In the past 10 years, Fortis Inc. (TSX:FTS) has made strategic acquisitions that helped contribute to strong organic growth. In 2015 Fortis successfully integrated UNS Energy in Arizona, completed the Waneta Expansion hydroelectric project on budget and ahead of schedule, and sold its commercial real estate portfolio for substantial gains.
These factors helped boost Fortis’s adjusted earnings per share (EPS) by more than 20% in 2015. As a result, the utility was able to hike its dividend twice last year for a total increase of 17.2%.
The business and recent developments
Fortis is primarily a regulated utility, which makes it a low-risk investment with steady returns and below-average volatility. Fortis serves more than three million gas and electricity customers in five provinces in Canada, the states of New York and Arizona in the United States, and three Caribbean countries. Currently, Fortis generates about 40% of its earnings from the U.S.
In early February, Fortis entered into an agreement to acquire ITC Holdings, which will further diversify Fortis’s business. Via ITC, Fortis will have a presence in eight more states in the U.S. Overall, Fortis will generate about 60% of its earnings from the U.S. with 38% generated from ITC.
ITC Holdings is the largest independent electric transmission utility in the U.S. with rates regulated by FERC. ITC generates stable and predictable cash flows with no risk in commodity or fuel price volatility. Further, ITC will help lower Fortis’s overall rate regulatory risk and is anticipated to be accretive to its EPS in its first full year of contribution after closing.
The ITC acquisition is expected to close in late 2016. However, it’s still subject to approvals from Fortis shareholders, ITC shareholders, and regulatory bodies such as FERC.
Fortis plans to invest $9 billion in its energy networks over the next five years, which will improve service reliability and safety as well as enhance shareholder value.
Income and returns expectations
Fortis targets to grow its dividend by 6% per year on average through 2020. So, investors can consider Fortis’s shares for a safe income that’s growing at twice the rate of inflation.
Income investors buying the 3.8% yield today can expect their yield on cost to grow as shown in the table below. If you buy 100 shares today (an investment of roughly $3,950), you’ll receive $150 in annual dividends. And that income will grow to about $190 by 2020 based on Fortis’s dividend-growth targets.
| Year | Yield on cost | *Annual dividends |
| 2016 | 3.8% | $150 |
| 2017 | 4% | $159 |
| 2018 | 4.3% | $168 |
| 2019 | 4.5% | $178 |
| 2020 | 4.8% | $189 |
* Annual dividends based on the purchase of 100 shares and a dividend-growth rate of 6% per year
With a dividend of 3.8% and a dividend-growth rate of 6%, investors of Fortis today can expect a return of roughly 9.8% per year through 2020.
Conclusion
Fortis is a regulated utility with steady rates of returns. The ITC acquisition, which is expected to close late this year, will be accretive to Fortis’s earnings in its first full year of contribution after closing. This will help support Fortis’s plan to increase its dividend by 6% per year through 2020.
If you buy 100 shares today, you can expect to earn $150 of dividends in the first year and about $190 by 2020.
