Utilities. POR Offers Steady Growth. Krause Fund Research Fall Portland General Electric. (NYSE: POR) November 10, Recommendation: HOLD

Transcription

1 Krause Fund Research Fall 2017 Utilities Portland General Electric. (NYSE: POR) November 10, 2017 Recommendation: HOLD Analysts James Fuhs Alex Gudekauf Luke Cornelison Company Overview Portland General Electric (POR) is a regulated electric utility company based out of Portland, Oregon. POR's operations consist of generating, wholesale purchase, distribution, transmission, and retail sale of electricity. POR has been approved to conduct business on 4,000 square miles across Oregon, providing electricity to 1.9 million people, and 863,000 retail customers. Stock Performance Highlights 52 week High $ week Low $40.71 Beta Value 0.55 Average Daily Volume 724,961 Share Highlights Market Capitalization $4.31b Shares Outstanding b Book Value per share $5.08 EPS (2017) $2.19 EPS (2018) $2.24 DCF/EP DDM Dividend Yield 2.61% Dividend Payout Ratio 58% Company Performance Highlights ROA 2.65% ROE 8.39% ROIC % Profit Margin 10.04% Sales $1.932m POR Offers Steady Growth Current Price $48.28 Target Price $50-58 Portland General Electric offers a high demand product with very few competitors. Oregon is the 10 th fastest growing state in the nation giving Portland General Electric the ability to serve more customers. POR has recently finished the construction of a natural gasfired generating plant named Carty. This contributes to the restrictive cost structure by starting to generate more power and purchase less power Portland General Electric offers a strong dividend every quarter. In recent years, their dividend payout ratio has been around 60 percent. POR has begun positioning themselves for future regulations that will force utility companies to decrease emissions and increase renewable sourced energy. Though many industries have seen high growth, the electric utility industry continues to be constrained by regulation. Because it is hard for competitors to enter the market, governments have intervened and put limits on revenue per kilowatt hours. Though the growth may not be as high as the S&P, it still offers safe, steady growth due to few competitors and constant demand. One Year Stock Performance Financial Ratios Debt Ratio 69% Debt to Equity 219% 1

2 Economic Outlook Real GDP Gross Domestic Product is the value of all goods and services produced by a country over a specific period of time. Traditionally GDP is a good indicator of a country s electricity usage, because generally a company s production relies on electricity to power their operations 19. Higher consumption of electricity does not only mean that businesses are ramping up production; but it also alludes to the fact that more companies are being created. A strong GDP growth is a good sign for the utility industry as a whole because it means that both customer accounts and usage will likely increase, meaning higher revenues. Source: World Population Review Utility companies are very sensitive to population growth. With little power to control prices, they rely heavily on number of customers in their area of operations to increase revenues Fuel Prices According to the US Energy Information Administration, Energy prices are expected to start increasing in the next five years. Source: Amadeo & Statista Currently the most updated quarterly GDP growth rates for 2017 are 3.1% (Q2) and 3.0% (Q3) 22, and we believe that it is reasonable to expect that the quarterly GDP growth rate will remain around 3.0% due to positive economic conditions such as the sustained growth in equipment investment and higher consumer spending. We also believe that as the current administration becomes more established, the GDP outlook will remain around the 3.0% mark. Population Growth in Oregon Oregon ranks tenth in the nation for population growth. They are forecasted for ~1.64 percent Year-over-year growth through Source: US Energy Information Administration Generation from natural gas, coal, and renewables is expected to increase to fulfill high demand abroad as well as forecasted growth in domestic demand. The increase in inputs for producing utilities will adversely affect utility companies that use large amounts of purchased power to affect meet their retail load requirement. Companies that generate excess energy and can distribute it outside their energy grid are positioned to realize a growth in revenues. 2

3 Interest Rate Utility companies are inversely effected by interest rates. This is because in order to finance large capital expenditures, utility companies must use debt and equity securities to acquire enough cash to do so. This makes them very sensitive to interest rates. Higher interest rates increase the cost of capital for utility companies. The 10 year US treasury yield is 2.32%, and the 30 year US treasury yield is 2.82% 23, these lower interest rates are very favorable for the utility industry, allowing them to take on more projects to expand infrastructure and generation capacity. When looking at how interest rates affect the value of the utility companies, it is important to look at other economic factors that affect interest rates. Inflation: When inflation is on the rise, lenders will demand higher interest rates to compensate for their decrease in purchasing power in the future. This increases the cost of capital for utility companies, affecting the value of the company. Bond rates: When bond rates are increasing, income seeking investors are more attracted to the bond market. Federal Funds Rate: When the Federal Bank decides to push expansionary monetary policy, the federal fund rate is driven down. This indirectly affects borrowing rates that banks are able to issue. Right now we are seeing a federal fund rate of 1.15% 23. This number has been intentionally lower compared to traditional rates in order to help boost the economy after the 2009 recession. We believe that interest rates will slowly start to rise as the Federal Bank raises the Federal Fund Rate. However, this will place a higher burden on utility companies to take on new projects. There is also potential for investors to start pulling their money out of utility equities due to the potential increase in interest rates. Due to the nature of the utility industry a lot of these companies pay an attractive dividend, which was a great alterative to bonds while interest rates were so low. As bond yields increase with interest rates, we may see demand for these companies decrease in equity markets. Industry Overview The electric utility industry is responsible for generating, transmitting and distributing electric energy. Electricity is what fuels all economic growth and expansion, making the utility industry vital to the economy. The electric utility industry consists of investor owned, cooperative and municipal companies. Investor owned utilities dominate the market, with a total market capitalization of $941 billion from the top 50 investor owned companies. This accounts for approximately 2/3rds of the customer base 24. The electric utilities industry requires an in-depth assessment as the industry is becoming increasingly diverse. The end product in the electric utility industry is electricity, however what 3 distinguishes companies is their mix of producing electricity. There is currently an industry trend for producing renewable energy through wind, solar and gas channels. The utility companies in the industry are developed companies and are in the mature phase. Given the maturity of the companies how their end-product drives the economy, this makes the utility industry a safe investment. Recent trends Green energy The electric utility industry is in the process of transitioning to clean, alternative energy that have less of a carbon footprint on the environment. These energy sources include solar, wind hydro and biomass. These trends are a result of increased environmental conscientiousness in society and government regulations. Companies in the utility sector are focusing their efforts and are raising capital to heavily invest renewable energy. The green energy production techniques are costly, but they will reduce the negative impact on the environment. The graph below shows the predicted growth levels of renewable electricity production through Source: Annual Energy Outlook 2014 Solar energy is expected to be the fastest renewable energy source, growing on average at 7.5% through The next fastest growing renewable energy source is wind energy, which will grow at 2% per year 26. To support these projected growth levels, companies will have to invest in their renewable production methods. These efforts to produce clean air are costly and will force companies to increase their capital expenditures in the future. The utility industry is highly regulated at the state and federal level. At the federal level, The Federal Energy Regulatory Commission (FREC) regulates utility companies. In 2011 the FREC issued order No which required companies to take into account the states renewable portfolio standards, which required companies to increase the percentage of renewable energy in their production portfolio. This order set the standard of the future production of electricity. By 2040, renewable energy will increase 1.9% annually from 502

4 billion kilowatt hours to 851 billion 27.The next trend in the utility industry set by the government came in 2015 with the Clean Power Plan (CPP). The goal of the program was to decrease carbon dioxide emissions by 32% by The Trump administration announced that the intent to abandon the CPP, yet no progress has been made to dismantle this plan. The companies in the utility industry have already increased their investments in clean power. Going forward we expect that the companies will continue producing renewable energy in the future. Financial Summary With a secured debt rating of A- (S&P Rating), steady dividend payout ratio (~58%), and fairly stable yearly revenues, POR is a safe and company for investors. Compared to the S&P 500, POR s returns underperform the market. Consumption A significant portion of electric consumption is related to economic activity. As the economy continues to grow the consumption of energy will grow along with it due to an increase of commercial and industrial use. With a fast-growing economy, the utility industry consumption will continue to grow. Since most individuals and companies use electricity, even during a slow growing economy there will still be consumption. Between 2016 and 2040 electricity consumption is expected to increase 5% 25. The predicted growth will benefit the utility industry by providing an increase in revenues in the future. Company Review General Information Overview and Business Description Portland General Electric (POR) is a regulated electric utility company based out of Portland, Oregon. PGE's operations consist of generating, wholesale purchase, distribution, transmission, and retail sale of electricity. POR has been approved to conduct business in 4,000 square miles across Oregon, providing electricity to 1.9 million people, and 863,000 retail customers. Source: Google Finance After looking through the returns from both POR and the S&P, it can be seen that POR hasn't always proved to be better than the market. However, the reason the returns are not as high as the market is because they are in the utility industry which usually exhibits slow growth (2-5%) 27. These companies offer services that are in high demand and have few competitors. Because of that they are regulated, constraining their growth below the market. Investors do not invest in a utility company to beat the market. A stable company like POR is a good for the portfolio because it mitigates risk that companies from other industries are exposed to, and utilities pay relatively high dividends compared to other sectors. For instance, if there is a big news event and many companies are affected negatively, POR will not react severely since people will still depend on their services. Products and Markets Product Line and New Products Generation, transmission, and distribution of electricity to residential, commercial, and industrial customers accounts for 90-95% of Portland General Electric s business. The other 5-10% comes from wholesale distribution of electricity. Portland General Electric offers electric power to their customers. In order to keep up with demand, POR both generates and purchases this electricity. POR has a diverse mix of resources utilized for generating electricity 11. Source: Portland General Electric Quick Facts 4

5 Production and Distribution Manufacturing Process and costs Portland General Electric (POR) either purchases their electricity from a third party or generates it on their own. Source: Portland General Electric. (2016) Annual Report Portland General Electric has reduced their coal sourced energy and replacing it with with natural gas which is considered a cleaner fossil fuel. 11 POR is bracing themselves for the impact of the Clean Power Plan that the Obama Administration passed and is pending legal disputes. It would require utility companies to reduce pounds of carbon dioxide emitted per MWh by 32 percent from 2005 by Oregon is also requiring companies to use 50 percent renewable sources of energy for generation by 2040 as part of the Integrated Resource Plan (IRP) 9. Market for the Company's Products POR services close to 46 percent of the population of Oregon. Their operations are based solely in Oregon, and their customers are made up of residential, commercial, and industrial accounts. See the graph below for breakdown of revues for each customer segment. Purchased Power Purchased power is when POR signs a short term or longterm contract with wholesale distributers to maintain a competitive mix. The forces affecting their suppliers are the same forces that effect their own generating, distribution and transmission operations. More favorable market conditions (lower fuel prices) and more favorable weather conditions (more wind producing more wind power) drive supplier prices down. 11 POR pays a premium for this power and fuel making it a higher cost option compared to generating their own power. This power comes from other utility companies in the area. They also purchase capacity space to sustain productivity through peak times. 11 In 2016, purchased power and fuel accounted for 40 percent of the retail load requirement and 32 percent of their revenues 11. However purchased power has decrease by nine percent since 2014 and is expected to continue to decrease with the additions of the new generating plants. Source: Portland General Electric. (2016) Annual Report Source: Portland General Electric. (2016) Annual Report According to the 2017 investor relations presentation; when comparing the costs per kilowatt hour, POR customers pay 2 cents less than the national average which is cents per KWh 6. On average, residential customers pay about cents per KWh, commercial customers pay 8.83 cents per KWh and, industrial customers pay about 5 cents per KWh. 11 The decrease can be partly attributed to an eight percent decline, or $51 million, related to the decrease in the average variable power cost per MWh to $28.50 in 2016 from $30.91 in While purchased power expense is decreasing it at a high rate we expect this to slow. Variable costs will not continue to be so low, however, the new generating plants of Carty and Tucannon Valley will allow them to be less dependent on purchased power Generation POR's electric generation capacity comes from sources in Oregon, Washington, and Montana regions. They provide capacity via natural gas/oil (1,805MW), coal (814MW), wind (717MW), and hydro (495MW). 11 5

6 significant amount of the company s generation to serve its distribution system. 11 The company s transmission and distribution systems are generally located on POR property, private property with grants from the record holder, and public areas including roads, forests, and government lands. 11 Suppliers and Raw Materials Portland General Electric's main suppliers are those that they purchase power from. As mentioned earlier, those come from a variety of energy generating projects. These contracts last anywhere from one month to 53 years with contracts expiring through Source: Portland General Electric. (2016) Annual Report During 2016, the Company s generating plants provided approximately 60 percent of its retail load requirement compared to 56 percent and 51 percent in 2015 and 2014, respectively. Through the addition of Carty in July 2016, and Tucannon River and PW2 in late 2014, POR has the ability to economically generate a greater portion of its total system load and reduce reliance on higher-cost purchased power. Generation expense accounts for 15 percent of revenues. In 2016, POR spent $286 million on generating activities. 11 Portland General Electric is shifting their cost mix towards more generation and less purchased power. They finished Carty in 2016 and the Tucannon River plant allowing them more capacity. These large investments guided our forecasts to increase generation and expense and reduce purchased power as a percent of sales. However we don t see purchased power reducing by much and may see in an increase in the long term forecast due to the inevitable rebound of variable fuel prices. Distribution POR uses transmission systems deliver energy from generating facilities to distribution systems for final delivery to customers. POR owns two types of electrical lines: Transmission lines, which are for carrying electricity longs distance and are typically seen along highways, and distribution lines which are used for delivering lower voltage electricity to consumers. POR's transmission system consisted delivered approximately 22 million megawatt hours (MWh) through 1,248 circuit miles of transmission lines in The Company also has 27,259 circuit miles of distribution lines that deliver electricity to its customers. 11 POR s transmission system is part the regional grid in the western United States called the Western Interconnection. POR relies on transmission contracts with Bonneville Power Administration (BPA) to transmit a 6 Short-term contracts are used to handle up-ticks in demand particularly very cold or very hot months. Between purchased power and generation, Portland General Electric uses to support their retail load requirement: 11 Thermal (Coal/Natural Gas) - 75% Hydroelectric 15% Wind 10% Competition Competitive Environment For the utility industry, there are very high barriers for entry. It takes substantial financing to build the infrastructure required for operations. Between building generating facilities as well as laying transmission and distribution lines, the barriers for entry are very high. Utility companies compete not only in operations but also in the US market. Comparative Analysis of Competition Since Portland General Electric serves Portland and surrounding counties, we first investigated companies in that specific areas. Utility companies don t tend to have a lot of geographic competitors due to high infrastructure costs. It is inefficient for counties to have multiple companies because one or two providers can service a city the size of Portland. Pacificorp (PPWRL) Pacificorp is an electric utility company owned by Berkshire Hathaway. Pacific Power is a subsidiary of Pacificorp. They service 1.8 million people and cover 143,000 square miles across six states including their headquartered state of Oregon. They serve only 12,869 retail customers in Oregon. 3 They are subject to the same regulatory agencies as POR and are part of the Western Interconnection. 2

7 Portland General Electric has a significant competitive advantage over Pacific Power. They serve 100,000 more customers in two percent of the service territory. This results in less line loss (power lost through transmission lines) for POR. Portland General Electric also serves 863,000 residential customers compared to Pacific Power s 12,869 customers. Residential customers offer the highest gross margin. Residential customers are charged 3 cents more on average per KWh than commercial customers and 7 cents more than industrial customers. We then researched companies that are similar in size and compete more so in the market than they do in operations. First Energy (FE) First Energy serves electricity to six million customers in the Midwest and Midatlantic regions. FE market cap is 15.05b and trades at $ First Energy uses coal to generate 55 percent of their electric. 13 This unsustainable source has become more and more regulated and the Clean Power Plan is set to require utility companies to decrease their emissions. This leads me to believe that First Energy will have to restructure in the upcoming years to satiate government regulation regarding their emissions output. POR has already begun this transition, and they started with lower coal sourced energy to begin with. PNM Resources (PNM) PNM is a New Mexico electric utility company. PNM trades at $43.80 and has market cap of 3.257B. The size and price of this company is very similar to Portland General Electric. PNM has about 500,000 residential customers compared POR which has about 752, POR sets themselves apart from PNM because of the growth of Oregon. Oregon ranked 10 th in the nation for growth while New Mexico ranks 40 th. 12 Not only does POR have more residential customers, who offer their highest gross margin, but they also have higher growth expected for their residential customer base. A common denominator with all these companies is that they are subject to the same rules and regulations as POR. Utility companies are given natural monopolies in exchange for heavy regulation. This keeps their pricing and rates at a competitive level with very little room for deviation. In general, POR serves a large customer base in a small space. They are shifting their costs to brace themselves for sustainable regulation as well as mitigating the risk of oil price increases. OTHER Government regulation Portland General Electric s operations are significantly impacted by federal, state and environmental regulations. Portland General Electric operates in a regulated utility state. The regulations affect where Portland General Electric can operate, how much they are able to charge customers, mergers and the sale of assets. 11 This may affect the growth of Portland General Electric as it limits their market share and potentially their profits. 7 Ratemaking process Utility companies must charge a rate that will cover all operating costs, depreciation expenses, taxes while providing a reasonable return for investors. In the unregulated market, companies can charge the required rate to cover the costs. However, in the regulated utilities, due to their monopolistic behavior, they must file a rate case with the state commission. Then, the state issues a verdict on the revenue requirement which is calculated in the fixed per-watt hour to determine the customer bill 27. Below is the calculation to determine base rates in the regulated market. Revenue Requirement rate = ROR (Rate Base) + Operating Expenses + Deprecation + Taxes At the state level, Portland General Electric is subject to the jurisdiction of the Oregon Public Utility Commission (OPUC). OPUC revises the company s generation and transmission resource acquisition plans and the integrated resource planning process. Portland General Electric s pricing and terms of service are under regulation of the OPUC. OPUC is required to ensure that pricing and terms of service are fair and allow companies the opportunity to receive a favorable return on their investments or pay dividends. Periodically, Portland General Electric assesses the need to change the price for electricity to cover operating costs to provide a fair return to investors. This is called a rate case. The suggested changes are to meet revenue requirements based on forecasted debt to equity capital structure, return on equity, and overall rate of return. The process is facilitated by OPUC. A rate case will be filed with OPUC in 2017 and prices are expected to be effective in January of As a public utility, the company is subject to many licensing regulations implemented by the Federal Energy Regulatory Commission (FREC) in matters related to wholesale energy activates, hydroelectric projects and accounting practices. The FREC is working towards passing the Clean Power Plan pending legal cases. This would require utility companies nationwide to reduce their emissions by 32 percent from 2005 levels by Oregon has also passed the Integrated Resource Plan forcing utility companies to use 50 percent renewables for their energy sourcing by POR is preparing for these changes by constructing new, sustainable plants. They will continue to increase their renewables and natural gas used in production and decrease the amount of coal used in production. Other regulatory agencies include the US Department of Transportation s Pipeline and Hazardous Materials Safety Administration (PHSMA) and the Nuclear Regulatory Commission (NRC). They have regulatory authority over certain parts of Portland General Electric s operating Activates. 11 Management

8 The CEO of POR, Jim Piro will retire at the end of 2017 with Maria Pope succeeding him on December 31 st 4. We have no reason to believe operations will change after Maria assumes her role. Investment Positives and Negatives Renewable Sources of Energy Portland General Electric is shifting their mix towards more renewable sources to meet government regulations as well as changes in public opinion regarding the environment. Their new generating facilities, Carty and Tucannon Valley, make them less reliable on purchased power to fulfill the retail load requirement. Fuel prices are expected to rise in the future, and they will be less sensitive to the increase. Commercial follows employment in Oregon Industrial follows economic growth in Oregon All are affected by weather (exceptionally cold/hot) days. To find total revenue per segment three variables are computed: number of customers, usage per customer, and revenue per customer. Revenue per customer is held to a certain level through government regulation at about 11.5 cents for residential customers, 8.8 cents for commercial customers, and 5.1 cents for industrial customers. Number of customers grows at a fairly constant rate in Oregon about 1.2% in recent years. Population Growth in Oregon Among the other operators in the Oregon area, they have the most customers over relatively small service area reducing transmission costs. The population growth in Oregon is expected to continue to steadily increase over the next five years by about 1.64 percent year-over-year. Dividend Payouts Electric Utility companies have a dividend payout ratio of 63 percent on average. 15 POR dividend payout in 2016 was $1.26 which was 58 percent of EPS. We expect this ratio to increase closer to the industry over the next few years. We believe POR was mostly retaining more earnings to help fund the construction of Carty and Tucannon Hydroelectric facility. These projects have ended and will most likely free up more earnings to payout to investors. Government Regulation Portland General Electric has already begun positioning themselves for future regulation by investing in more sustainable energy sourcing. On the national level, the Clean Power plan and at the state level, the Integrate Resource Plan. That being said, regulation hinders a utility companies growth, holding their prices relatively constant. They are not able to compete in the free market, but in exchange for this they are given a monopoly on their markets. Valuation Analysis Revenue Outlook Ninety to ninety-five percent of PORs revenues come from providing electricity to residential, commercial, and industrial customers in the Oregon area. Management tells the public the forces affecting each of these segments: Residential follows inflation 8 Source: World Population Review The most difficult variable to calculate is usage per customer. Residential and commercial customers are highly by affected by the weather. Hotter and colder days are better for business, however, it is hard to forecast weather a year or more in advance. To determine the usage growth, I found a total revenue growth number based on forces affecting each segment and used usage as a plug to reach that target total growth. Total revenue growth on the income statement was a weighted average of the three segments using the revenue mix that was discussed in the customer segment part of the report plus a real GDP growth geometric average since Forecasted COGS Portland General Electric has recently finished the construction of a natural gas-fired generating planed in Carty. This is one of the many signs that they are shifting their cost structure to more generating and less dependence on purchasing. However, we expect variable energy prices to increase in coming years causing purchased power expense to increase at a steady rate from prior years.

9 Relative Valuation We compared POR to other electric utility companies in the Northwest as well as across the United States. Our relative P/E value gave us prices of $49.99 in 2017 and $48.19 in We feel the prices are understated because our EPS is slightly more pessimistic in early forecasted periods than what analysts predict for other companies. The data we used for competitors comes from sell-side analyst reports who tend to be optimistic about earnings forecasts. Weighted Average Cost of Capital We calculated an average beta of POR by changing range and interval variables, which yielded.55. We used 2.85% for our risk free rate which is the YTM of a 30 year treasury, and expected market return of 4.65% from damodoran.com. Our Capital Asset Pricing Model yielded 5.41%. For the cost of debt, we used the rate of a 30 year bond listed on Bloomberg that had a YTM of 4.22%. POR s MV of debt is 4.44% while MV of Equity is 95.56% These rates and the marginal tax rate of 21.6% yielded a WACC of 5.314% Discounted Cash Flows/Economic Profit Models DCF and EP models yielded an adjusted stock price of $56.97 as of November 11, For CV growth, we used a rate of 2%. We expect POR to grow slower than inflation will grow. We expect this because of the high regulation of the utility industry. CV ROIC, we used a 5.48%. Historically, POR s ROIC has remained around 4-6%. We calculated CV ROIC from an average of forecasted ROIC numbers. Our CV ROIC number is greater than the WACC implying that an increase in invested capital will increase value for the firm. Dividend Discount Model Our DDM gave us a stock price of $ Our CV Growth of EPS was 3.2%. Our maximum potential growth rate is 5% (ROE*Retention Ratio), however, we decided to take a more conservative approach. We believe fuel price and increased regulation will inhibit them from realizing their full potential. Our CV ROE was 8.87% which was derived from the average ROE in the forecasted periods. DDM is a good model for valuating Portland General Electric stock price because it POR issues dividends every quarter. It closely resembles the DCF and EP models. 9 Our PEG Value yield prices of $50.88 and $49.07 for 2017 and 2018, respectively. Though slightly understated, we believe these offer fair valuations in comparison to our DDM, DCF, and EP. Our forecasted five year growth is right along the average compared to competitors growth. Both of the relative valuation models are close to the current stock prices of $48.28 leading us believe they are reliable indicators and stick with our recommendation of HOLD. Sensitivity Analysis The sensitivity analysis tables show the variability of the stock price for the Economic Profit, Discounted Cash Flow and Dividend Discount Model based off of the inputs. WACC Sensitivity Analysis The intrinsic value of the stock in the Economic Profit and the Discounted Cash Flow model will be very sensitive to WACC. WACC must be less than the CV ROIC in order for the company to generate a profit in the future. A slight change in the WACC will have a great impact on the value of the stock, for this reason it is important to test the WACC based off changes in its inputs. WACC is a function of the cost of debt and cost of equity. Changes in beta will have an impact on the cost of equity, which will in turn affect WACC. When the Rate of Debt is held constant, and beta increase by.05, WACC decrease on average by.22%. We found the WACC values to use values the EP and DCF sensitivity analysis based off the WACC sensitivity test, which are highlighted on the table. How the changes in WACC affect the EP and DCF model are discusses later. DCF and EP Sensitivity Analysis In both the Discounted Cash Flow Model and the Economic Profit Model, WACC affects the intrinsic value greatly. The other values in the DCF and EP models that have an impact on intrinsic value are ROIC and the growth rate. To show the relationship between the stock price and changes in WACC and growth values, we ran a sensitivity analysis on the two variables. The sensitivity analysis with the Growth rate and the WACC shows that when WACC is constant and growth increases, the intrinsic value increases. This is because an increase in growth decreases the impact of WACC when finding the intrinsic value. However, when the CV growth rate

10 is held constant and WACC increases the value of the stock decreases because it increases the impact of the discount value. The change in WACC had a larger impact on the firm s value. As WACC increased, the average decrease in the stock price was $2.40 with CV growth held constant at 2%. The highlighted variables are within our predicted range. For the sensitivity test analyzing the effect of ROIC, we notice that as ROIC is held constant and WACC is increased, it decreases the value of the stock. When we hold WACC constant and increase ROIC, the intrinsic value increases. This is consistent with the growth sensitivity analysis. When we increase growth and ROIC we are adding value to the firm which increases the value of the stock. Similar to the growth sensitivity analysis, changing WACC has the greatest impact on the firm value. As ROIC is held constant at 5.48%, the average decrease in share price is $5.61. The highlighted variables are within our predicted range. DDM Sensitivity analysis We did a sensitivity analysis on the cash flows distributed to the shareholders. Two factors affecting the Dividend Discount Model are the growth of the dividend and the cost of equity. When cost of equity is held constant and the growth increases, the intrinsic value increases. This is because the value of the dividends is growing more when growth rate is increased, while it is being discounted by the same discount rate. When growth is held constant and the cost of equity increases, the value of the stock decreases. This is because the dividends are discounted by a larger rate. Since the growth rate of the dividend is subject to change, it is important to look at how the changes in growth rate affect the stock price. With the cost of equity held constant at 5.41%, the average change was $2.34 as the CV growth increased.1%. 10

11 11

12 Important Disclaimer This report was created by students enrolled in the Security Analysis (6F:112) class at the University of Iowa. The report was originally created to offer an internal investment recommendation for the University of Iowa Krause Fund and its advisory board. The report also provides potential employers and other interested parties an example of the students skills, knowledge and abilities. Members of the Krause Fund are not registered investment advisors, brokers or officially licensed financial professionals. The investment advice contained in this report does not represent an offer or solicitation to buy or sell any of the securities mentioned. Unless otherwise noted, facts and figures included in this report are from publicly available sources. This report is not a complete compilation of data, and its accuracy is not guaranteed. From time to time, the University of Iowa, its faculty, staff, students, or the Krause Fund may hold a financial interest in the companies mentioned in this report. 12

13 End Note 2 Berkshire Hathaway Energy Corporation. (2016). Annual Press Release. Retrieved from s/upload/financial- filing/bhe% %20form%2010-k_final- 1.pdf 4 Maria Pope Will Succeed Piro as CEO of Integrated Resource Plan. November Executive Summary, Nov Portland General Electric. Pardon Our Interruption, Electric Light and Power, 22 Aug. 2017, Light-Power-Newsletter/articles/2017/08/maria-popewill-succeed-piro-as-ceo-of-portland-generalelectric.html. 6 May 2017 Investor Presentation. 15 May 2017, investors.portlandgeneral.com/eventdetail.cfm? 9 PGE files Integrated Resource Plan with Public Utility Commission. company/news-room/news-releases/2016/ pge-files-irp-with-puc 10 Portland General Electric Company (POR) Analyst Research. NASDAQ.com, Nasdaq, 11 Portland General Electric. (2016) Annual Report. Retrieved from x0x932661/1B DB F2A72A2/2016_Annual_Report.pdf 12 QuickFacts. (n.d.). Retrieved November 13, 2017, from First Energy. (2016) Annual Report. Retrieved from vestor/files/annualreports/2012/2012%20firstenergy%20annual%20r eport.pdf 14 PNM Resources. (2016) Annual Report. Retrieved from al-information/annual-reports.aspx 15 Electric Utilities Industry Dividend Information and Trends, Dividend Payout Ratio, Dividend Growth, EPS Growth - CSIMarket. (n.d.). Retrieved from hp?ind= Quick Facts - PGE at a Glance PGE. (n.d.). Retrieved from 17 Portland General Electric Company. (n.d.). Retrieved November 13, 2017, from WumzG4KHjAG7lK74Cw 18 Oregon Population 2017 (Demographics, Maps, Graphs). (2017, October 20). Retrieved from 19 Phillips, M. (2014, October 27). Why Electricity Demand is Linked to GDP. Retrieved from 20 U.S. electricity consumption 2016 Statistic. Retrieved November 13, 2017, from 21 Amadeo, K. (n.d.). The Strange Ups and Downs of the U.S. Economy Since Retrieved November 13, 2017, from 22 GDP Increases in the Third Quarter. (2017, October 27). Retrieved from 23 Effective Federal Funds Rate. (n.d.). Retrieved November 13, 2017, from Financial Report. Annual Report of the US Investor Owned Electric Utility Industry, Edison Electric Institute, Annual Energy Outlook (2017). US Energy Information Administration. 26 Annual Energy Outlook (2014). US Energy Information Administration. 27 Zhao, F. (2016, November). Electrify Stock Returns in U.S. Utilities. Retrieved November 13, 2017, from Industry Specific Alpha Series 13

14 Portland General Electric Revenue Decomposition Fiscal Years Ending Dec E 2018E 2019E 2020E 2021E Residential Revenue per customer (in dollars): $ 1,154 $ 1,139 $ 1,114 $ 1,131 $ 1,146 $ 1,151 $ 1,153 $ 1,154 Average Number of Customers 735, , , , , , , ,057 Growth 0.96% 0.95% 1.33% 0.88% 0.88% 0.88% 0.88% 0.88% Usage per customer (in kilowatt hours): 10,145 9,866 9,766 9, , , , , Growth -4.04% -2.75% -1.01% 1.42% 1.12% 0.22% -0.08% -0.08% Revenue per kilowatt hour (in cents): Growth 8.70% 1.58% -1.30% 0.20% 0.20% 0.20% 0.20% 0.20% Total Residential Revenue 848,391, ,058, ,626, ,710, ,720, ,167, ,067, ,055,888 Y/Y Growth 5.62% -0.22% -0.98% 2.50% 2.20% 1.30% 1.00% 1.00% Commercial Revenue per customer (in dollars): $ 6,187 $ 6,254 $ 6,166 $ 6,276 $ 6,406 $ 6,488 $ 6,512 $ 6,529 Average Number of Customers 105, , , , , , , , Growth 0.81% 0.54% 0.92% 0.73% 0.73% 0.73% 0.73% 0.73% Usage per customer (in kilowatt hours): 71,216 70,987 69,839 70, , , , , Growth -0.10% -0.32% -1.62% 1.57% 1.87% 1.07% 0.17% 0.07% Revenue per kilowatt hour (in cents): Growth 6.11% 1.38% 0.23% 0.20% 0.20% 0.20% 0.20% 0.20% Total Commercial Revenue 651,064, ,685, ,362, ,013, ,040, ,000, ,810, ,983,750 Y/Y Growth 6.80% 1.63% -0.50% 2.50% 2.80% 2.00% 1.10% 1.00% Industrial Revenue per customer (in dollars): $ 851,149 $ 876,866 $ 804,953 $ 852,438 $ 893,267 $ 940,566 $ 980,862 $ 1,008,012 Average Number of Customers Growth -1.14% -1.92% 1.18% 0.25% 0.25% 0.25% 0.25% 0.25% Usage per customer (in kilowatt hours): 16,576,500 17,485,281 16,146,371 16,900, ,520, ,251, ,829, ,144, Growth 1.96% 5.48% -7.66% 4.67% 3.67% 4.17% 3.17% 1.67% Revenue per kilowatt hour (in cents): Growth 5.99% -2.34% -0.40% 1.08% 1.08% 1.08% 1.08% 1.08% Total Industrial Revenue 221,298, ,600, ,677, ,478, ,616, ,490, ,602, ,334,337 Y/Y Growth -7.00% -1.04% 7.12% 6.00% 5.00% 5.50% 4.50% 3.00%

15 Portland General Electric Income Statement in Millions Fiscal Years Ending Dec E 2018E 2019E 2020E 2021E Revenues, net $ 1,900 $ 1,898 $ 1,923 $ 2,039 $ 2,159 $ 2,270 $ 2,374 $ 2,477 Operating expenses: Purchased power and fuel Generation, transmission and distribution Cascade Crossing transmission project Administrative and other Depreciation and amortization Taxes other than income taxes Total operating expenses 1,607 1,589 1,590 1,680 1,781 1,863 1,932 2,002 Income from operations Interest expense, net Other income: Allowance for equity funds used during constructio Miscellaneous income, net Other income, net Income before income taxes Income tax expense Net income Attributable to PGE $ 174 $ 172 $ Weighted-average shares outstanding (in thousands): Basic 78,180 84,180 88,896 89,050 89,204 89,358 89,512 89,666 Basic EPS $ 2.24 $ 2.05 $ Dividends declared per common share $ 1.12 $ 1.18 $ Dividends Paid $ 87,171 $ 99,332 $ 112,009 $ 113,984 $ 115,965 $ 116,165 $ 123,527 $ 125,532

16 Portland General Electric Balance Sheet in Millions Fiscal Years Ending Dec E 2018E 2019E 2020E 2021E ASSETS Current assets: Cash and cash equivalents $ 127 $ 4 $ 6 $ 10 $ 56 $ 659 $ 623 $ 1,100 Accounts receivable, net Unbilled revenues Inventory Regulatory Assets - Current Prepaid Expenses Margin Deposits Assets from Price Risk Management Activity Other current assets Total current assets ,188 1,174 1,673 Electric utility plant, gross 8,578 9,105 9,747 10,357 10,784 11,078 11,378 11,668 Accumulated depreciation and amortization (2,899) (3,093) (3,313) (3,659) (4,018) (4,382) (4,741) (5,098) Electric utility plant, net 5,679 6,012 6,434 6,698 6,766 6,696 6,637 6,570 Price Risk Management Pension and Post Retirement Debt Issuance Costs Other Regulatory assets Nuclear decommissioning trust Non-qualified benefit plan trust Other noncurrent assets Total assets $ 6,923 $ 7,124 $ 7,441 $ 7,744 $ 7,896 $ 8,466 $ 8,406 $ 8,852 LIABILITIES AND EQUITY Current liabilities: Accounts payable $ 156 $ 98 $ 129 $ 138 $ 146 $ 154 $ 161 $ 168 Liabilities from price risk management activities - current Short-term debt Current portion of long-term debt Regulatory Liabilities Accrued expenses Dividends Payable Other Total current liabilities Long-term debt, net of current portion 2,126 2,060 2,200 2,305 2,398 2,430 2,420 2,413 Regulatory Liabilities ,004 1,027 1,052 1,076 Deferred income taxes - net Unfunded status of pension and postretirement plans Liabilities from price risk management activities - noncurrent Asset retirement obligations Non-qualified benefit plan liabilities Other noncurrent liabilities Total liabilities $ 5,012 $ 4,866 $ 5,097 $ 5,312 $ 5,372 $ 5,825 $ 5,639 $ 5,923 Commitments and contingencies (see notes) Equity: Common stock (Shares Outstanding 88,946,704 ) 918 $ 1,196 $ 1, Accumulated other comprehensive loss (7) Retained earnings 1,000 1,070 1,150 1,231 1,315 1,424 1,540 1,693 Total Portland General Electric Company shareholders' equity 1,911 2,258 2, Total liabilities and equity $ 6,923 $ 7,124 $ 7,441 7,744 7,896 8,466 8,406 8,852

17 Portland General Electric Cash Flow Statement in Millions Fiscal Years Ending Dec E 2018E 2019E 2020E 2021E Cash from Operating Activities: Net Income Depreciation and Amortization Change in net liabilities from price risk management activity Change in Prepaid Expense 3 (3) (2) (2) (2) - Change in Margin Deposits (8) (1) (1) (1) (1) +Other Current Liabilities (1) Change in Other current assets (6) (1) (0) (0) (0) +Change in Deferred income taxes Change in Unfunded status of pension and postretirement plans Change in Non-qualified benefit plan liabilities Change in Accounts receivable, net (10) (10) (9) (8) (8) -Change in Unbilled revenues (2) (6) (6) (6) (6) -Change in Inventory 3 (5) (4) (4) (4) +Change in Accounts payable Change in Accrued expenses Change in Other noncurrent assets (1) (1) (1) (1) (1) +Change in Other noncurrent liabilities (52) Change in Non-qualified benefit plan trust (1) (1) (1) (1) (1) -Nuclear decommissioning trust (1) (1) (1) (1) (1) Net Cash from Operating Activities Cash from Investing Activities: +Change in Asset retirement obligations Capital Expenditures (610) (427) (294) (300) (290) Net Cash from Investing Activities (605) (422) (289) (295) (285) Cash From Financing Activities Decrease (Increase) in Long-term debt, net 105 (57) 333 (310) 153 -Change Assets from Price Risk Management Activities (2) (2) (2) (2) (2) Change in Regulatory assets, current (0) (0) (0) (1) (1) Pension and Post Retirement (7) (7) (7) (7) (7) Debt Issuance Costs (1) Other Regulatory assets (1) (1) (1) (1) (1) Decrease (Increase) Regulatory liabilities, net Proceeds from issuances of common stock, net of issuance costs Dividends Payable? Dividends Paid (114) (116) (116) (124) (126) Net Cash from Financing Activities 11 (151) 239 (408) 52 Increase (decrease) in cash and cash equivalents (36) 477 Cash at Beginning of Period Cash at End of Period ,100

18 Portland General Electric Common Size Income Statement in Millions Fiscal Years Ending Dec E 2018E 2019E 2020E 2021E Revenues, net % % % % % % % % Operating expenses: Purchased power and fuel 37.53% 34.83% 32.09% 31.00% 31.00% 31.00% 31.00% 31.00% Generation, transmission and distribution 13.53% 14.01% 14.87% 15.37% 15.87% 16.37% 16.87% 17.37% Cascade Crossing transmission project 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Administrative and other 11.95% 12.70% 12.84% 12.26% 12.26% 12.26% 12.26% 12.26% Depreciation and amortization 15.84% 16.07% 16.69% 16.94% 16.66% 16.00% 15.15% 14.39% Taxes other than income taxes 5.74% 6.11% 6.19% 6.80% 6.69% 6.43% 6.08% 5.78% Total operating expenses 84.58% 83.72% 82.68% 82.38% 82.49% 82.07% 81.36% 80.80% Income from operations 15.42% 16.28% 17.32% 17.62% 17.51% 17.93% 18.64% 19.20% Interest expense, net 5.05% 6.01% 5.82% 5.76% 5.69% 5.28% 5.75% 4.89% Other income: Allowance for equity funds used during constru 1.95% 1.11% 1.09% 0.34% 0.00% 0.00% 0.00% 0.00% Miscellaneous income, net 0.05% 0.05% 0.05% 0.00% 0.00% 0.00% 0.00% 0.00% Other income, net 2.00% 1.16% 1.14% 0.34% 0.00% 0.00% 0.00% 0.00% Income before income taxes 12.37% 11.43% 12.64% 12.20% 11.82% 12.65% 12.89% 14.31% Income tax expense 3.21% 2.37% 2.60% 2.63% 2.55% 2.73% 2.78% 3.09% Net income Attributable to PGE 9.16% 9.06% 10.04% 9.56% 9.27% 9.92% 10.10% 11.22%