Why you should buy Redeia shares
Redeia's (BMAD: RED) net regulatory asset base (RAB) will grow at a compound annual growth rate (CAGR) of 4% until 2030.
This is not a forecast but a mandate by the Spanish state. Since the company charges a fixed tariff over net RAB, revenues and earnings will grow at a similar rate.
Despite a renewed promise for growth, Redeia's return on equity (ROE) has more than halved over the past decade.
The reason is a reduction in the allowed return set by the regulator, which in turn has largely been influenced by falling market interest rates.
With the last of those regulatory hurdles kicking in next year, 2024 will mark a new low with ROE expected to touch 10%, the lowest in its history. With interest rates having more recently increased there is significant scope for this trend in ROE to improve in the future providing a material earnings upside potential.
But even with an ROE of 10% as a base case we see a potential for attractive annualised return to shareholders.
The company will pay a dividend of €0.84 from 2024, delivering a 5.5% yield. Net RAB will grow at a 4% CAGR which will translate into an EPS growth of between 2 and 3%, as higher interest costs partly offset growing operating profits.
Assuming no change to valuation multiples, this will yield a total return to shareholders of around 8% per annum. In this scenario, Redeia will be worth €20.50 per share post the next regulatory review, which takes place in 2026. This is a 30% upside to today's share price.
What Reida does
Redeia is a regulated utility with a monopoly over electricity transmission in Spain, constituting 85% of its operations. The remaining 15% encompass a satellite business (Hispasat), a dark fiber optic business (Reintel), and a small, regulated transmission venture in South America.
Strategy and outlook
Redeia plays a critical role in Spain's energy system. It builds, owns, and operates the poles and wires that connect electricity generation assets (wind and solar farms, hydro, nuclear and gas power plants) to consumers (households, businesses, and industrial users alike). The business has two important characteristics worth noting.
Firstly, Redeia takes no risk in either electricity generation or electricity retailing. It does not own or develop generation assets and is therefore immune to the boom-and-bust cycle that often plagues this relatively fragmented market.
It also does not directly retail electricity to end users, shielding itself from the vagaries of volatile electricity prices. Instead, the Spanish electricity market regulator sets and locks in a regulated tariff every five years, providing the company with a stable and predictable revenue stream.
Secondly, Redeia benefits from Spain's push to decarbonise. A larger and more sophisticated electricity grid is a key enabler for growth in renewable generation assets.
New wind and solar farms are often located in remote locations that necessitate the building of new transmission lines. A sustained push to electrify the heating and transport sectors further drives demand for electricity which in turn requires an even bigger expansion of the grid. Network upgrades are also needed to support a more sophisticated grid that must cope with a changing energy mix in a decarbonised generation installed base.
Returns
The group's first-quarter 2023 revenues were up year-on-year to $AUD878 million, while earnings before interest, taxes, depreciation, and amortisation (EBITDA) was roughly in line with consensus expectations at $AUD657 million, up 1.6%.
The company also paid a $AUD0.45 per share interim dividend. Looking ahead, management confirmed its financial year 2023 guidance of EBITDA greater than $AUD2.45 billion and net profit approximately the same as financial year 2022 ($AUD1.1 million).
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