With a dividend yield of 8.4% following a huge sell-off this year, is TransAlta Renewables (TSE:RNW) stock finally worth buying? RNW is a renewable energy company operating under the following segments: Canadian Wind, Canadian Hydroelectric, and Canadian Gas. While renewable energy is a high-growth industry, Transalta Renewables is not a high-growth company, and its fundamentals aren’t perfect. Therefore, we are neutral on RNW stock.
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Why TransAlta Renewables’ Dividend Doesn’t Excite Us
As mentioned above, RNW stock now has an 8.4% dividend yield. This may entice high-yield investors, but it doesn’t entice us. Why? Because its dividend doesn’t have room to grow. Two weeks ago, RNW updated investors regarding its 2023 financial outlook, and the numbers weren’t great, causing the stock to plunge.
Essentially, TransAlta Renewables is expected to have a 100% payout ratio in 2023, meaning it will be paying out all of its earnings as dividends. This leaves no room for growth investments, and it isn’t great for dividend safety because if the payout ratio keeps rising, RNW may have to cut its dividend.
In addition, RNW’s dividend hasn’t grown since 2017, meaning it’s likely to stay that way, especially with the way things are going. TransAlta Renewables also isn’t much of a value creator, which we’ll discuss in the next section.
TransAlta Renewables Isn’t a Great Value Creator
Great companies often have great management teams that can effectively allocate capital to profitable projects. We can look at the numbers to get an idea of management’s effectiveness. A metric we like to look at is the economic spread, which is defined as follows:
Economic Spread = Cash Return on Invested Capital – Weighted Average Cost of Capital
The idea is very simple; if the cash return on invested capital (CROIC) is greater than the cost of that same capital, then the company is creating value for its shareholders through well-thought-out projects. Otherwise, the company is destroying value and would be better off simply investing money into risk-free bonds.
For RNW, the economic spread is as follows:
Economic Spread = 5.1% – 7.8%
Economic Spread = -2.7%
As a result, the company has destroyed value for its shareholders in the past year. Its average CROIC from 2017 to 2021 was 8.5%, which would give it a positive spread. However, that’s still only barely positive, and things have turned south since then.
Another easy way to notice that the company hasn’t created value for shareholders is by looking at its book value per share, which has been downtrending from C$10.42 in 2015 to C$6.63 as of the most recent report.
Is TransAlta Renewables Stock a Buy, According to Analysts?
TransAlta Renewables has a Hold consensus rating based on two Buys and six Holds assigned in the past three months. The average RNW price forecast of C$15.06 implies 35.7% upside potential.
Takeaway: There are Probably Better Opportunities Elsewhere
RNW has a reliable business model since it produces relatively steady cash flows via long-term contracts by “investing in highly contracted renewable and natural gas power generation facilities and other infrastructure assets.” However, its stability comes with a caveat — little to no growth. Since the company sees very little growth on a per-share basis, we expect most shareholder returns to come from dividends. An 8.4% yield is good, but it’s not exciting enough to us when there’s no growth attached to it, especially in a bear market where great deals are everywhere.
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