dominion resources - seeking alpha · 2017-03-28 · •uncertain future earnings ... • name...

Disclaimer: Student Research

Dominion ResourcesResearch Presentation

As of March 1, 2017


All information contained in this document is the opinion of, and the result of analysis by, one or more Marist College students. It is not intended and should not be construed as offering investment advice. The analysis is not the work of professionals, is not a recommendation of any particular security, strategy or investment product, and should in no way be used to make financial decisions or investments. The opinions of the author(s) are subject to change without notice. Information contained herein has been obtained from sources believed to be reliable, but is not guaranteed to be accurate or complete.Please consult your financial and tax advisors before engaging in any transactions. MARIST COLLEGE, MARIST COLLEGE SCHOOL OF MANAGEMENT, AND MARIST COLLEGE’S TRUSTEES, FACULTY, STAFF, AND STUDENTS MAKE NO REPRESENTATIONS OR WARRANTIES, EXPRESS OR IMPLIED, ABOUT THE ACCURACY OR SUITABILITY FOR ANY USE OF THIS REPORT, AND EXPRESSLY DISCLAIM RESPONSIBILITY FOR ANY LOSS OR DAMAGE, DIRECT OR INDIRECT, CAUSED BY USE OF OR RELIANCE ON THIS REPORT, OR FURTHER COMMUNICATION PROVIDED IN RELATION TO THIS DOCUMENT.

2

DISCLAIMER


Agenda

Executive Summary

Company Overview

Investment Drivers

Industry Analysis

1

2

3

4

Financial Analysis

Valuation

Risks

Conclusion

5

6

8

7

3


-

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

9,000

62

64

66

68

70

72

74

76

78

80

Mar-16 Apr-16 May-16 Jul-16 Aug-16 Oct-16 Nov-16 Dec-16 Feb-17

Thou

sand

s of

Sha

res

Shar

e Pr

ice

($)

Trailing Twelve Month Performance

Recommendation: SELL Price Target: $66 (-9.5%) 1

• Macro drivers impede sector performance• Margins threatened as energy-linked commodities rebound• Rising rates will likely trigger institutional capital outflows,

depressing sector performance

Investment ThesisExecutive Summary

Downside (9.5%)

4

Source: Bloomberg 1. Return inclusive of dividend, share price data as of 3/1/2017

Valuation Method Bear Base BullDCF (Monte Carlo)

11.46x - 12.47x EV/EBITDA $53.89 $65.05 $76.363.51% - 4.21% WACC

Comparable Companies8.41x - 11.76x Forward EV/EBITDA $44.31 $59.90 $84.15

16.39x - 19.28x Forward P/E $68.11 $72.28 $80.10

Valuation Estimate $55.05 $65.57 $79.24

Price Target $55 $66 $79Current Stock Price $76.25 $76.25 $76.25 Price Return Potential -27.9% -13.4% 3.6%Dividend $3.02 $3.02 $3.02Total Return Potential -23.9% -9.5% 7.6%

Market DataPrice $76.25Average Volume 2,629,826 Market Cap 47.8BEnterprise Value 84.8BP/E Ratio 22.16xLTM EV/EBITDA 14.60x


5

Evolving Corporate Strategy

Valuation Implications

•Uncertain future earnings•Potential change in discount rate •New capex may adversely impact credit

Significant Events• Name change – Dominion Energy • Natural Gas Projects

• Questar Acquisition ($5.9b, completed Feb. 2016)• New gas distribution and storage assets

• Cove Point Liquefaction Project (~$3.5b, mid 2017)• Liquefied natural gas

• Atlantic Coast Pipeline (~$2.6b, Late 2018)• Interstate natural gas transmission

“Dominion above all else is an energy company.”-Thomas Farrell, CEO

Source: Company Filings, Moody’s Investors Service(See Appendices B-1, B-2)

Dominion Resources Becomes Dominion Energy


Company Overview

• Regulated electric distribution and transmission serving 2.5 million customers

• $8+ billion invested to upgrade/construct electric transmission lines and improve infrastructure since 2008

Dominion Virginia Power

Dominion Energy• Over 12,000 miles of natural gas pipelines and

one of the world’s largest storage systems• Increasing investment in natural gas and

renewable energy generation

Dominion Generation• Consists of regulated and merchant power

stations• Provides over 24,000 megawatts of electric

generation

02,0004,0006,0008,000

10,000

2010 2011 2012 2013 2014 2015 2016

Revenue By Segment ($ in MM)

Dominion Virginia Power Dominion Energy Dominion Generation

Housing starts down 8.7% from 2015 in

Virginia

Heavily impacted by clean power regulation

Rising commodity prices

Source: Bloomberg

4

19%

57.50%

23.50%

Dominion Virginia Power

Dominion Generation

Dominion Energy


• Depressed commodity prices have driven record operating margins for the industry• As commodity prices rebound, diminishing margins reduce attractiveness

Investment Concerns - Rising Input Costs

Source: Bloomberg, Team Estimates(See Appendices A-10, A-12, F-2)

6

0

0.5

1

1.5

2

2.5

3

3.5

4

4.5

5

0

20

40

60

80

100

120

2013 2014 2015 2016 2017E 2018E 2019E

Energy Prices

WTI Natural Gas

Natural G

as ($/M

MBtu)

WTI

Cru

de$/

BBL

300

350

400

450

500

550

2013 2014 2015 2016 2017

Thou

sand

s of

Bar

rels

U.S. Crude Oil Inventory

Inventories


Investment Concerns - Rising Rate Environment

8

Source: Bloomberg, Interest rate data as of 3/1/2017(See Appendix D)

0

2,000

4,000

6,000

8,000

2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027

Debt Maturity($ in millions)

Bond Principal Muni Bond Principal

Term Loan Outstanding Amount Available in Revolvers

• Bloomberg consensus implies a 99.4% chance of at least one rate hike in 2017

• An increase in interest rates may lead to refinancing risk• Capital rotation into fixed income securities threatens utility

performance

Interest Rate Threats

Meeting Prob. Of Hike Prob. Of Cut 0.5%-.75% 0.75%-1.00% 1.00%-1.25% 1.25%-1.50% 1.50%-1.75%3/15/2017 94.0% 0.0% 6.0% 94.0% 0.0% 0.0% 0.0%5/3/2017 94.7% 0.0% 5.3% 84.3% 10.4% 0.0% 0.0%6/14/2017 97.2% 0.0% 2.8% 47.4% 44.9% 4.9% 0.0%7/26/2017 97.4% 0.0% 2.6% 42.8% 45.2% 8.9% 0.5%9/20/2017 98.6% 0.0% 1.4% 25.1% 44.1% 24.9% 4.2%11/1/2017 98.7% 0.0% 1.3% 22.2% 41.8% 27.3% 6.8%12/13/2017 99.4% 0.0% 0.6% 11.8% 32.1% 34.5% 16.9%

Market Implies 16.9% Chance of 100bps Increase in Fed Funds Target Rate


• Demographic changes, consumer preferences (renewables)Social

• Energy-efficiency, rate of change, cybersecurityTechnological

• Growth, interest rates, inflation, general climate Economic

• Weather (heating Vs. cooling days), regulation (Clean Power Plan)Environmental

• Policy-driven regulationPolitical

• Tax reform, coal ash litigationLegal

• Pricing, corporate governanceEthical

STEEPLE Analysis

9

Appendix

C-2

D

A-12, G

G-2

F-18, E-3

G-2, E

E-4


Porter’s 5 Forces

0 Not applicable1 Insignificant 2 Low 3 Moderate 4 Significant 5 High

Impact

10

Bargaining Powerof Customers

Intensity ofCompetitive

Rivalry

Bargaining Powerof Suppliers

Threat ofSubstitutes

Threat of NewEntrants

5

4

3

2

1

0


Porter’s 5 Forces

11

Current strategy

New strategy

Bargaining Powerof Customers

Intensity ofCompetitive

Rivalry

Bargaining Powerof Suppliers

Threat ofSubstitutes

Threat of NewEntrants

0 Not applicable1 Insignificant 2 Low 3 Moderate 4 Significant 5 High

Impact

New Strategy Changes Competitive Environment

5

4

3

2

1

0


Regulatory Constraints

12

Federal, state, & local agencies

Customer base rates

Authorized ROE

Environmental regulation

Increased generation capacity

Federal Energy Regulatory CommissionNuclear Regulatory Commission

Environmental Protection AgencyState Commissions

“Variability in earnings from rate adjustment clauses reflects changes in the authorized ROE and the carrying amount of these facilities, which are largely driven by the timing and amount of capital investments, as well as depreciation.”

– Dominion Resources Annual Report Source: Company Filings(See Appendix G)


Significant Industry Trends

13

Source: U.S. Energy Information Administration

Increasing commodity prices

Credit deterioration

Uncertain future for coal

Push toward renewables

Plateauing electricity demand

U.S. Net Electricity Generation by Fuel (1990-2040)billion kilowatthours

2,500

2,000

1,500

1,000

500

01990 2000 2010 2020 2030 2040 2020 2030 2040

History

(includes Clean Power Plan)

AEO2016 Reference Case No Clean Power Plan

natural gas

natural gas

coal

coalrenewables

renewables

nuclear nuclear

otherother


14

Financial Analysis

• Rising commodity price pressure margins• Increasing debt burden reduces financial

flexibility• Z-Score reflects credit deterioration

Source: Bloomberg, Moody’s Investors Service(See Appendices A-4 through A-7)

Ratio Analysis

2011 2012 2013 2014 2015 2016

Profitability Analysis

Gross Margin 55.4% 59.4% 57.5% 58.9% 69.1% 75.4%

Return on Equity 12.0% 2.7% 15.3% 11.3% 15.7% 15.6%

Return on Assets 3.2% 0.7% 3.5% 2.5% 3.4% 3.3%

Liquidity Analysis

Current Ratio 0.78 0.66 0.85 0.78 0.52 0.52

Quick Ratio 0.27 0.24 0.29 0.26 0.22 0.22

Total Debt/Equity 175.9 197.5 191.4 217.1 211.8 208.4

Credit Analysis

EBITDA to Interest Expense 4.77x 2.95x 5.37x 3.59x 5.76x 5.42x

Total Debt/EBIT 7.23x 18.59x 6.87x 9.54x 8.19x 9.68x

Other

Payout Ratio 81.4% 373.1% 72.9% 106.8% 80.8% 81.3%

Altman's Z-Score 1.29 1.00 1.27 1.19 1.04 0.97

0.750.850.951.051.151.251.351.451.551.651.75

2011 2012 2013 2014 2015 2016

Altman's Z-Score

Dominion Resources Peer Group Median


S&P Moody’s FitchBBB+ Baa2 BBB+

15

Financial Analysis: Credit Rating Concerns

We Believe Dominion is Effectively a BBB Company

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

4.0%

4.5%

5.0%

1Y2Y3Y4Y5Y 7Y8Y9Y10Y 12Y 15Y 20Y 25Y 30Y

Dominion Vs. Sector Yield Curves1

Dominion BBB+ Utilities BBB Utilitities

• Recent issuances rated BBB

Issuer

1 Year Default

Probability (bps)

5 Year Default

Probability (bps)

Model CDS (bps)

Market CDS (bps)

American Electric Power Co 3.5 98.76 39 26Dominion Resources 3.7 104 41 35Duke Energy 4.4 111 45 n/aEdison International 3.1 105 36 46NextEra Energy 2 74.7 27 n/aPG&E 3.3 107 38 55Average 3.3 100.1 37.7 [40.5]

Source: Bloomberg1. Sum squared deviations from Dominion Yield curve: BBB+ Utilities 0.275%2, BBB Utilities 0.168%2 indicating Dominion is consistently closer to BBB across various tenors.(See Appendices A-4 through A-7)

BBB Utilities


16

Valuation Methodology

Monte Carlo Enhanced DCF • 6 Sensitive Variables• 5,000 Trials

Forward Enterprise Value/EBITDA• $5,966 2017 EBITDA Forecast• Modeled multiple of 12.16x

Forward Price/Earnings• $3.71 2017 EPS Forecast• Modeled multiple of 19.48x

1-year Price Target

$66.00

Source: Bloomberg, Team Estimates1. Modeled multiples inclusive of a mean historical premium(See Appendix F)

50% weight

25% weight

25% weight

Sell Recommendation Based on DCF and Relative Valuation

$65.05

$59.90

$72.28


Valuation Range

40 45 50 55 60 65 70 75 80 85 90

Discounted Cash Flow

Forward EV/EBITDA

Forward P/E

Imputed Per Share Value(Share Values in $)

Monte CarloEnhanced DCF (50%)

Relative Valuation (50%)

Target $66 Bull $79Bear $55

17Source: Team Estimates


18

Monte Carlo DCF Price Distribution

(See Appendix F-1 for a list of sensitive variables and rationale)

0

50

100

150

200

250

300

0 10 20 30 40 50 60 70 80 90 100 110 120

Monte Carlo Results(5,000 Trials, Share Values in $)

Bear: 21.78% Base: 52.50% Bull: 25.52%

Tria

ls


19

Investment Risks

Low Moderate High

Impact

Low

Mod

erat

eH

igh

Prob

abili

ty Questar Underperformance

Weather Risk Counterparty Exposure

State–level Rate Regulation

Fiscal Policy Uncertainty

Cybersecurity

Unfavorable Commodity Prices

Reduced Energy Demand

Coal AshLitigation

Business/Operational Regulatory Market/Industry(See Appendices F-16, A-10)

Significant Risks


20

Significant Risks

Cybersecurity • Cyber attacks may threaten Dominion’s operations and have significant national security implications

Unfavorable Commodity Prices • Rising natural gas prices may threaten Dominion’s margins

Fiscal Policy Uncertainty • Expected corporate tax rate cut may be unfavorable to the regulated utility business model

Potential Questar Underperformance • Failure to meet financial guidance may elicit a negative market reaction

(See Appendix 17)


21

Conclusion

Recommendation: SELL Target Price: $66.00Total Return: -9.5%1

Rising interest rates

Increasing commodityprices

Political & regulatoryuncertainty

Increasing debt burden

Recent analyst EPS estimates lowered to match Team B

Uncertainty surrounding corporate strategy shift

Source: Bloomberg 1. Return inclusive of dividend, share price data as of 3/1/2017

Confluence of Factors Leads to Sell Recommendation


Appendices

A


Table of Appendices

Price Charts

Natural Gas Assets

Generation and Capacity

Economic Environment

A

B

C

D

Corporate Governance

Valuation

Regulatory Environment

Dominion Midstream Partners, LP

E

F

8

G

23

H


Appendix APrice Charts

A


A-1

Appendix A-1: Dominion Relative Performance

Recent underperformance in utilities is likely to continue

Source: Bloomberg, Data as of 3/1/2017

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

Nov-14 Feb-15 May-15 Aug-15 Nov-15 Feb-16 May-16 Aug-16 Nov-16 Feb-17

Cumulative Returns

Dominion S5UTIL S&P500


A-2

Appendix A-2: Dominion 10-year Note Yield Spreads Vs. Benchmark Indices

2.25

2.75

3.25

3.75

4.25

4.75

2011 2012 2013 2014 2015 2016

Dominion 10-year Note Vs. Sector 10-year Indices

Dominion 10-year BBB Utilities 10-year BBB+ Utilities 10-year

-80

-60

-40

-20

0

20

40

60

2011 2012 2013 2014 2015 2016

Dominion Spread to Sector 10-year Indices(bps)

D - BBB D - BBB+



A-3

Appendix A-3: Interest Rate Risk

1.2%

1.4%

1.6%

1.8%

2.0%

2.2%

2.4%

2.6%

200

210

220

230

240

250

260

270

Feb-15 May-15 Aug-15 Nov-15 Feb-16 May-16 Aug-16 Nov-16

Utilities Vs. 10-Year Note Yield

S&P Utilities Index 10-Year US Treasury Yield



A-4

Appendix A-4: Dominion Yield Curve Versus Comparables

Dominion Consistently Trades Wider to Peers

1.3%

1.8%

2.3%

2.8%

3.3%

3.8%

4.3%

4.8%

1Y 2Y 3Y 4Y 5Y 7Y 10Y 15Y 20Y 25Y 30Y

Comparable Yield Curves

Duke PG&E Dominion NextEra BBB Utilities BBB+ Utilities



Correlation to United States 10-Year NoteSince 1995 Pre-2008 Post-2008

Dominion Stock Price -0.86 -0.70 -0.64Dominion Free Cash Flow Yield 0.54 0.66 -0.45Dominion Dividend Yield 0.68 0.79 0.37Dominion EBITDA -0.47 -0.62 0.05Dominion EPS -0.26 -0.19 0.08Dividend Yield Spread to 10-year -0.63 0.16 -0.69S&P Utilities Index -0.58 -0.09 -0.55

A-5

Appendix A-5: Key Metric Correlations to US 10-year Note Yield


A-6

Appendix A-6: Dominion Price and Yield Versus US 10-Year Note Yield

0

1

2

3

4

5

6

7

8

0

10

20

30

40

50

60

70

80

90

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Dominion Stock Price Vs. US 10 Year

Dominion Stock Price US 10-year Index

0

1

2

3

4

5

6

7

8

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Dominion Dividend Yield Vs. US 10 Year

Dominion Dividend Yield US 10-year Index

Source: Bloomberg


A-7

Appendix A-7: Performance Relative to US 10-Year Note Yields

-3

-2

-1

0

1

2

3

4

5

6

7

8

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Dominion Yield Spread Vs. US 10 Year

Dividend Yield Spread to 10-year US 10-year Index

Source: Bloomberg

0

1

2

3

4

5

6

7

8

0

50

100

150

200

250

300

1995

1996

1997

1998

1999

2000

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2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

S&P Utilities Vs. 10 Year

s5util USGG10YR


A-8

Appendix A-8: 30 Years of a Bull Market for Bonds

0.0

2.0

4.0

6.0

8.0

10.0

12.0

1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015

Yiel

d (%

)10-Year Note Yield



A-9

Appendix A-9: Industry Performance

Source: Bloomberg

200210220230240250260270280

Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17

S&P Utility Index

S5UTIL 50-Day MA 200-DAY MA

1700

1800

1900

2000

2100

2200

2300

2400


S&P 500

S&P 500 50-Day MA 200-Day MA

350

400

450

500

550

600

650

700


S&P Energy Index

S5ENRS 50-Day MA 200-Day MA

6062646668707274767880


Dominion Share Price(Price in $)

Dominion 50-Day MA 200-Day MA


Appendix A-10: Commodity Prices

Source: BloombergA-10

405060708090

100110120


Coal$/Short Ton

Coal 50-Day MA 200-Day MA

20

30

40

50

60

70

80

90


Crude Oil (WTI)($/BBL)

WTI 50-Day MA 200-Day MA

11.5

22.5

33.5

44.5


Natural Gas($/MMBtu)

Natural Gas 50-Day MA 200-Day MA

15

20

25

30

35

40

45


Uranium$/lb

Uranium 50-Day MA 200-Day MA


A-11

Appendix A-11: MLP Performance: Volatile But Inline with Dominion Resources

-20%

-10%

0%

10%

20%

30%

40%

50%

Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17

Dominion Resources Vs. Dominion Midstream

Dominion Dominion Midstream



A-12

Appendix A-12: Heating Degree Days and Natural Gas

Source: Bloomberg, NOAA

-

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

0

50

100

150

200

250

2012 2013 2014 2015 2016 2017

Dem

and

for N

atur

al G

as(M

Mcf

/Day

)

Hea

ting

Deg

ree

Day

s

Temperature Vs. Natural Gas Demand(Incremental demand correlation = 0.78 Vs. baseline = 0.02)

Heating Degree Days Demand for Natural Gas

0

1

2

3

4

5

6

7

0

50

100

150

200

250

2012 2013 2014 2015 2016 2017

Nat

ural

Gas

Pri

ces

($/M

MBt

u)

Hea

ting

Deg

ree

Day

s

Temperature Vs. Natural Gas Price(3-week lagged correlation = 0.69)

Heating Degree Days Natural Gas Price

Heating Degree Days Drives Incremental Natural Gas Demand


Appendix BNatural Gas Assets

A


B-1

Appendix B-1: Significant Natural Gas Investments

• $5.9B acquisition• 3,400 miles of natural gas

transmission• Western US• 1 million new customers• Currently operating

Pipeline• $2.6B project• 45% ownership• c.600 Miles of pipeline• Virginia & North Carolina• 1.5B cubic ft. per day• Construction starts Q4 2017

ProcessingCove Point

• $3.6B project• 78% complete• 14.6B cubic ft. storage capacity• Maryland• Estimated completion Q4 2017

ProcessingCove Point

TransmissionAtlantic Coast Pipeline

Distribution & Pipeline

Questar

Source: Company Filings


B-2

Appendix B-2: Significant Natural Gas Investments

DistributionForward P/E Forward EV/EBITDA

Center Point Energy (CNP) 21.83x 9.02x

Chesapeake Energy (CHK) 7.08x 7.53x

Eversource Energy (ES) 18.61x 10.69x

PPL Corp (PPL) 17.00x 11.02x

TransmissionForward P/E Forward EV/EBITDA

Enterprise Products Partners (EPD) 22.18x 14.63x

Kinder Morgan Inc (KMI) 32.23x 12.08x

Plains All American Pipeline (PAA) 18.61x 10.69x

Energy Transfer Partners (ETP) 30.12x 9.99x

ProcessingForward P/E Forward EV/EBITDA

DCP Midstream (DCP) 25.79x 7.69x

The Williams Company (WMB) 32.40x 12.29x

Energy Transfer Partners (ETP) 30.12x 9.99x

Targa Resources Corp. (TRGP) 163.13x 13.57x



Appendix CGeneration and Capacity

A


C-1

Appendix C-1: Fuel Type Used in Generation

Source: Bloomberg New Energy Finance - US energy overview


C-2

Appendix C-2: Electricity Sales Volume by Customer Type

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

90,000

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Vol

ume

Sales Volume by Customer Type(MM kWh)

Residential Commercial Industrial Other

Dominion’s Sales Volume Has Remained Constant

Source: Bloomberg


C-3

Appendix C-3: Dominion Generation by Fuel Type: 2012-2015

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

40.00%

2012 2013 2014 2015

% o

f To

tal C

apac

ity

Dominion Capacity by Fuel Type(% of Total Capacity)

Coal Gas Uranium Oil Hydro Wind Biomass Other

Source: Bloomberg


C-4

Appendix C-4: Dominion Capacity by Fuel Type 2015

19.67%

34.98%

23.88%

9.64%

9.46%1.26%

1.05%0.05%

Dominion Capacity by Fuel Type (FY2015)

Coal Gas Uranium Oil Hydro Wind Biomass Other

Total Generation Capacity: 25,700 MW

Source: Bloomberg


Inclement weather & natural disasters

More frequent adverse weather events have increased Dominion’s outage response

time over the last 3 years

Appendix C-5: System Average Interruption Duration Index (SAIDI)

C-5

111 113119.6

88.00 92.04100.08

0

20

40

60

80

100

120

140

2013 2014 2015

Out

age

Tim

e

Outage(Time in Minutes)

Dominion Industry Average

Source: Bloomberg, Company Filings


C-6

Appendix C-6: EIA Net Generation 2006-2016


C-7

Appendix C-7: 2016 Net Generation for Electric Utility (% of Total)

40.07%

0.38%

0.39%

28.41%

0.01%

18.42%

10.70%

1.86%

-0.24%

0.01%

-5.00% 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00% 35.00% 40.00% 45.00%

Coal

Petroleum Liquids

Petroleum Coke

Natural Gas

Other Gasses

Nuclear

Conventional Hydroelectric

Other Renewables

Hydro-electric Pumped Storage

Other

2016 U.S Net Generation for Electric UtilityPercent of Total Generation

Source: Bloomberg


C-8

Appendix C-8: 2016 U.S. Net Generation All Sectors (% of Total)

30.40%

0.31%

0.28%

33.84%

0.32%

19.74%

6.52%

8.42%

-0.16%

0.34%

-5.00% 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00% 35.00% 40.00%

Coal

Petroleum Liquids

Petroleum Coke

Natural Gas

Other Gasses

Nuclear

Conventional Hydroelectric

Other Renewables

Hydro-electric Pumped Storage

Other

2016 U.S. Net Generation (All Sectors)Percentage of Total Generation

Source: Bloomberg


Appendix DEconomic Environment

A


Case for Fed Rate Hike

Real GDP 2.3% YoY

CPI 2.4% YoY

Unemployment4.6% YoY

Housing Starts 1,250,000 (monthly average)

Non Farm Payrolls 171,000

(monthly average)

D-1

Appendix D-1: Economic Indicators (2017 Forecasts)



D-2

Appendix D-2: Economic Indicators

4.2

4.3

4.4

4.5

4.6

4.7

4.8

4.9

5

5.1

Q4 15 Q1 16 Q2 16 Q3 16 Q4 16 Q1 17 Q2 17 Q3 17 Q4 17 Q1 18

% U

nem

ploy

men

t

Quarter

United States % Unemployment (U-3)

0

50,000

100,000

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350,000

Q4 15 Q1 16 Q2 16 Q3 16 Q4 16 Q1 17 Q2 17 Q3 17 Q4 17 Q1 18

Ave

rage

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Quarter

United States Non-Farm Payrolls(Monthly Average)



D-3

Appendix D-3: Economic Indicators

0

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1

1.5

2

2.5

3

Q4 15 Q1 16 Q2 16 Q3 16 Q4 16 Q1 17 Q2 17 Q3 17 Q4 17 Q1 18

CPI

%

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United States CPI (YoY%)

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Q4 15 Q1 16 Q2 16 Q3 16 Q4 16 Q1 17 Q2 17 Q3 17 Q4 17 Q1 18

Real

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P %

Quarter

United States Real GDP (YoY%)



D-4

Appendix D-4: Federal Reserve Dot Plot “Waiting too long to remove accommodation would be unwise.”-Janet Yellen (Feb. 1, 2017 meeting)


Appendix ECorporate Governance

A


E-1

Appendix E-1: Corporate Governance: Comparison to Peers

Dominion Resources

American Electric Power

PG&E Duke Energy

Edison International

NextEra Energy

Peer Median

IndependentDirectors % 90% 91.67% 91.67% 93.3% 88.9% 92.3% 91.7%

Board Size (members) 10 12 12 15 9 13 12

Women Directors % 20% 25% 25% 20% 33.3% 23.1% 25%

Director Meeting

Attendance %75% 98% 92% 98% 75% 75% 97%

Board Average Age 63 62 62 66 63 63 62



E-2

Appendix E-2: Corporate Social Responsibility

Invested more than $30 million in

education since 1985

Reduced carbon emissions by 25%

since 2000

Formal volunteer programs with strong management support

EnergyShare – help eligible customers pay energy bills

Source: Dominion Resources, Bloomberg


Appendix E-3: Litigation

Gas Producers Litigation

Pending, Material impact to cash flows expected

Appalachian Gateway Pipeline

Contractor Litigation

Pending, Accrued liability $6 million

FERC Rules Violation

Combustion turbine offers, Investigation underway

Ash Pond and Landfill Closure

CostsEPA programs in progress,

Incremental costs for coal ash sites expected

E-3

Land, 20

General, 15

ERISA, 11Employment, 4

Insurance, 4

Other, 29

LITIGATION CASE TYPES

Source: Bloomberg, Company Filings, WestLaw


E-4

Appendix E-4: Solar Headlines

“Old U.S. Solar Program Hints That Demand

Could Spike in 2019”-Bloomberg Intelligence

“Dominion Solar Investment in Virginia Approaches $1 Billion”

-PR Newswire

“Dominion Completes 56 Megawatts of Solar

Projects” -Renewables Now

“Solar, Wind Industry May Be Trump-Proof

Despite Fossil-Fuel Tilt”-Bloomberg Intelligence

Source: Bloomberg


Appendix FValuation

A


Variable Mean Standard Deviation

Terminal EV/EBITDA Premium Mean peer EV/EBITDA with 25% premium

Standard deviation of premium to peer multiple

Other Gas Revenue Team projections Historical standard deviation

Fuel Cost Mean fuel cost change Historical based on fuel input futures

Purchased Power Cost Team projections Historical standard deviation

Purchased Gas Cost Median contributor composite of the Bloomberg Natural Gas Commodity Price Forecast (Appendix F-2)

10-Year historical based on front month natural gas futures

F-1

Appendix F-1: Valuation Assumptions - Monte Carlo Sensitive Variables (FY 2017 – FY 2020)

Variable Low High

WACC Low value in range of relevered historical beta

High value in range of relevered historical beta

Uniform Distribution

Normal Distribution

Note: WACC only applies to terminal year discounting


Median Contributor CompositeYear $/MMBtu Change2013A 3.73 n/a2014A 4.37 17%2015A 2.61 -40%2016E 3.7 42%2017E 3.33 -10%

2018E 3.03 -9%2019E 2.9 -4%2020E 2.89 0%

F-2

Appendix F-2: Valuation Assumptions - Bloomberg Natural Gas Commodity Price Forecast

Source: Bloomberg Natural Gas Commodity Price Forecast


Appendix F-3: Monte Carlo DCF - Cumulative Probability of Simulation Results

F-3

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1 6 11 16 21 26 31 36 41 46 51 56 61 66 71 76 81 86 91 96 101 106 111 116 121Share Value

Cumulative Probability of DCF Valuation(Share Price in $)

Bear Case Base Case Bull Case


Appendix F-4: Valuation Assumptions - WACC Build-up

F-4

WACC Calculation

A) Target Capital Structure

Debt-to-Total Capitalization 39.1%Equity-to-Total Capitalization 60.9%

B) Current Cost of DebtCost-of-Debt 2.3%Tax Rate 40.0%After-tax Cost of Debt 1.38

C)Credit Adjusted Cost of DebtUS 10 Year Treasury 2.5%BBB Utilities Spread 1.33%Pre Tax Cost of Debt 3.8%

Tax Rate 40%After-tax Cost of Debt 2.27 Source: Bloomberg, Team Estimates

1) WACC based on Synthetic Cost of Debt. This results in a WACC of 3.25%. The WACC computed using the actual Cost of Debt is 2.9%

D) Cost of EquityRisk-free Rate 2.5%Market Risk Premium 6.6%Relevered Beta 0.20

Cost of equity 3.87

WACC1 3.25%


Appendix F-5: Valuation Assumptions - Shares Outstanding

F-5

Source: Company FilingsNote: Monte Carlo ran the implied share price through the TSM before concluding on a final price for that trial. This example calculates shares outstanding at our price target.

Treasury Stock Method

($ in millions, except per share data, shares in millions)

AssumptionsShare Price $66.00Basic Shares Outstanding 626.75In-the-Money Options 0.26Weighted Average Exercise Price $13.14

Calculation of Fully Diluted SharesOption Proceeds $3.38Current Share Price $66.00

Shares Repurchased from Option Proceeds 0.05

Shares from In-the-Money Options 0.26Less: Shares Repurchased from Options -0.05

Net New Shares from Options 0.31Plus: Basic Shares Outstanding 626.75

Fully Diluted Shares Outstanding 627.06


Appendix F-6: Valuation Assumptions - Working Capital

F-6

FY 2012 FY 2013 FY 2014 FY 2015 LTM Q3 2016 2016E 2017E 2018E 2019E 2020EFrom Income StatementRevenue 13,093 13,120 12,436 11,683 11,207 12,418 13,119 14,111 15,270 16,551 Cost of Revenue 5,312 5,574 5,116 3,606 2,871 3,405 4,025 4,498 5,092 5,813

Current AssetsNet Accounts Receivable 1,621 1,695 1,514 1,200 1,259 1,359 1,436 1,545 1,672 1,812 Supplies And Fuel 1,259 1,176 1,410 1,348 1,516 1,348 1,069 1,348 905 1,021 Other Current Assets 2,012 2,753 2,373 1,036 773 - - - - -

Current LiabilitiesAccounts Payable 1,137 1,168 952 726 685 660 781 872 988 1,128 Other Accounts Payable 636 609 566 515 800 - - - - -Other Current Liabilities 1,355 1,771 1,530 1,544 1,514 - - - - -

Non Cash Working Capital 1,764 2,076 2,249 799 549 2,047 1,725 2,021 1,589 1,705

Change 312 173 (1,450) 1,248 (323) 296 (432) 117

AverageDays Sales in Inventory 86.5 77.0 100.6 136.4 144.6 114.6 144.6 97.0 109.4 64.8 64.1Days Payables Out 78.1 76.5 67.9 73.5 65.3 70.8 70.8 70.8 70.8 70.8 70.8Days Sales Out 45.2 47.2 44.4 37.5 30.8 40.0 40.0 40.0 40.0 40.0 40.0

Source: Bloomberg, Team EstimatesNote: $ in MM, Non Cash Working Capital Projections based on historical DSI, DPO, and DSO


Historical Period LTM Projection Period2013 2014 2015 Q3 2016 2016 2017 2018 2019 2020

Sales 13,120 12,436 11,683 11,207 12,418 13,119 14,111 15,270 16,551 % growth 0.2% -5.2% -6.1% 6% 6% 6% 8% 8%

COGS 5,574 5,116 3,606 2,871 3,405 4,025 4,498 5,092 5,813 Gross Profit 7,546 7,320 8,077 8,336 9,013 9,094 9,614 10,178 10,738

% Margin 57.5% 58.9% 69.1% 74.4% 73% 69% 68% 67% 65%Operating Expenses 3,993 3,796 4,321 4,871 4,953 5,079 5,228 5,397 Operating Income 3,553 3,524 3,756 3,607 4,142 4,141 4,535 4,950 5,341

% Margin 47.1% 48.1% 46.5% 43% 47% 47% 47% 47% 47%

EBITDA 5,084 5,084 5,425 5,338 5,892 5,966 6,560 7,175 7,766 % margin 38.8% 40.9% 46.4% 47.6% 46% 45% 45% 45% 45%Depriciation & Amortization 1,390 1,560 1,669 1,700 1,750 1,825 2,025 2,225 2,425

EBIT 3694 3524 3756 3594 4,157 4,729 5,086 5,504 5,966 % margin 28.2% 28.3% 32.1% 33% 36% 36% 36% 36%Taxes 892 452 905 672 1,663 1,891 2,034 2,201 2,386

EBIAT 2,802 3,072 2,851 2,922 2,494 2,837 3,052 3,302 3,579

F-7

Appendix F-7: DCF Summary– Without Monte Carlo

Source: Bloomberg, Team EstimatesNote: $ in MM


F-8

Appendix F-9: Free Cash Flow Build-Up– Without Monte CarloHistorical Period LTM Projection Period

2013 2014 2015 Q3 2016 2016 2017 2018 2019 2020

EBIAT 2,802 3,072 2,851 2,922 2,494 2,837 3,052 3,302 3,579

Plus: Depriciation & Amortization 1,390 1,560 1,669 1,700 1,750 1,825 2,025 2,225 2,425

Less: CapEx (4,104) (5,345) (4,104) (6,365) (6,910) (4,852) (4,253) (4,000) (4,000)Less: Increase in Non-Cash Working Capital (312) (173) 1,450 (1,248) 323 (296) 432 (117)

Unlevered FCF (224) (886) 1,866 (3,914) 133 528 1,959 1,888 WACC 3.25%

Discount Period 0.5 1.5 2.5 3.5 4.5

Discount Factor 0.98 0.95 0.92 0.89 0.87

PV of FCF (3,852) 126 487 1,752 1,635 Source: Bloomberg, Team EstimatesNote: $ in MM


F-10

Appendix F-10: DCF Calculated Share Price – Without Monte Carlo

Segment Enterprise ValueCumulative PV of FCF in Projection Period 148.35

Terminal ValueTerminal Year EBITDA (2020E) 7,765.67 Exit Multiple 11.86xTerminal Value 92,067

Discount Factor 0.82PV of Terminal Value 75,380.88 % of Enterprise Value 99.8%

Enterprise Value 75,529

Implied Equity ValueEnterprise Value 75,529.23 Less: Total Debt (34,735)Less: Preferred Stock -Less: Minority Interests (607)Plus: Cash and Cash Equivalents 377

Implied Equity Value 40,564

Fully Diluted Shares Outstanding 627.05

Implied Equity Value Per Share $64.69

Source: Bloomberg, Team EstimatesNote: $ in MM, Except per share data


F-11

Appendix F-11: DCF Sensitivity Analysis – Without Monte Carlo

Implied Perpetuity Growth RateTerminal Year FCF (2020E) 1,888WACC 3.25%Terminal Value 92,067

Implied Perpetuity Growth Rate 1.14%

Implied EV/EBITDA Multiple

Enterprise Value 75,529 LTM 9/30/2016 EBITDA 5,338

Implied EV/EBITDA 14.15x

Implied Per Share ValueExit Multiple

10.0x 11.0x 11.9x 13.0x 14.0x

WACC

2.75% 45.98 56.12 64.79 76.40 86.533.00% 45.92 56.06 64.74 76.34 86.483.25% 45.87 56.01 64.69 76.29 86.43

3.50% 45.82 55.96 64.64 76.24 86.383.75% 45.78 55.92 64.59 76.19 86.33

Source: Bloomberg, Team EstimatesNote: $ in MM, except per share data


F-12

Appendix F-12: Valuation – Comparable Company Analysis

2017E EPS Implied Value per ShareBear Base Bull

2017E EPS $3.71 $3.71 $3.71Price to Earnings 16.39x 17.39x 19.28x

Premium 12% 12% 12%Modeled P/E 18.36x 19.48x 21.59x

Implied Share Price $68.11 $72.28 $80.10

Source: Bloomberg, Team Estimates1) Premiums modeled based on Dominion’s historical premium to peers.

2017E EBITDA Implied Equity Value per ShareBear Base Bull

2017E EBITDA 5,966 5,966 5,966 Peer EV/EBITDA 8.41x 9.73x 11.76xPremium 25% 25% 25%

Modeled EV/EBITDA 10.52x 12.16x 14.71x

Implied Enterprise Value 62,749 72,523 87,730 Less: Total Debt (34,735) (34,735) (34,735)Less: Preferred Stock - - -Less: Minority Interests (607) (607) (607)Plus: Cash 377 377 377

Implied Equity Value 27,784 37,558 52,765

Fully Diluted Shares Outstanding 627.05 627.05 627.05

Implied Value Per Share $44.31 $59.90 $84.15


F-13

Appendix F-13: Forward Multiple Analysis

Ticker FWD EV/EBITDA FWD P/ED 14.38x 19.87xAEP 9.40x 16.44xPCG 8.20x 16.35xDUK 10.05x 16.41xEIX 8.49x 18.35xNEE 10.89x 19.08xMean 10.23x 17.48xMedian 9.73x 16.44xLow 8.20x 16.35xHigh 14.38x 19.87xFirst Quartile 8.41x 16.38xThird Quartile 11.76x 19.11x

Source: Bloomberg, Team Estimates


5.0x

8.0x

11.0x

14.0x

17.0x

20.0x

23.0x

26.0x

29.0x

32.0x

Price/Earnings Vs. S&P Utilities

D US Equity S&P 500 Utilities

F-14

Average Spread

Time PeriodS&P

Utilities S&P 5001990 - 2009 -0.36x -6.18x2009 - 2017 2.42x 0.18x1990 - 2017 0.51x -4.20x

Current 2.14x -1.58x

Appendix F-14: Dominion Price/Earnings Vs. Comparable Indices


Dominion has become more richly valued than its peers

Dominion P/E Multiple Diverges from Peer Index


F-15

0.0x

10.0x

20.0x

30.0x

40.0x

50.0x

60.0x

70.0x

80.0x

90.0x

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

Dominion P/E Vs. Dow Jones Utilities

UTIL Index D US Equity

11.0x

13.0x

15.0x

17.0x

19.0x

21.0x

23.0x


Appendix F-15: Dominion Price/Earnings Vs. Comparable Indices

Dominion P/E Multiple Diverges from Peer Index


• Acquisition cost of $5.9B • $1.6B in debt assumption

• Result in $3.1B in goodwill• D’s pre-acquisition P/E ~22x

• Post-acquisition drops to ~20x

• DM’s pre-acquisition P/E 29.5x• After pipeline transfer ~18x

• Questar pre-acquisition P/E ~16x• Purchased at ~22.5x LTM EPS

• D commands higher multiples because of gas assets, yet DM coinvests in the same assets with lower P/E

F-16

Appendix F-16: Dominion Overpays for Questar

0

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3,000

4,000

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Goo

dwill

Pric

e/Ea

rnin

gs

Transaction Impact

Dominion Resources P/E Dominion Midstream P/E Dominion Goodwill

Dominion Has Reduced Economic Value For Shareholders

Source: Bloomberg


Share Price Effect on Default Risk Default Risk and 5-year CDS at LT Debt Levels

F-17

Appendix F-17: Default Risk Scenario Analysis

Bear Base Bull

Price $55 $66 $79

Default Risk IG7 IG6 IG6

1-Year Default Prob. 0.06% 0.05% 0.04%

Modeled 5-year CDS 56bps 47bps 40bps

40

42

44

46

48

50

52

54

0.03%

0.04%

0.04%

0.05%

0.05%

0.06%

0.06%

- 3 billion - 2 billion - 1 billion CurrentDebt Level

+ 1 billion + 2 billion + 3 billion

Default Risk Modeled CDSSource: Bloomberg, Team EstimatesNote: Bloomberg Default Risk Model


F-18

Appendix F-18: Tax Policy Implications

Concerns•Investment tax credits can be in jeopardy

•Interest expense write offs are threatened

•Energy will fare better if there are significant foreign earnings

Growth Drivers•Lower tax on domestic Earnings

Source: Wells Fargo Securities, Bloomberg

Utilities are likely to receive little benefit on corporate tax reform


F-19

Appendix F-19: Dominion EVA Analysis

-10

-5

0

5

10

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20

Mar

-07

Aug

-07

Jan-

08Ju

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0D

ec-1

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ct-1

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-15

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-16

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-16

Mar

-17

WACC Vs. ROIC

WACC ROIC

• Economic Value Added = $171.5MM• Current EVA spread = 31bps• Average EVA spread = -137bps



Appendix GRegulatory Environment

A


G-1

Appendix G-1: Federal Regulatory Environment

• Regulates wholesale sales and interstate transmission of electricity for public utilities

Federal Energy Regulatory

Commission

• Regulates Dominion’s operations and maintenance of all nuclear power stations

Nuclear Regulatory Commission

• Clean Power Plan aims to reduce carbon emissions by 32% from 2005 levels by 2030 in the electric power sector

• 30% business investment tax credit for solar extended through 2019

Environmental Regulation


G-2

Appendix G-2: State Regulatory Environment

Electric

• Cost-of-service rate model• Rate adjustment for recovery of costs for new

projects, transmissions, environmental compliance, and other expenses)

Gas • Rate adjustments to recover operating costs and return on investments

Base Rates • In February 2015, Virginia legislators extended base rates through December 2022.

ROE • Virginia Commission will rule in 2017 and 2019 for new authorized ROE.

Biennial Review

• March 15 biennial review established that Virginia Power earned an ROE of 10.89% for the 2013 and 2014 exceeding the authorized ROE of 10%.

• Firm ordered to credit $20 million of its earnings to its customers.


Appendix HDominion Midstream Partners, LP (NYSE:DM)

A


•Must make 90% of income from qualified sources•Tax-advantaged structure gives MLP’s lower cost of capital•Earnings are only taxed at capital gains rates

Appendix H-1: Dominion Midstream Partners

H-1

Source: Bloomberg, Company Filings, Data as of 3/1/2017

Market DataClosing Price $31.65Average Daily Volume 219,031Market Capitalization $3.12BP/E Ratio 23.70Enterprise Value $6.3BDistribution Yield 3.19%

Dominion Midstream Assets

• All membership interests of Dominion Carolina Gas• All membership interests of Questar Pipeline• 25.57% partnership interest in Iroquois L.P.

• Dominion Resources owns 24.07%• Preferred equity & G.P. interest in Cove Point

Tax Benefit & Structure


Investment Risks

Appendix H-2: Dominion Midstream Partners

H-2


• Ability to generate stable cash flows• Dependency on contractors and regulators• Being treated as a non-entity

Dominion Resources Ownership

• Dominion Resources owns 50.9% of the common & subordinated units

• 37.5% of convertible preferred equity interest

Management ConflictsThomas F. Farrell President, CEO, ChairmanDiane G. Leopold President & CEO- Dominion EnergyMark F. McGettrick Executive VP & CFODavid A. Wollard Former PresidentJoseph M. Rigby Chairman

62646668707274767880

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Dominion Midstream Vs. Dominion Resources

(Share Price in $)

Dominion Midstream Dominion Resources

dominion resources - seeking alpha · 2017-03-28 · •uncertain future earnings ... • name...

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