Do Dividends Make Dilution OK?

By Anders Bylund | More Articles
March 19, 2010 | Comments (2)

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Regional electric utility and jack-of-all-trades Otter Tail (Nasdaq: OTTR ) announced that it could dilute its stock by as much as 9.4% in a $75 million secondary stock offering underwritten by JPMorgan Chase (NYSE: JPM ) . Shock! Horror! Run away!

Right?

Not so fast, dear Fool. While hugely dilutive stock offerings like this one certainly aren't the most shareholder-friendly move a company can make, there are at least some mitigating circumstances here.

Otter Tail's cash coffers are running dry, with only $4.4 million left to keep the day-to-day operations going. Something had to be done.
The company has $495 million of long-term debt already, $59 million of which is qualified as "current maturities." Adding to that already-crushing long-term debt load in order to pay the portion coming due wouldn't be advisable.
I wouldn't necessarily call this standard procedure, but secondary offerings are common both for Otter Tail itself and others in the utilities industry. Otter Tail issued $163 million of new shares in 2008 and $79 million in 2004 and does little to buy those new shares back. FPL Group (NYSE: FPL ) , Southern Company (NYSE: SO ) , and Progress Energy (NYSE: PGN ) are in the same boat and have done almost exactly the same thing over the past few years.
While buybacks aren't on Otter Tail agenda, generous dividends are. The company has a long history of rising dividend payouts that makes up for the occasional dilution. Its 5.3% dividend yield is right in line with the competition.

The balance between stock sales and dividend payouts makes for an interesting dynamic between company and stockholders. Rather than sitting on giant piles of unused cash like Apple (Nasdaq: AAPL ) so proudly does, Otter Tail and other utilities tend to run on fumes, ask their owners for the occasional handout, and then pay back via increasing dividends. I don't think that's a crime against humanity, despite the seemingly horrific effects of dilution.

Does this push-pull dynamic work for you as an investor? Tell us all about it in the comments below.

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Fool contributor Anders Bylund holds no position in any of the companies discussed here. Apple is a Motley Fool Stock Advisor recommendation. Otter Tail is a Motley Fool Hidden Gems pick. Southern Company is a Motley Fool Income Investor recommendation. The Fool owns shares of FPL Group. Try any of our Foolish newsletters today, free for 30 days. You can check out Anders' holdings and a concise bio if you like, and The Motley Fool is investors writing for investors.

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Report this Comment On March 19, 2010, at 4:42 PM, TMFBreakerOrion wrote:

This is a little like chasing your tail I think. While they raise the cash they also increase the amount they have to pay out in the dividend going forward unless they reduce the per share payout. It leaves them with more cash in the coffers now but it also means it's that much sooner that they may have to do it again.
Report this Comment On March 19, 2010, at 4:44 PM, latimerburned wrote:

If they did sell the stock it would run counter to what they just said last month in their quarterly report:
-- The corporation maintains a strong balance sheet, capital structure and liquidity position.
Liquidity and Cash Flow from Operations
In 2009, the corporation's cash flow from operations increased 46.2% to a record $162.7 million compared with $111.3 million in 2008. The $51.4 million increase in cash from operating activities reflects a $45.2 million increase in cash from working capital items between the years.
As of December 31, 2009, Otter Tail Corporation and Otter Tail Power Company (OTP) had $347.5 million available under existing credit facilities to provide for working capital requirements and help fuel future growth initiatives. In December 2009, the corporation issued $100 million of its 9.000% Notes due 2016 and used the net proceeds to repay borrowings under the Otter Tail Corporation credit facility. In January 2010, OTP paid off the remaining $58 million balance outstanding on its two-year, $75 million term loan, originally due on May 20, 2011, using lower cost funds available under the OTP credit facility.

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