This report focuses on natural gas distribution businesses and/or executives contemplating adding natural gas distribution businesses to their current business portfolio.
To assist executives assessing strategic direction, we performed in-depth analyses of strategic focus, resulting return on equity (ROE), and shareholder return across the natural gas distribution companies.
Here, we review our analysis and examination of a panel of 10 natural gas distribution companies to show the relationship between strategic direction and resulting performance, both internal performance metrics and attendant shareholder return.
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The Value of Strategic Direction
- Strategy Analyses Across Natural Gas LDCs
- November 2015
Contents
- Executive Summary of Findings Approach Panel Company Strategy Categories Panel Company Strategy Results Example Company-Specific Analyses
Executive Summary of Findings
Purpose and Introduction
- Purpose This report focuses on natural gas distribution businesses and/or executives contemplating adding natural gas distribution businesses to their current business portfolio We analyzed and examined a panel of 10 natural gas distribution companies to understand the relationship between strategic direction and resulting performance, both internal performance metrics and attendant shareholder return To assist executives assessing strategic direction, we performed in-depth analyses of strategic focus, resulting return on equity (ROE), and shareholder return across the natural gas distribution companies Introduction In this report, executives will find a summary of varying strategic plans/direction among gas LDCs, a 10-year shareholder value analysis, analyses on ROE, and the breakdown of ROE across its three componentsreturn on sales (ROS), asset turnover, and financial leverageover the same period of time Executives will find that LDCs are indeed pursuing a wide range of strategies that group into three categories Conventional Strategy Traditional dividend play, focus on the fundamental LDC business Horizontal Integration Strategy Growth via acquisition of additional LDC businesses, gas trading, and/or field service businesses Vertical Integration Strategy Growth via midstream (pipelines, storage, etc.) asset acquisition/investment and, in some instances, extension upstream into gathering and drilling Importantly, executives will also find that these strategies are producing significantly different results Whether you are a stand-alone LDC company executive or a combo-utility executive, you will find this study to be a compelling read
- Executive Summary
Summary of Findings
- General Findings Strategy matterssome natural gas LDC strategies produce consistently higher returnsboth ROE and shareholder returnthan others Clarity and decisiveness of strategy appear to influence the amount of value created as much as the strategy itself Strategies should be regularly reassessed for changes in the environment; however, a shift in strategic direction appears to be accompanied with a lag in value creation Execution matters those companies shifting away from the Conventional Strategy to one of the growth strategies have considerably higher variability of results Across the entire natural gas LDC panel, no companies appeared to be utilizing leverage to boost ROE Strategy-Specific Findings The right strategy should be uniquely aligned with company-specific circumstances Those natural gas LDCs pursuing the Conventional Strategy consistently produced the lowest, or worst, returns Of the 10 panel companies, seven supplemented their regulatory assets with other strategic assets However, only three of the seven have made a clear, well-understood shift in strategic direction; those three LDCs with a clear shift in strategy have outperformed the rest of the panel The most significant difference across the three strategies was the ability to generate operating profit The Vertical Integration Strategy produced the highest operating profit and attendant ROE
- Executive Summary
Approach
Project Objectives and Key Activities
- Project Objectives Create strategic analyses of natural gas LDCs financial performance to determine if different strategies produce different returns Identify strategic opportunities and ideas that enable C-suite executives to enhance shareholder value Key Activities
- Approach
- Note: Data sources include SNL Financial and publicly available sources (e.g., 10-Ks, shareholder reports)
- Determined Panel of Companies
- Selected 10 natural gas LDCs, gas only Ensured all companies were publicly traded and had at least $500M in revenue
- Correlated TSR and ROE
- Documented and agreed on metric calculations Set up database architecture Collected data and made source decisions Tested third-party source data and researched differences Correlated Total Shareholder Return (TSR) and actual ROE over 1012 years Identified outliers Researched supporting documentation for explanations Organized outputs in graphic form and consolidated various explanation sources
- Completed DuPont Decomposition Analysis
- Broke down ROE into three components to identify drivers of financial performance Assessed outputs and created hypotheses Researched and validated hypotheses Prepared results in appropriate formats
- Validated Company-Stated Strategies
- Reviewed stated company strategies Attended CEO strategy briefings Assimilated results
- Prepared Findings that Deliver Value to Executives
- Prepare statement of value analyses Make findings available to executives Post findings on website Send findings to C-suite executives Prepare and post news releases to make the study known Ensure clarity of results for valuable executive review
Panel Company Strategy Categories
Panel Company Strategies
- While we see three varying strategies, none are pure or distinct; rather, companies participate across strategic categories Therefore, we categorized based on Wall Streets view of each companys strategy which generally coincides with Materiality of investments Clarity of communication with the Street
- Panel Company Strategy Categories
- Key Points
- Major focus on regulatory compact Maintain dividend payments Any acquisitions are minor enough that Wall Street discounts the value
- Acquisitions are mostly focused on additional LDCs and/or field service businesses Acquisitions are considered material
- Acquisitions are mostly upstream from the LDC, typically pipelines and/or storage Acquisitions are considered material
Panel Company Strategy Categories
- Where Companies Are Viewed Today
- Returns were consistently highest for the Vertical Integration Strategy category Companies pursuing the Vertical Integration Strategy utilize unregulated assets to raise overall financial performance
- Summary Findings
- Conventional Strategy ATMOS appears to be the purest of the Conventional Strategy plays Piedmont Natural Gas appears to be Conventional, but moving to a Vertical Integration Strategy, although its in the early stages
- Horizontal Strategy Laclede Group appears to be the purest of the Horizontal Growth plays, shedding its service business and concentrating on LDC acquisitions WGL, while once pursuing a Horizontal Strategy, appears to be moving aggressively toward Vertical Integration Strategy
- Vertical Strategy QUESTAR is the purest of the Vertical Integration plays, followed by National Fuel; QUESTAR has been pursuing this strategy since the early 80s Others appear to be headed toward a Vertical Integration Strategy, but returns still lag
Panel Company Strategies Another View
- Panel Company Strategy Categories
ROE and DuPont Decomposition of Panel Companies
- ROE and the DuPont Decomposition Analysis Using the DuPont Decomposition Analysis, ROE is broken down into the three components that ultimately drive resultsROS, asset turnover, and equity multiplier (or leverage)
- Panel Company Strategy Categories
- Min/Max Range Average ?
- As an industry, performance is steadyremarkably steady However, the variability between the highest ROE and the lowest ROE is surprisingly high, especially during certain years Asset turnover seems to be the differentiating factor separating high-performance LDCs from the pack Since 2008, asset turnover across the industry has dropped from pre-2008 levels, even among the highest performing LDCs ROS is steady as an industry, but some strategies are producing higher ROS than others; 2008 2010 ROS was high due to more rate increases across the panel than normal Leverage, with the exception of 2005, has remained steady, regardless of varying strategies
Panel Company Strategy Results
Average ROE Across Strategies
- Strategies Produce Substantively Different Results As the chart below indicates, the Vertical Integration Strategy has produced substantively higher ROE in each of the last 10 years
- Panel Company Strategy Results
- Key Takeaways
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