The Ontario government plans to sell some of its shares of Hydro One in November. We rate this electricity transmission and distribution company as a ‘Very Conservative’ Canadian blue chip stock. Buy Hydro One for long-term share price gains as well as high and rising dividends.
The Ontario government plans to initially sell 81 million shares, or 13.6 per cent, of Hydro One’s 595 million shares. This is the province’s main electricity transmission and distribution company. Ontario has reserved 25 per cent of the shares for retail investors like you—as opposed to big institutional investors. We rate the shares a buy for several reasons.
First, Hydro One plans to pay initial dividends of 84 cents a share or 21 cents each quarter. The initial share price is expected to range from $19 to $21 a share. As a result, the shares are expected to yield from four to 4.4 per cent. That should earn it a place on any high dividends stock list.
Hydro One says that it will aim to pay dividends of 70 to 80 per cent of its net income. This suggests that there’s room for the company to raise its dividends early on. In 2014, it earned $747 million. Divide this by 595 million shares and Hydro One earned nearly $1.26 a share last year. Multiply this by 70 to 80 per cent and you get a dividend of 88 cents to a dollar a share.
Buy for high and rising dividends
The government will strengthen Hydro One’s balance sheet. It will use $5 billion of the proceeds to pay down Hydro One’s debt. This should give the company the financial flexibility to continue to pay dividends and to reinvest in the business. This matters because capital investment in the rate base is expected to drive future dividend growth.
A second reason to buy this new Canadian blue chip stock is that it will qualify as ‘Very Conservative’ right from the start. Its assets of $23 billion greatly exceed the $1.5 billion threshold for our stage-one quality rating of ‘Very Conservative’. In our second stage, we note that the company operates in the stable utility sector. It generates stable regulated cash flow and net income. So it deserves a quality rating of ‘Very Conservative’.
Hydro One should maintain its strong market position. That’s partly because its assets would be very difficult to replicate. For instance, it has a high-voltage transmission network that stretches 29,000 kilometres. Its primary low-voltage distribution network extends for 122,000 kilometres. It serves 1.2 million customers, including large companies.
A third reason to buy Hydro One is that there’s likely lots of scope to increase its efficiency. Such was the case with Key stock Canadian National Railway after it was privatized.
Ontario to keep only 40 per cent
Ontario plans to sell the first part of Hydro One in November. The government will sell more shares in the years ahead. It plans to eventually reduce its stake to 40 per cent of this Canadian blue chip stock.
There’s always a risk when you’re a partner with a government: they could make politically expedient decisions—with little or no regard for the financial consequences.
But the Ontario government wants to sell much more of Hydro One. This will raise the cash to invest in the province’s much-needed new infrastructure. As a result, Ontario is likely to behave and act sensibly. Otherwise most investors would take a pass on future offerings of Hydro One shares.
The financial arms of Royal Bank of Canada and the Bank of Nova Scotia are the lead underwriters. So they’ll have the most Hydro One shares to sell.
We rate Hydro One a buy for high and rising dividends as well as long-term share price gains.
The Investment Reporter, MPL Communications Inc.
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