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Unlike most of my fellow Fools contributing to this year's "Best International Stocks" series, I offer a recommendation for the year ahead that operates in a remarkably dull industry: power distribution.
I know: Generating, selling, and distributing electricity may seem like a stodgy business. In developing nations, though, utilities can be growth stocks. Take, for example, Brazilian electric utilities, which have grown revenues at an 8% annual rate over the past three years, according to Capital IQ. Helping to drive this growth is Brazil's surging economy. The country's gross domestic economy grew by 5.3% this past year, and its central bank has forecasted 4.5% growth for 2008.
So what's the company, already?
Say hello to CPFL Energia
The bulk of CPFL's business comes from distributing electricity that it generates or purchases from one of its suppliers. Since July 2004, Brazil has operated with a regulated market of captive electric consumers, as well as a free market in which utilities compete to distribute to eligible customers. So while CPFL enjoys stable and predictable cash flows from a captive majority, it can continue to grow by adding new free-to-move customers.
About that growth ...
Given CPFL's high fixed-cost structure and economies of scale, the at-the-margin customer additions are quite valuable. Although growing capacity through capital expenditures and acquisitions is costly, it's relatively cheap to add new customers once that infrastructure is in place. And each additional customer provides more revenue that can be spread out over similar costs. Furthermore, CPRL's increasing scale should help to secure power at better rates, and better rates will in turn attract even more customers.
A look at CPFL's returns on equity over the past several years tells the story.
Company |
2004 |
2005 |
2006 |
Trailing 12 Months (September 2007) |
---|---|---|---|---|
CPFL Energia |
8.1% |
23.7% |
29.7% |
31.3% |
Companhia Energetica de Minas Gerais |
17.6% |
27.8% |
23.4% |
24.5%* |
Enersis |
1.8% |
2.6% |
10.4% |
5.3%* |
*TTM as of June 2007.
The electric utility business in Brazil is highly fragmented. Despite its leading status in the distribution market, CPFL has only a 14% share -- up from 12% as of late 2004. So the company will have plenty of opportunities to grow organically and through acquisitions. And if CPFL can double its generation capacity in five years, as it intends to, we could see some truly electrifying gains. Combine these growth drivers with the stability of a natural monopoly, and you've got an impressive and widening moat.
CPFL's shares trade at a price-to-earnings multiple of around 10, far less than the median P/Es of the 10 largest electric utilities in the world and in Latin America, both of which are priced at around 17 times earnings. And it's on a fire sale compared with American counterparts such as Exelon
Power up?
I think CPFL offers a unique opportunity: You get the monopolistic status and yield of a utility coupled with a chance to cash in on the Brazilian growth story. Do you agree? Disagree? Swing by Motley Fool CAPS to rate CPFL a market outperform or underperform. CAPS is 100% free, so what are you waiting for?