Friday, July 26, 2013

7 reasons why I hold Fortum

Fortum is a leading power and heat company in the Nordic area. It was established on 7th of February 1998 as combination of "Imatran Voima" (literally: "Imatra's Power"), one of the most famous Finnish power companies, and Neste (literally: "Liquid"), an Finnish oil company. Since then many investments and divestments have taken place. Most notably actions have been separation of oil business (Neste Oil) in 2005 and large investments in Russian power and heat companies (TGC-1 and TGC-10) between 2005 and now.

Fortum is among the most traded shares on the NASDAQ OMX Helsinki stock exchange where it is listed. It has market cap of approximately 13 billion euros which places it 5th in Helsinki stock exchange in terms of market cap. Finnish State is majority owner with 50,8% of all shares. Fortum is considered as strategic asset for Finland and the ownership is steered directly from the office of Prime Minister. Foreign investors have 25,5% stake in Fortum (June 2013).

The reasons I hold Fortum are:

#1 Dividend

For the past five years Fortum has paid dividend of 1 euro per share. Shares of Neste Oil distributed to shareholders of Fortum are not included.

Dividend policy:

"Fortum Corporation's target is to pay a stable, sustainable and over time increasing dividend of 50-80% of earnings per share excluding one-off items. "

Dividend yield based on closing price 14,78 euros (Helsinki 26th of July 2013) and assumption of 1 euro dividend would be 6,8%.

#2 Stability

Nordic power and heat business is very stable. Fortum is number #3 in power generation and #1 in heat generation in Nordic region where power market is still highly fragmented. There are over 350 power generation companies in the region.

That is where the money comes now.

In European scale Fortum is mid-sized player in power generation. However, in heat generation it is one of the biggest players in the world (5th in 2011).

#3 Very profitable business valued very reasonably

Gross margin 41%
Operating profit 30,2%
ROA 7,8%
ROI 3 year average (est 2013) 12%
ROE 3 year average (est 2013) 15,6%

P/B 1,23
P/E (est 2013) 10,5

Source: Valuatum

#4 Low carbon power generation

According to its strategy, Fortum seeks growth in low-carbon power generation, energy-efficient CHP production and customer offerings. 68% of Fortum's total power generation was CO2-free in 2012. In EU region the number was impressive 93%.

Power generation mix in 2012 was:
  • Hydro power 34%
  • Nuclear power 32%
  • Natural gas 27%
  • Other 7%
Heat generation mix in 2012 was:
  • Natural gas 62%
  • Coal 12%
  • Biomass 11%
  • Other 15%
Within Europe 91% of power is generated within either hydro or nuclear power plants. The share of biomass, heat pumps and waste in heat production in Europe is far larger than in the overall mix.

#5 Russian operations

OAO Fortum (former TGC-10) operates in the heart of Russia’s oil and gas producing region. TGC-1 operates in north-west Russia (area bordering Finland). Fortum owns a bit over 25% of TGC-1. Fortum's share of both combined is 26 TWh of power generation and 34 TWh of heat sales. Compared to Nordic figures (52 TWh and 15 TWh respectively) the Russian operations is significant in the company level.

Power market liberalisation is ongoing in Russia. There are separate markets for capacity and electricity. The rules favor "new" capacity over "old" (pre-2007) capacity. Bulk of capacity Fortum got in the TGC-10 deal was "old". However, they have extensive investment program at OAO Fortum to add 85% more capacity between 2011 and 2014. Majority of the capacity is to be rolled out between 2013 and 2014.

Currently operating profit coming out of Russian operations is fairly small. However, Fortum targets operating profit level (EBIT) of about EUR 500 million run-rate in its Russian division during 2015. That would yeild a significant improvement to the bottom line (was 1,4 billion EUR after tax in 2012; EPS 1,59 euros).

#6 Long term market coupling in Europe

Electricity is cheaper in Nordic region than in many other parts of Europe. New interconnections will double the transfer capacity between nordic and continential regions from current 4000 MW to 8000 MW by 2020. Net exports from Nordic region to continental Europe in 2012 was 18 TWh (2011: 7 TWh). Long term market coupling and expansion of tranfer capacity are likely to increase price of electricity in Nordic region and bring it closer to that of central Europe.

#7 Potential divestments

Fortum is assessing divestment of its electricity distribution business, which ties lots of capital, but the returns are far behind those of power generation business. Fortum is the biggest electricity distributor in the Nordic region. However, in European scale Fortum is a minor player.

The electricity distribution as separate business is likely valued higher than its currently valued as part of Fortum. This would unlock hidden value - eventually to shareholders in one form or another.


All financial estimates: Valuatum (based on closing price 14,78 EUR on Helsinki stock exchange 26th of July 2013)

Company web site

Investments and divestments


Investor presentation July 2013:

Full disclosure: Author was long Fortum at the time of writing.

1 comment:

  1. This is a great post. Hope you continue contributing this stuff. Thanks a lot!