Algonquin Power

Investment Brief
May 26, 2022
Investment Focus
AQN-TSX | AQN-NYSE
AQN’s acquisition of Kentucky
Price: C$18.66
Accountability Research Corporation – Investment Brief

Power will augment its

Target: C$22.00 regulated asset portfolio while
Expected Return: 18% providing a stable earnings
BUY profile. Additionally, the
Figures in USD unless stated company’s $12.4 billion five-
year capital plan should result
in meaningful EPS and
Earnings Quality: Average dividend growth through 2026.
AQN is looking to recycle some
Quality of fit: 16 / 25
14 / 25
of its assets, which could bring forward value and provide funding
Completeness:
Appropriateness: 15 / 25 for the capital plan. We forecast increased performance ahead as
Management: 15 / 25 projects in the company’s pipeline commence commercial
Total: 60 / 100 operations and the acquisition of Kentucky Power closes.

Investment Highlights
Dividend Yield: 5.0%
Market Cap: C$13 billion 1Q22 Earnings Review. AQN reported 1Q22 adjusted EPS of
Shares Out: 674.1 million $0.21, which missed our estimate of $0.23 but was in line with
Avg. Volume: 4.9 million consensus. The miss can be ascribed to higher than estimated
2022E Rev: $2.85 billion costs. Total revenue of $735.7 million in 1Q22 increased from
2023E Rev: $3.20 billion $634.5 million in 1Q21 and was higher than our estimate of
2022E EPS: $0.73
$710.1 million and consensus of $727.2 million.
2023E EPS: $0.81
Five-Year Capital Plan (2022-2026). AQN has laid out a five-year
Algonquin owns or has interests capital plan to spend $12.4 billion. The company has allocated
in a diversified portfolio of $8.8 billion (~71% of the total) to the Regulated Services Group,
renewable energy facilities, which includes the acquisition of Liberty NY Water and Kentucky
thermal energy facilities, and Power. This is expected to drive a 14.6% CAGR in rate base
water distribution and waste- during the period. Allocation to the Renewable Energy Group of
water facilities in Canada, Chile $3.6 billion mainly represents the conversion of $1.4 billion of
and the US.
projects from the pipeline.

2022 and Long-Term Guidance. AQN reaffirmed its 2022

Harshit Gupta, MBA
hgupta@accountabilityresearch.com
Mark Rosen, MBA, CFA, CFE
mrosen@accountabilityresearch.com
adjusted EPS guidance of $0.72-$0.77, which will be adversely
impacted by transitionary factors including integration of NYAW
and Kentucky Power. During 2022-2026, adjusted EPS is
expected to increase at a CAGR of 7%-9% on the back of a solid
development pipeline (1%-3%), optimization of asset returns (2%)
and investments related to safety and reliability (4%). With a long-
term payout ratio target of 80%-90% of normalized earnings,
dividends are expected to grow alongside EPS.

Valuation. We maintain our Buy rating and price target at

$22.00/share (~US$17/share).

independent equity research | 416.367.3352 For important disclosure information see the last page of this report.
ARC Investment Brief – Algonquin Power & Utilities Corp.

Investment Highlights
This is only an Investment Brief. Please refer to our Full Report for additional information.

Algonquin’s acquisition of Kentucky Power for $2.85 billion will augment its regulated asset portfolio
while providing a stable earnings profile. The company’s previously completed acquisitions (Liberty
NY Water, ESSAL, BELCO and Texas Coastal Wind among others), as well as its deal with
Chevron and Meta Platforms, present opportunities to further strengthen its presence in
international markets. Furthermore, AQN has chalked out a massive investment plan over the next
five years (2022-2026) to drive rate base expansion in its regulated assets and meaningful growth
in EPS and dividends. We continue to expect improved financial performance in 2022 as projects in
AQN’s pipeline commence commercial operations, with long-term offtake agreements alleviating
the associated risks. We maintain our price target at C$22.00/share and reiterate our Buy
recommendation.

1Q22 Earnings Review

The acquisition of Empire Wind facilities and Liberty NY Water coupled with assets placed into
service continue to augment AQN’s performance. The company reported adjusted EPS of $0.21, up
from $0.20 in 1Q21. This was in line with consensus, but below our estimate of $0.23 due to higher
than estimated costs. Total revenues of $735.7 million in 1Q22 increased from $634.5 million in
1Q21 due to acquisitions and pass-through of higher commodity costs. Adjusted EBITDA grew by
16.9% y/y to $330.6 million from $282.9 million in 1Q21.

The Regulated Services Group continues to benefit from growth in customers. The average active
customer base for electricity increased to 303,800 in 1Q22 from 302,900 in 1Q21, with natural gas
connections increasing to 361,400 from 359,300, and water and wastewater distribution up to
540,300 from 404,300. The increase in customer base was complemented by favourable weather
conditions during the quarter that resulted in higher consumption of electricity and gas. Commercial
and industrial (C&I) customers saw electricity sales of 915.9 gigawatt hours (GWh) in 1Q22, up
from 843.9 GWh in the prior year quarter, while residential customers accounted for total electricity
sales of 844.9 GWh in 1Q22, up marginally from 843.9 GWh in 1Q21. Gas sales rose to 20,022
billion btu (Bbtu) in 1Q22 from 19,014 Bbtu in 1Q21 due to favourable weather conditions. Total
wastewater treated and water provided volume surged 39.4% y/y to 9.5 billion gallons from 6.8
billion gallons during the same period due to the acquisition of Liberty NY Water (previously New
York American Water or NYAW), which was completed on 1/1/2022. The acquisition added over
127,000 customer connections.

Backed by the acquisition and pass-through of higher commodity costs, the group’s net utility sales
increased to $403.2 million in 1Q22 from $353.1 million in 1Q21. Operating expenses came in at
$184.4 million in 1Q22 vs. $152.2 million in 1Q21, while HLBV income increased to $7.9 million
from $4.3 million. As a result, the group reported operating profit of $231.2 million in 1Q22, up
12.0% y/y from $206.4 million in 1Q21. Absence of non-transferrable costs related to winter storms
in 1Q21 had a positive effect of $9.1 million on the division’s operating profit, the acquisition of
Empire Wind facilities added $9.5 million, and rate reviews provided incremental operating profit of
$7.5 million. Liberty NY Water generates a majority of its earnings during the warmer months.
Seasonality coupled with one-time transition costs resulted in an operating loss of $2.3 million at
Liberty NY Water during the quarter.

The Renewable Energy Group reported total electricity sales of 2,205 GWh, up from 1,673 GWh in
1Q21. The group’s sales were driven by higher wind resources and commencement of commercial

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operations at Maverick Creek (4/21/2021), Blue Hill (4/14/2022) and EBR Wind (12/31/2021). The
wind facilities produced 1,930 GWh, up 33.9% from 1,441 GWh in 1Q21. Recall that 1Q21
operations were affected by blade manufacturing errors at the Sugar Creek and Maverick Creek
wind facilities. While 26 of the 40 turbines were shut down at Sugar Creek, 26 of the 73 turbines
were shut down at Maverick Creek. Turbines at Sugar Creek and Maverick Creek were back in
service on 9/29/2021 and 6/7/2021, respectively. Electricity generation from the wind facilities
equated to 99.7% of the long-term average resource (LTAR) in 1Q22 vs. 88.5% in 1Q21.
Production from the hydro facilities stood at 116.7 GWh (88.8% of LTAR) vs. 123.4 GWh (93.9% of
LTAR) in 1Q21 as all regions except Quebec generated electricity below their respective LTAR.
Production from the solar facilities came in at 90.1 GWh, up 39.5% y/y due to contribution from the
Altavista Solar Facility, which achieved partial completion on 3/8/2021 and commenced full
commercial operations on 6/1/2021, and the Croton Facility which commenced commercial
operations on 12/8/2021. Excluding the impact of Altavista and Croton, generation from the solar
facilities was 9.0% below the prior year. As a percentage of LTAR, generation came in at 90.0% in
1Q22 vs. 87.1% in 1Q21. Thermal facilities generated 68.7 GWh in 1Q22 vs. 44.4 GWh in 1Q21. As
such, total net revenues of the group rose to $88.2 million in 1Q22 from $30.8 million in 1Q21. Total
operating income came in at $118.6 million, up from $95.0 million in 1Q21. While newly
commissioned facilities added $8.5 million to the group’s operating profit, higher Canadian and US
wind production added $2.9 million and $8.7 million, respectively.

Solar Panel Tariff Investigation

The US Department of Commerce has commenced an investigation related to the circumvention of
tariffs on solar panels imported via Cambodia, Malaysia, Thailand, and Vietnam. According to
Rystad Energy, Malaysia accounted for 31% of total solar module imports in 2021 (data up to
12/10/2021), followed by Vietnam at 29% and Thailand at 26%. Auxin Solar, a California-based
manufacturer of solar panels, petitioned the US DOC to investigate potential dumping of solar
panels by Chinese manufacturers exported through the Asian countries to avoid tariffs. The tariffs
were imposed in 2018 to curb Chinese manufacturers from dumping subsidized solar panels in the
US and were extended by the current administration for another four years in February 2022. A
decision on the investigation is likely to take up to a year and could have a material impact on solar
projects currently in process. The investigation has disrupted the supply chain and is likely to result
in project delays and elevated costs.

AQN noted that the investigation is not likely to have a material impact on its performance as solar
projects constitute just 2% of its development pipeline. Furthermore, the company noted during its
1Q22 conference call that the solar panels for the Community Solar projects are already in the US
and are not likely to be impacted by the investigation. The New Market Solar – Phase 1 project (35
MW) has about 70% of panels installed, while the New Market Solar – Phase 2 project (65 MW)
could be affected. The company expects to secure panels for the project on time and anticipates
completion before 12/31/2022. Amid uncertainty related to the tariffs, AQN and Chevron have
mutually agreed to defer 45 MW of planned solar projects in Texas and New Mexico.

Kentucky Power Acquisition Update

AQN received approval from the Kentucky Public Service Commission (KPSC) in May 2022,
subject to certain conditions. The company expects to receive approval from the US Federal Energy
Regulatory Commission (FERC) and the Public Service Commission of West Virginia related to
termination and replacement of the 780 MW Mitchell coal generating facility in the coming months
and expects the acquisition to close mid-2022.

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Five-Year Plan (2022-2026)

AQN has laid out a five-year capital plan to spend $12.4 billion. The total includes the acquisitions
of Liberty NY Water (completed January 2022) and Kentucky Power (expected mid-2022) which
increased the pipeline by $2.8 billion, followed by $2.1 billion from expected additions to renewable
projects and $1.5 billion for new regulated additions. The company has allocated $8.8 billion (~71%
of the plan total) to the Regulated Services Group, which includes the acquisitions noted above.
The plan is expected to drive a 14.6% CAGR in rate base to $11.5 billion in 2026 from $5.8 billion in
2021. Excluding the impact of acquisitions, rate base is estimated to increase at a CAGR of 6.5%.
Allocation to the Renewable Energy Group of $3.6 billion mainly includes conversion of $1.4 billion
of projects from the pipeline.

Five-Year Plan Funding

AQN’s funding plan includes a variety of sources, including utilization of internally generated cash
flows, debt, hybrid debt, tax equity, DRIP, ATM and common equity. The company aims to utilize
$3.0 billion of its internally generated cash flows to fund 24% of the total planned spend of $12.4
billion during 2022-2026, as well as issuing $3.1 billion of debt, $2.1 billion of hybrid debt, and
utilizing $1.0 billion in tax equity. AQN anticipates that its dividend reinvestment plan and at-the-
market (ATM) program will provide $1.2 billion of funding. AQN noted that 124.5 million shares
(18% of its total outstanding) have been registered for dividend reinvestment as of 3/31/2022.
Based on the current annual dividend of ~$0.72/share, dividend reinvestment is expected to
generate $90 million annually. However, on 3/3/2022, the company lowered the discount offered on
dividend reinvestment from 5% to 3%, which could result in lower participation in the coming
quarters. Furthermore, AQN withdrew its base shelf prospectus qualifying the ATM program in
November 2021 and is not able to offer any shares under the program currently. Recall that the
company re-established its ATM program in May 2020 to issue up to $500 million of common
shares from treasury. Common equity issuances alongside mandatory convertible shares and asset
recycling are expected to generate $2.0 billion during the plan period. During the company’s
Investor Day in December 2021, management noted that asset recycling is likely to form a larger
portion of the funding plan than in the past. AQN did not provide much detail on asset recycling
during its 1Q22 call, but noted that it is currently looking to recycle ~750 MW of US and Canadian
renewable assets and could recycle additional assets in the coming years.

2022 and Long-Term Guidance

AQN has provided 2022 adjusted EPS guidance of $0.72-$0.77, which at the midpoint implies
upside of ~5% from 2021 adjusted EPS of $0.71. This is below the company’s long-term guidance
range of 7%-9%. Management noted that the integration of Liberty NY Water and Kentucky Power,
and South Texas congestion which is likely to affect basis cost at Texas Coastal Wind, will have an
adverse impact on adjusted EPS for the year.

Over the long-term, adjusted EPS is expected to increase at a CAGR of 7%-9% (2021-2026) on the
back of a solid development pipeline, optimization of asset returns, and investments related to
safety and reliability. The company plans to spend $5.4 billion to maintain safe and reliable
operations in the Regulated Services Group, which should augment its rate base and contribute
~4% of the projected CAGR during the period. The initiatives to minimize regulatory lag and earn
close to the approved ROE, coupled with optimization of existing and acquired assets, is expected
to represent ~2% of the projected CAGR. The remaining 1%-3% is expected from the successful
execution of the renewable capital plan and development of the renewables greenfield pipeline.

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With a long-term payout ratio target of 80%-90% of normalized earnings, dividends are expected to
grow alongside EPS. However, we estimate that the payout ratio will remain elevated over the near-
term due to the massive capital plan and integration headwinds, which could restrict dividend
growth in the coming years vs. historical growth of ~10%. The company raised its dividend by 6%
this quarter to US$0.1808/share (US$0.72/share annualized). During the 1Q22 call, AQN noted that
the dividend payout ratio is likely to remain elevated over the near-term. Assuming 6% dividend
growth, the company expects the payout ratio to improve within the guidance range post-2023.

Valuation
Our price target of C$22.00/share (US$16.82/share) is derived using our discounted cash flow
analysis.

This is only an Investment Brief. Please refer to our Full Report for additional information.

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