National Grid's Earnings Get a One-Time Boost From Its Gas Distribution Unit Sale

For more than a year and a half, National Grid's (NGG 1.50%) management talked about its intention to sell its U.K. gas distribution business. Well, it did just that in December. The partial sale of this business was the dominant factor in the company's most recent earnings results, but it wasn't the only thing worth considering.

Let's take a look at some of the funky numbers that National Grid posted in its fiscal-year earnings report, as well as some of the highlights from the quarter.

Image source: Getty Images.

National Grid's results: The raw numbers

Data source: National Grid earnings release.
*National Grid results are reported in British pounds and were converted to U.S. dollars using National Grid's accounting standard, which is a weighted average exchange rate for the respective reporting period. For the first half of 2017, the exchange rate was 1 pound = $1.28. For H1 2016, the exchange rate was 1 pound = $1.47.
**1 U.S. ADR = 5 common shares of NGG.

There are two things to be aware of when looking at National Grid's results this past year. The first is that there has been a wild swing in foreign exchange rates that make these results look worse than they are. The British pound's value depreciated 13% from 2016 to 2017. On a constant currency basis, National Grid's revenue was up 13%, and operating profit was flat.

The other item of note was the sale of a 61% stake in its U.K. gas distribution business back in December. The 13.8 billion-pound deal resulted in an after-tax gain of 5.32 billion pounds. Stripping out this one-time gain and other exceptional items, after-tax profits from continuing operations were down 4.8% on a constant currency basis.

The largest driver of this quarter's operating earnings was National Grid's U.S. regulated businesses. A rate-hike approval for its New York electric and gas utility segments was the biggest contributing factor. National Grid's earnings also benefited immensely from foreign exchange rates for its U.S. business:

Data source: National Grid earnings release. Chart by author.
*Discontinued operations includes National Grid's interest in its U.K. gas distribution business.

What happened with National Grid this past quarter?

• The most significant event was the 13.8 billion-pound sale of a 61% stake in its U.K. gas distribution business to a consortium of the Australian investment bank Macquarie and the China Investment Corporation. The deal closed on the last day of the reporting period. As it stands today, National Grid owns 39% of the business as part of the consortium. On top of the recently completed sale, National Grid is in talks to sell an additional 14% stake in the company to its consortium partners.
• As part of the U.K. gas distribution sale, management announced it will return a significant portion of those cash payments to shareholders in the form of a special dividend. For American depositary shares, it adds up to $5.4224 per share. Management also said it plans to buy back 800 million pounds' worth of stock with the cash.
• The company received approval from the New York Public Service Commission on a three-year rate-settlement plan that includes $3 billion in capital spending and a 9% return on equity.
• Management also submitted a new rate proposal for its upstate New York electric and gas utility businesses. The plan includes an annual capital investment rate of $823 million and a 9.79% return on equity. National Grid expects these new rates to start April 1, 2018.
• As part of its outlook for 2017 and 2018, management expects total capital spending to increase to over 4 billion pounds. A significant portion of that spending will go toward its U.S. regulated utility businesses, as there are much greater growth opportunities in the U.S. than in the U.K.
• Management also created a new division that will specifically focus on creating new growth opportunities for the company. National Grid Ventures, as it will be named, is a continuation of National Grid's current work on projects like residential solar in the U.S., its Grain liquefied natural gas import terminal, and grid connectivity projects between the U.K. and mainland Europe.
• The board of directors approved a 2.1% increase to the final regular dividend of the year, to $1.8924 per American depositary share.

What management had to say

In the company's full-year results statement, CEO John Pettigrew commented on the company's most recent results and the future opportunities thanks to these new rate approvals:

Last year was an important year for National Grid. We invested record capex [capital expenditures] of 4.5 billion [pounds] delivering a safe and reliable service for customers. Our focus on efficiency has also generated 460 million [pounds] of savings for customers in the first half of the 8 year [U.K. regulated price control] RIIO framework. We made significant progress in the year, with the successful completion of the UK Gas Distribution transaction, a good outcome on the rate filings in the US and a positive conclusion to important regulatory reviews in the UK. National Grid is well positioned for the future with a rebalanced, higher-growth portfolio, and we are actively taking steps to evolve the business to meet the changing needs of our customers.

Ten-second takeaway

With its U.K. gas distribution sale complete, this concludes what has been a year-long mystery regarding management's plans for those sale proceeds. I'm sure that many investors will be happy to see those large special-dividend checks come in the mail, but one has to wonder if that was ultimately the most effective use of capital.

From here on out, National Grid's growth will likely come from its U.S. regulated utilities and its National Grid Ventures business. Its U.K. regulated business segments will continue to be cash cows that should generate slow but steady growth from rate hikes. While there isn't a whole lot of growth in the pipeline for National Grid, its reputation for reliable dividend checks at an attractive yield remains in place.