NextEra Energy (NEE) operates through 3 segments. The Florida Power & Light ("FPL"), and Gulf Power divisions comprise the company's regulated utility segment, generating around ⅔ of its earnings. Its third segment, NextEra Energy Resources ("NEER"), is the largest generator of wind and solar energy globally, contributing to the rest of its total profitability.

The company is the largest American utility provider, boasting a market cap of $136B, twice as much as the second-largest utility provider, Dominion Energy (D), with a market cap of $66B. The company has been growing rapidly, expanding its renewable portfolio. Its commitment to the future of electricity through renewables, along with its healthy cash flows, is likely what has gotten many hedge funds and institutional investors – like Carlson Capital – interested in NextEra Energy.

Business Overview & Recent Events

The company operates in a sector with predictable cash flows, allowing it to deliver consistent profitability, even on times of uncertainty, such as those under COVID-19. A few weeks ago, NextEra published its Q2-2020 results, displaying precisely that. While revenues were modestly down by about 15%, to reach $4.2B, the company slightly increased its profitability by around 1.1%, delivering a net income of $1.27B. We believe that this is a testament to the company's ability to generate steady profitability under adverse times while growing its bottom line as soon as normality resumes. Its 10-year EPS CAGR (Compound annual growth rate) is close to 6.9%, beating the overall sector's profitability growth by a considerable margin.

Valuation and Dividend Analysis

With consistent profitability, management has been committed to delivering sustainable shareholder returns. NextEra has achieved 25 years of consecutive dividend increases. What's even more impressive is their average annual growth rate of over 10.5% during the past decade. As a result, NextEra has been a dividend-growth favorite in the investing community. However, since dividends have been increasing faster than the company's underlying profitability, the payout ratio has reached a decade high of around 63%. While the levels are not worrying, with enough room to grow further, investors should not be surprised by a potential dividend growth deceleration in the coming years. Shares are currently yielding a modest 2%.

As of its latest retort, the company held $42.6B of long-term debt. The position may be seemingly quite high. However, it's common for utility providers to continuously issue debt and equity to fund CAPEX, as they distribute most of their earnings in the form of dividends. In doing so, the company has maintained a very healthy LT debt to equity ratio of around 100%, using both instruments equally to finance itself. Further, while the company's cost of debt is not particularly low at approximately 5.6%, interest payments are covered by around 2.12 times its operating cash flows, retaining a decent safety net.

In terms of its valuation, NextEra is currently trading at around 35X its forward earnings. The multiple is quite high, considering that the same figure in terms of the sector's average is about 20. The premium valuation is attributed to the company's sound balance sheet, rapid dividend growth, and most advanced portfolio of renewables in the market, ensuring its future growth. However, with its valuation currently way above its historical average, we believe that a potential pullback is likely, as shares return to a more reasonable range.

The Bottom Line

Overall, we conclude that NextEra is an excellent stock for those who want to be invested in the future of renewable energy, while also enjoying the cash flows from the company's more reliable and predictable regulated segments. We believe that the company's long-term dividend growth makes up for its currently low yield of 1.97%, while the relatively low payout ratio should secure future distributions' reliability. The balance sheet remains sound, and management's expertise to navigate through f adverse economic environments has been proven multiple times. Even though we are confident in the company's long-term success, we recommend that investors are conscious of the stock's current valuation, which could limit their total return potential.