Wyoming. The company boasts ownership and operation of a substantial generation capacity totaling 1,482 megawatts alongside an extensive network of electric transmission and distribution lines spanning 9,024 miles.

The Gas Utilities segment is responsible for the distribution of natural gas. With a customer base of about 1,107,000 natural gas utility customers across Arkansas, Colorado, Iowa, Kansas, Nebraska, and Wyoming, the company manages a network of 4,713 miles of intrastate gas transmission pipelines. Furthermore, they oversee an intricate network of 42,222 miles of gas distribution mains and service lines. This segment also manages seven natural gas storage sites, nearly 50,000 horsepower of compression capacity, and approximately 515 miles of gathering lines.

BKH stock is down 38.2% since its all-time high in February 2020. The main driver of the stock price decrease has nothing to do with the company itself, as earnings have been consistent. Instead, it is due to the stock being overvalued and rising interest rates. Generally, when interest rates rise on short-term investments, the Utility sector struggles. 

As of this writing, the current stock price of $55.69 is right at the low end of the 52-week range, between $53.88 and $79.15 per share. Thus, BKH looks like a stock in the right place to buy up shares. 

Source: Black Hill Investor Relations

BKH Dividend History, Growth, and Yield

We will look at BKH’s dividend history, growth, and yield. We will then determine if it’s still a good buy at current prices.

BKH is considered a Dividend King, a company that has increased its dividend for over 50 years. According to Dividend Radar, BKH stock has increased its dividend for 53 consecutive years, making the stock one of three Dividend King utilities specializing in electricity and natural gas. BKH’s most recent dividend increase was 5%, announced in October 2022. Investors should expect another increase this October.

Dividend Growth

Additionally, according to Portfolio Insight, BKH has a five-year dividend growth rate of about 5.9%, which is reasonable considering how fast inflation increased last year and this year. The 10-year dividend growth rate is a little lower at ~5.0%.

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Source: Portfolio Insight

Something note is that BKH stock continued to pay its dividend during the most challenging period in the last 100 years. Many businesses and industries cut or suspended dividend payments during the COVID-19 pandemic. However, unlike many other stocks, BKH continued to pay dividends and increased them. That is very noteworthy. This fact alone leads me to believe in the strength of the company and the fact that management is focused and committed to the dividend policy.

Dividend Yield

The company has an excellent dividend yield of approximately 4.6%, higher than the dividend yield of the S&P 500 Index. This dividend yield is a tremendous initial yield for dividend growth-driven investors. And it is an excellent stock for income-driven investors who want a 4.5% yield or higher.

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Source: Portfolio Insight*

BKH’s current dividend yield is higher than its 5-year average dividend yield of ~3.3%. I like to look at this metric because it gives me a good idea if a company I am researching is undervalued or overvalued based on the current and 5-year average yield. Stock price and dividend yield are inversely related. The dividend yield decreases if the stock price increases, and vice versa.

Dividend Safety

Is the current dividend safe? This metric is critical to look at as a dividend growth investor. Undervalued dividend stocks sometimes present a “value trap,” and the stock price can continue to decline.

We must look at two critical metrics to determine if the dividend payments are safe yearly. The first one is adjusted operating earnings (EPS), and then we must look into free cash flow (FCF) or operating cash flow (OCF) per share.

Analysts predict that BKH stock will earn an EPS of about $3.75 per share for the fiscal year (FY) 2023. Analysts are 91% accurate when forecasting BKH’s future EPS. Also, the company misses these estimates 8.3% of the time. In addition, the company is expected to pay out $2.52 per share in dividends for the entire year. These numbers give a payout ratio of approximately 67.1% based on EPS, a reasonably conservative value for a utility, leaving the company with much room to continue to grow its dividend.

However, I prefer a payout ratio of under 65%, but BKH’s dividend is covered with a dividend yield of ~4.6% with future growth. At this point, it will allow the company to continue to grow its dividend at a mid-single-digit rate without sacrificing dividend safety. In addition, BKH has a dividend payout ratio of 25.3% on an OFC basis. Thus, the dividend is well covered in both EPS and OFC. Furthermore, Black Hills has an excellent dividend quality grade of an ‘A.’

BKH Revenue and Earnings Growth / Balance Sheet Strength

We will now look at how well BKH performed and grew its EPS and revenue throughout the years. When valuing a company, these two metrics are at the top of my list to study. Without revenue growth, a company can’t have sustainable EPS growth and continue paying a growing dividend.

BKH revenue has been growing reasonably at a compound annual growth rate (CAGR) of about 8% for the past ten years, according to Portfolio Insight. Net income did much better with a CAGR of ~9.9% over the same ten-year period. However, EPS has grown 6.6% annually for the past ten years and at a CAGR of 3.4% over the past five years.

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Source: Portfolio Insight

Since revenue, net income, and EPS grew well over the years, we will determine if this stock is attractive based on its valuation and dividend yield. We will talk about the company’s valuation later in this article. In the meantime, analysts predict that the company will grow EPS at a 5.1% rate over the next five years. 

Last year’s EPS increased from $3.74 per share in FY2021 to $3.97 per share for FY2022, an increase of 6%. Additionally, analysts expect BKH stock to make an EPS of $3.75 per share for the fiscal year 2023, which would be a ~6% decrease compared to FY2022. I don’t like to see that future earnings continue to decrease. However, in the following years, earnings are expected to be 3% higher in 2024 and another 8% increase in 2025.

The company has a solid balance sheet with a debt-to-equity ratio of 1.4. Thus, the company has a stable balance sheet to overcome significant economic downturns like the COVID-19 pandemic in the last two years, adding to the dividend safety.

BKH Stock’s Competitive Advantage

Investing in Black Hills Corporation (BKH) has risks and competitive advantages. On the risk side, BKH operates in a regulated industry where regulatory shifts, market volatility, and weather-related disruptions can impact its operations and profitability. Competition from other utility companies and technological disruptions could also challenge its market position. Managing debt and capital expenditures is also a consideration.

However, BKH enjoys competitive advantages like its diversified operations in electric and gas utilities across multiple states, which provides stability and geographic diversification. Ownership of transmission and distribution infrastructure offers a barrier to entry for competitors and a reliable revenue source. Long-term contracts and their experience dating back to 1941 contribute to their competitive edge. The company’s involvement in energy production and adaptation to evolving industry trends bolsters its potential for future growth. Hence, BKH is a Dividend King with sustainable advantages.

Valuation for BKH Corp.

One of the valuation metrics that I like to look for is the dividend yield compared to the past few years’ histories. I also want to look for a lower price-to-earnings (P/E) ratio based on the past 5-year or 10-year average. Lastly, I like to use the Dividend Discount Model (DDM). I use a DDM analysis because a business ultimately equals the sum of the future cash flow that the company can provide. 

Let’s first look at the P/E ratio. BKH has a P/E ratio of ~14.5X based on FY 2023 EPS of $3.75 per share. The P/E multiple is excellent compared to the past 5-year P/E average of 18.1X. If BKH reverted to a P/E of 18.1X, we would obtain a price of $67.87 per share.

Now, let’s look at the dividend yield. As I mentioned, the dividend yield currently is 4.6%. There is good upside potential as BKH’s 5-year dividend yield average is ~3.3%. For example, if BKH were to return to its dividend yield 5-year average, the price target would be $76.36.

The last item I like to look at to determine a fair price is the DDM analysis. I factored in a 9% discount rate and a long-term dividend growth rate of 5%. I use a 9% discount rate because of the higher current dividend yield. In addition, the projected dividend growth rate is conservative and lower than its past 5-year average. These assumptions give a fair price target of approximately $54.76 per share.

If we average the three fair price targets of $67.87, $76.36, and $54.76, we obtain a reasonable, fair price of $66.33 per share, giving BKH a possible upside of 19.1% from the current price of $55.69.

Final Thoughts on Black Hills Corp. (BKH): Undervalued Dividend King Utility

BKH is a high-quality company and a Dividend King that should meet most investors’ requirements. The company has a market-beating 4.6% yield and a long-term dividend growth history. Past earnings growth has been excellent. However, past performance does not mean it will be the same in the future. However, at the current price, the stock looks attractive. 

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