We are maintaining our HOLD rating on MDU Resources Group Inc. (NYSE: MDU). MDU has interests in electric and natural gas utilities, natural gas pipelines, and construction materials and services. The company is strengthening operations in its utilities segment through acquisitions and expansion projects, which should result in more consistent performance over time. It also has a solid balance sheet and a secure dividend with a yield of about 3.3%. However, we would like to see more favorable valuation metrics before placing the stock back on our BUY list.
On November 4, MDU Resources Group reported record 3Q20 earnings of $153.1 million or $0.76 per share, up 11% from $137.6 million or $0.69 per share in 3Q19. For the nine months ended September 30, 2020, the company earned $277.9 million or $1.39 per share.
EARNINGS & GROWTH ANALYSIS
The company will report full-year 2020 and 4Q20 results on February 2. MDU has restored its original 2020 EPS guidance of $1.65-$1.85 for 2020.
We are raising our 2020 EPS estimate to $1.85 from $1.73, implying growth of 7%, and we are raising our 2021 estimate to $1.90 from $1.82.
Our estimates assume a continuing favorable regulatory environment, continued infrastructure investment, lower O&M expenses, and benefits from debt refinancing. We also expect the company to benefit from effective management execution and future rate case filings. Our five-year earnings growth rate estimate is 6%.
FINANCIAL STRENGTH & DIVIDEND
Our financial strength rating on MDU is Medium, the midpoint on our five-point scale. The company receives average scores on two of our three main criteria of debt levels, fixed-cost coverage and profitability. MDU Resources has ample liquidity, with $66.1 million in cash and cash equivalents. No revolving credit facilities mature until 2024 and no significant long-term debt matures until 2022.
The company estimates 2020 operating cash flow of $570-$610 million. The total debt/capital ratio was 46% at the end of 3Q20, and operating earnings covered interest expense by a factor of 5.9. MDU’s debt is rated BBB+ with a negative outlook by S&P. Fitch rates MDU’s long-term debt at BBB+ and its preferred stock at BBB. Its senior unsecured debt is rated A- with a stable outlook.
The company’s quarterly dividend is $0.22 per share, or $0.88 annually, for a yield of about 3.3%. MDU has raised its dividend for 31 straight years and has had uninterrupted dividend payments for 32 years. Our dividend estimates are $0.88 for 2020 and $0.92 for 2021.
MANAGEMENT & RISKS
David L. Goodin became CEO in 2013 and has been with MDU Resources for more than 31 years. Jason Vollmer is the CFO.
Investors in MDU shares face risks. The construction materials business is sensitive to highway construction spending as well as trends in energy development. The company’s regulated utility operations may be at risk in the event of cooler-than-normal conditions during the summer air-conditioning season, or warmer-than-normal temperatures during the winter heating season.
In addition, the company’s pipeline and midstream and refining businesses are dependent on market-based commodity prices and commodity price basis for differentials/crack spreads. The regulatory approval, permitting, construction, startup and/or operation of power generation facilities may involve unanticipated events or delays that could negatively impact the company’s results.
The attitudes and policies of state regulatory commissions affect the operating, financial and investment prospects of utility companies. Over the last several years, we have viewed the regulatory climate in both Montana and South Dakota as above average in terms of decisions favorable to utilities, with interim rate awards, relatively prompt rate orders, and full consideration of updated test periods. Nonetheless, state regulators could in the future lower the company’s allowed return on common equity.
MDU Resources Group has interests in electric and natural gas utilities, natural gas pipelines, and construction materials and services. MDU is headquartered in Bismarck, North Dakota.
We think MDU shares are fully valued at recent prices near $26. Over the past 52 weeks, the shares have traded between $15 and $32 and are currently near the upper half of the range. The shares trade at a price/book ratio of 1.9, below the midpoint of the five-year range of 1.3-2.7 and above the peer average. The dividend yield of 3.2% is also above the peer average. We think valuation multiples are fair given our modest growth expectations. We would look to return the stock to our BUY list in the event of a nonfundamental pullback below $21.
At the same time, we are maintaining our long-term BUY rating.The company also has a strong balance sheet and continues to add new customers.
On January 6 at midday, HOLD-rated MDU traded at $27.32, up $1.49.