U.S. utility giant Dominion Energy (D 1.03%) saw its share prices drop roughly 25% over the past year. Even as the shares of peers like Southern Company and Duke Energy have rebounded of late, Dominion’s stock continues to flounder. That’s left it with an above-peer yield of around 4.6%. After the fourth-quarter 2022 earnings update, it increasingly looks like lower-yielded peers could end up being better long-term opportunities than Dominion. Here’s why.
Dominion is, at this point, a fairly simple utility, with most of its revenue driven by the electric and natural gas businesses it operates. However, this was not always the case. In the past the company had its fingers in a vast array of energy businesses, even including oil drilling. Over the last decade, it has worked to simplify its business.
The most recent major change came in 2020 when Dominion agreed to sell most of its midstream pipeline operations to Berkshire Hathaway. Investors had every reason to believe that this was a culminating event, with the company pretty much announcing that the transformation to a boring utility had been completed. While there were some small parts of the business that didn’t fit the regulated utility model, like a liquified natural gas export terminal and some clean energy assets, they were minor contributors overall.
The problem with this transaction was that it came with a dividend cut, given that a big chunk of revenue was going away. However, management announced that, going forward, shareholders should expect a return to business growth and, just as important, dividend growth over the long term. It set a dividend growth target of around 6% a year.
As a Dominion shareholder, I stuck around because of that outlook. But then, in late 2022, the company announced that it was doing a strategic review. I didn’t want to overreact, so I figured I’d hold tight and monitor the news. The first update was not comforting.
What’s going on now with Dominion
As a shareholder with a heavy dividend bias, I was most interested in the company’s continued focus on financial strength and the maintenance of the dividend at current levels. While I’m not ready to run for the hills, it was disturbing to hear that the dividend growth plan had potentially gone out the window. The company promised an update along with full-year 2022 earnings.
That update was less than inspiring. The two goals I highlighted remain in place, but a little additional dividend information was provided. The company’s goal is to support the dividend through whatever transition plans come out of the business review, but it may end up with its dividend payout ratio going above targeted levels in the 60% area.
The payout ratio moving up makes sense, assuming that the company is going to be selling revenue-generating assets. But utilities are slow-growth companies, so getting the payout ratio back down again could be a multiyear effort. In other words, the story has changed from steady dividend growth to no growth for an indeterminate number of years into the future.
That’s not a desirable outcome and compounds the concern over management having to go back to the drawing board on its long-term plans so soon after a big company overhaul. And, to make matters worse, the review is still ongoing and dependent on the outcome of regulatory matters in one of Dominion’s most important markets. So the company still isn’t providing much in the way of guidance beyond holding the line on the dividend and maintaining a strong balance sheet.
Now what do I do?
Given that backdrop, it makes sense that Dominion Energy’s stock has lagged its peers. The yield, meanwhile, is relatively high for the same reasons. I try not to make snap judgments with my portfolio, so I’m not changing anything right now. But I am now going to start looking at alternative utility stocks (notably those with impressive histories of annual dividend increases) because the hints about Dominion’s future are sorely disappointing. Income-focused investors who own Dominion might want to follow my lead.
Reuben Gregg Brewer has positions in Dominion Energy and Southern Company. The Motley Fool has positions in and recommends Berkshire Hathaway. The Motley Fool recommends Dominion Energy and Duke Energy. The Motley Fool has a disclosure policy.