Centrica (CNA) has achieved steady earnings and dividend growth despite reduced retail gas and power demand and a large tax increase on North Sea gas production. The solid financial performance during tough macroeconomic times was due to its strategy of hedging roughly 50% of its retail energy sales with its own assets. However, owing to the declining production in the aging Morecambe gas fields, Centrica has made several acquisitions of gas properties and increased its exploration to maintain this effective hedge level.
The key to continued earnings and dividend growth will be the amount of oil and gas Centrica produces from these acquisitions and the success of its exploration programs. Both create risk for investors. Still, we believe the company's strong balance sheet and diverse earnings can support its attractive dividend.
Centrica is also betting on the success of its retail strategy in the U.S. The mid-2013 acquisition of Hess’ energy marketing business makes Centrica the largest business gas supplier on the East Coast and the second-largest business power supplier in the U.S. Whether this integration along the retail energy chain can create a moat (competitive advantage) remains to be seen.
If natural gas prices rise from current levels, Centrica's new investments in natural gas production should result in strong earnings growth.
Centrica's 270 MW Lincs offshore wind farm and the company's large development pipeline of offshore wind projects position the company well in case the U.K. government elects to pursue offshore wind for reducing carbon from power generation.
The British Gas brand name has contributed to strong growth in the residential HVAC maintenance and heating system installation businesses.
But retail energy prices have risen significantly the past few years, and political pressure to keep prices low for homeowners is a headwind for earnings growth in the retail energy business. The increase in the supplementary corporation tax on North Sea gas production also puts an additional burden on Centrica's ability to grow earnings and hedge its retail natural gas sales.