Source: Sempra Energy
Every investor has a "magic metric," the number that tells us which stocks are set to soar – and which are set to stumble. Return on equity (ROE) is one of the simplest statistics around, but there's a clearer calculation for interested investors, one that dives deeper into the real return you can expect. Let's take a look at two dividend stocks, Northeast Utilities System (ES 1.19%) and Sempra Energy (SRE 2.40%), to see which company can add more cash to your coffers.
The Magic Metric
Return on equity is the ratio of net income compared to shareholder equity (the amount you and others have invested). In this case, Northeast Utilities System's ROE notches up to 7.8%, while Sempra Energy manages a more respectable 10.1%.
But almost 100 years ago, DuPont divvied ROE up into five key components, giving investors more insight into future challenges and opportunities for each business. Here's the extended DuPont model:
And here's how Northeast Utilities System and Sempra Energy compare:
|
Northeast |
Sempra | |
|---|---|---|
|
Pre-Interest Pretax Margin |
20% |
19% |
|
Asset Turnover |
27% |
28% |
|
Interest Burden |
77% |
72% |
|
Tax Efficiency |
65% |
74% |
|
Equity Multiplier |
288% |
318% |
Source: Data from S&P Cap IQ
At their most basic beginning, Northeast Utilities System and Sempra Energy aren't as different as their ROE's make them out to be. Before taxes and interest expenses, Northeast manages a minimal one percentage point lead over Sempra Energy. On assets as well, each energy company has kept its own investments turning over at a reasonable rate, with Sempra taking the slight lead in this category.
From here, however, these two dividend stocks diverge. Interest expenses swallowed up a sizable 77% of its net income, a full five percentage points above Sempra's own payments. From 2013 to 2017, Northeast expects to spend $4.4 billion on transmission investments – one of the reasons its interest payments are out of proportion. It's already spent $660 million, and will pour the rest into a variety of renovations and entirely new projects, including $1.4 billion for a Canada connection and $1.3 billion for East-West lines.
Source: Northeast Utilities August 2014 Investor Meetings
On tax efficiency, it's Sempra Energy's turn to take a hit. While Northeast Utilities System makes essentially all its money from low-risk, low-reward, and low-tax regulated distribution and transmission projects, Sempra Energy has set its sights elsewhere. Despite a growing transmission division and tax-friendly renewable energy projects, Sempra's pet project is a liquefied natural gas (LNG) export facility in Louisiana, set to come online in 2018. The project received its final federal approval last week, but it'll take a full (and taxable) $10 billion before Sempra's first shipment sets sail.
Foolish bottom line
On ROE alone, Sempra Energy is the undisputed leader. But a deeper dive reveals that Northeast's only real weak point is its interest payments – a necessary evil resulting from current investments in its future. With solid distributed and transmission earnings and a current 3.6% dividend yield, Northeast is the safer bet. For riskier investors, Sempra's current returns and future plans offer profitable promise – but you'll have to swallow higher taxes and increased uncertainty to get there.
