Investors are facing a perfect storm this year due to the surge of inflation to a 40-year high and the increasing risk of an upcoming recession. Utility stocks are ideal candidates in the current environment, as most of them can pass their increased costs to their customers while they have also proved essentially immune to recessions.

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In this article, we will discuss the prospects of three electric utility stocks, which are offering dividend yields of at least 4.0% right now, namely Southern Company (SO), Evergy (EVRG) and Dominion Energy (D).

Southern Company

Southern Company is one of the largest energy utilities in the stock market, with approximately 9 million customers in the U.S. and a market capitalization of $73 billion.

Southern has exhibited poor business performance in the construction of its Vogtle plant for several years. This project has faced so many setbacks that it is now 7 years late, with an expected cost that is more than double the initial cost estimate. Due to these cost overruns and the acquisition of AGL resources for $12 billion in 2016, Southern has a high debt load.

The Fed is currently in the process of raising interest rates aggressively in order to restore inflation to its long-term target of 2%. This policy is negative for Southern, which will have to refinance a portion of its debt at higher interest rates.

On the other hand, Southern recently completed the initial fuel load at Vogtle Unit 3. As a result, there is limited margin for error going forward and hence the worse seems to be behind the utility. Moreover, Southern enjoys positive business momentum. Thanks to the material rate hikes approved by regulators and strong energy consumption, the company is on track to achieve record earnings per share of about $3.58 this year.

Southern is also attractive for its resilience to recessions. In the Great Recession, when most companies saw their earnings collapse, Southern saw its earnings per share slip only 1%. The company proved its immunity to recessions in 2020 as well, when it grew its earnings per share 5%, to a new all-time high, despite the fierce recession caused by the pandemic.

Thanks to its resilience to downturns and the reliable rate hikes approved by regulatory authorities, Southern has raised its dividend for 21 consecutive years and has not cut its dividend for 75 consecutive years. The stock is currently offering a 4.0% dividend yield, which is higher than the 3.4% median dividend yield of the utility sector. Given its reasonable payout ratio (for a utility) of 76%, its defensive business model and its promising growth prospects amid the expected completion of the Vogtle plant, the utility is likely to continue raising its dividend for many more years. The only caveat is the low growth rate of the dividend, which has averaged 3% over the last five years.

Evergy

Evergy is an electric utility that is headquartered in Kansas City, Missouri. Through its subsidiaries Evergy Kansas, Evergy Metro and Evergy Missouri West, the company serves approximately 1.4 million residential customers, nearly 200,000 commercial customers and 6,900 industrial customers and municipalities in Kansas and Missouri.

The subsidiaries of Evergy operate on a fully regulated retail utility model in Missouri and Kansas and thus they do not face any competition in these markets. In addition, just like Southern, Evergy has proved essentially immune to recessions. In 2020, despite the severe recession caused by the coronavirus crisis, Evergy grew its earnings per share 7%, to an all-time high level.

Evergy has grown its customer count in almost every quarter over the last decade. During this period, the utility has grown its earnings per share by 5.7% per year on average. This mid-single digit growth rate is typical in the utility sector. However, Evergy has significantly increased its investments in growth projects lately and hence it is likely to accelerate its business momentum in the upcoming years.

The company expects to spend $10.7 billion on capital expenses in 2022-2026 while it also aims to reduce its operational and maintenance expenses. It has curtailed these expenses by 18% over the last four years and expects to reduce them by another 8% until 2024. Given also expected regulatory approval of 5%-6% annual growth in rates, Evergy expects to grow its earnings per share by 6%-8% per year until at least 2025. The company also expects to raise its dividend in line with its earnings per share, at a 6%-8% annual rate, and maintain a dividend payout ratio of 60%-70% until at least 2025.

Evergy has raised its dividend for 18 consecutive years and is currently offering a 4.2% dividend yield. Given its resilience to recessions, its solid payout ratio of 69% and its promising growth potential, the company is likely to continue raising its dividend meaningfully for many more years. Thanks to its nearly 8-year low price-to-earnings ratio of 16.3 and its attractive dividend, Evergy has become exceptionally attractive for income-oriented investors.

Dominion Energy

Dominion Energy is a large electric and gas utility, which serves about 7 million customers in 15 states. Its power generation is fueled by nuclear, natural gas, coal, oil, biomass, water, wind and the sun. Dominion Energy is in the process of investing in clean energy sources in order to reduce its carbon dioxide and methane emissions.

Just like most utilities, Dominion Energy has proved resistant to recessions. In the Great Recession, its earnings per share declined by just 10%. The utility has a strong position in the markets it serves thanks to its scale and its diversified customer base. Competition by new market entrants is highly unlikely, as about 90% of the operations of the utility are state-regulated.

Dominion Energy has grown its earnings per share almost every year during the last decade, but at a 3.8% average annual rate, which is somewhat lower than the average growth rate of most utilities. On the bright side, the company has better growth prospects ahead thanks to its $37 billion five-year capital plan for 2022-2026. Thanks to this investment program, the utility expects to grow its earnings per share and its dividend by about 6.5% and 6.0% per year on average, respectively, until 2026.

Dominion Energy has raised its dividend for 16 consecutive years and is currently offering a nearly 10-year high dividend yield of 4.5%. Given its healthy payout ratio of 65% and its reliable growth prospects, the utility can easily continue raising its dividend for many more years. Given also its nearly 10-year low price-to-earnings ratio of 14.4, the stock is highly attractive for the investors with a long-term perspective.

Final Thoughts

The above three electric utilities enjoy a wide business moat thanks to their regulated business and hence they are on a reliable growth trajectory. They also offer dividend yields of at least 4.0%, with a wide margin of safety. As a result, they are ideal stocks for the portfolios of income-oriented investors. It is important to note that their cheap valuation levels have resulted primarily from the surge of inflation, which has reduced the present value of the future cash flows of these companies. As soon as inflation begins to subside, the price-to-earnings ratio of these stocks is likely to expand significantly.

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