Friday, April 07, 2017
Natural Gas Finds the Right Combination
Natural gas has been eating coal’s lunch these days. There has been a steady shift from the use of coal to natural gas for power generation in the U.S. for several years, but lately the pinch has become more painful. The abundance of domestically sourced natural gas and lower prices have been key factors. That natural gas also yields the benefit of lower greenhouse gas emissions has been icing on the cake for power producers.
Natural gas has one particular element in its favor - combined-cycle technologies - that has made power producers even quicker to dump coal for natural gas. Combined-cycle gas powered plants use both a gas and a steam turbine. Waste heat from the gas turbine is routed to an adjacent steam turbine. This makes it possible to generate extra power from the original natural gas feedstock. Natural gas-fired combined cycle plants require less energy input per megawatt hour than coal-fired power plants and even plain vanilla natural gas-fired plants. Beginning in 2015, combined-cycle plants took the lead in the power generation world and now account for 55% of natural gas-fired power generation capacity. The less efficient combustion turbines or steam turbines are now used in less than half of the natural gas power plants.
Power plant equipment is not the playground for smaller companies. Big boy General Electric (GE: NYSE) figures prominently in the market for combined-cycle systems. Siemens (SIE: DE) follows as a close second. Additionally, Kawaskai Heavy Industries, Mitsubishi Hitachi Power Systems, Solar Turbines and Ansaldo Energie have brought various systems to market.
A stake in large multinational companies is often far removed from its renewable energy or power efficiency products and services. In the case of GE, power generation equipment figures prominently in its earnings generation. Indeed, GE’s power generation segment is an increasingly important part of General Electric’s revenue mix, representing 21.7% of the total in 2016. In turn, gas power systems, which include the combined cycle power plant equipment, represented one-third of GE’s power generation segment in 2016, representing $8.8 billion in total sales or 7.2% of GE’s total revenue for the year. The profit margin for the gas power systems is not disclosed. However, with a five-year average operating profit margin of 21%, GE’s total power generation segment is an important source of earnings. A stake in large multinational companies is often far removed from its renewable energy or power efficiency products and services. In the case of GE, power generation equipment figures prominently in its earnings generation.
For investors who want to participate in making natural gas more environmentally friendly, a stake in GE is a logical vehicle. As 33.6 times trailing earnings, GE shares seem a bit expensive, but on a forward earnings basis the stock is trading at bargain valuation of 15.8 times the consensus estimate. A current dividend yield of 3.2% is also attractive.
Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.