In the last five years, Fortis (TSX: FTS)(NYSE: FTS), the venerable Canadian utility powerhouse, has climbed from about $35 a share to $55 a share. This represented a 9% capital return with an annual dividend yield of about 5% during the same period, leading to a superb 14% annual return for shareholders. This means that $5,000 put in this stock would have resulted in a doubling effect, with $10,000 at the end of it all.
There is a big question about whether Fortis can double again in the next five years. Well, my answer is a little complicated, but in essence, I think Fortis is going to be a top stock and can certainly come close to doubling over the next five years.
Institutional investors have piled in
First, my macro thesis is based on a recessionary world where central banks around the world are cutting interest rates or holding them flat. In such a world, institutional investors like sovereign wealth funds or pension funds cannot continue to plough new money into “dead money,” fixed-income assets.
So, my theory is that these institutions will essentially have no choice but to continue to plough money into the highest-quality, blue-chip stocks they can find that can mimic some characteristics of fixed-income investments with a bit of capital gains potential.
But let’s not take my word for it. A bit of quick research into Fortis’s ownership structure tells us that major institutions own 53% of the stock, with the single largest shareholder being Royal Bank of Canada with a value of a whopping $1.4 billion. I don’t know about you, but I love investing alongside sophisticated institutional investors.
Fortis has a clear strategy with significant embedded growth
Investors are smart, and they won’t give a premium valuation to a company with a confusing business strategy because they know that execution can be chaotic and may even lead to shareholder value destruction.
Fortis has declared that its growth will be balanced prudently between Canada and the U.S. as well as tilted towards smaller incremental projects that don’t suck up a lot of capital and don’t carry as much execution risk. Staying primarily in North America when others are venturing into Europe and Asia is actually quite smart.
North American projects ensure that Fortis executives are not wasting a tonne of time, energy, and resources on intercontinental airplanes, fighting jet lag and fumbling around with different cultural nuances. It’s less costly to get things done in North America, where markets are developed and governance structures and risks are extremely well understood.
What is perhaps the most beautiful aspect of the new five-year strategic plan is that 73% of it will be funded with cash from operations. This means that the company does not have to take on a lot of new debt, and it doesn’t have to dilute existing shareholders via an equity offering. This is really important for investors because they can feel comfortable taking an investment position, knowing they won’t get diluted in the next few years.
Clear path for dividend growth
Fortis’s business model is easy to understand in every aspect, so it’s no surprise that its dividend strategy is crystal clear. In its latest five-year plan, the company has said that it anticipates earnings growth of 7% per year with subsequent dividend growth of 6% a year, fully funded by the growth in earnings.
With Canadian inflation hovering at 2% over the long term, 6% growth in dividends means Fortis is a dream for people close to retirement age, because their cash growth will outstrip inflation, ensuring that their purchasing power grows as they grow older and perhaps have greater healthcare needs that require funding.
The Foolish last word
The reality is that Fortis’s super-charged growth is not just a five-year phenomenon. What is truly astounding is that Fortis’s 20-year annual shareholder return is also 14%. This means that $5,000 invested in this growth-oriented utility 20 years ago would have turned into a retirement nest egg of almost $70,000.
While I personally do not think that we will see sustained annual returns of 14% going forward, I fully expect Fortis to clock in high single-digit returns reliably for the next few decades. Smart investors would do very well to start accumulating shares now for a very healthy and wealthy retirement fund.
