Enel Chile: The Case For Dividends Persists, But Watch Closely

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Enel Chile offers attractive dividends, with a current yield of 8.7%, making it a compelling choice for income-focused investors despite recent share underperformance.The company's quasi-monopoly in ...

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Enel Chile has, through its subsidiary Enel Distribución Chile, distribution concessions of indefinite duration that allow it to supply energy in spec","collect":0,"end_time":0,"defaultTopTitle":"seekingalpha.com","property":[],"viewcount":null,"language":"en","relate_stocks":{"ENIC":"Enersis Chile S.A.","BK4081":"电力公用事业"},"translate_title":"Enel Chile：股息的理由依然存在，但请密切关注","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"ENIC":0.9},"content_text":"Enel Chile offers attractive dividends, with a current yield of 8.7%, making it a compelling choice for income-focused investors despite recent share underperformance.The company's quasi-monopoly in Chile faces political risks, including potential concession loss, which could significantly impact its financial stability and dividend reliability.Enel Chile's balance sheet shows high leverage and exposure to FX volatility, but its fixed-rate debt and strategic investments offer some stability.Despite political and financial risks, Enel Chile's de-risked valuation and strong dividend potential make it an appealing option for dividend investors.   CorbalanStudio  The Investment Case for Enel Chile Enel Chile (NYSE:ENIC) is a subsidiary of the Italian utility company Enel SpA (OTCPK:ENLAY), which operates in South America through the generation, transmission, and distribution of electricity. Arguably, many investors are attracted to this Chilean utility company because of the high dividends it has paid over the past few years. Enel Chile has had an average dividend yield of 7.9% over the last four years and currently has a yield of 8.7%. Seeking Alpha I particularly like utility companies that are subsidiary income picks because of the commitment they have to their controlling shareholder. In the case of Enel Chile, around 65% of the company's shares belong to Italy's Enel SpA, as does 57% of the company's board of directors. Enel SpA, therefore, has a strong interest in Enel Chile (and its other subsidiaries), earning a good yield to inject into its cash flows. However, as I mentioned in my previous coverage of Enel Chile over a year ago, since 2023, the company has been in the final stages of integrating its renewable energy plan. This involves expanding its portfolio, maintaining its balance sheet at optimal levels, and gradually reducing capital expenditures (CapEx). Although this involves being more frugal to reduce costs and keep operations running smoothly, Enel Chile has provided guidance promising to increase the progressive payout to more than 50% over the next two years, making the company well-positioned to be a reliable income stock for a dividend-focused portfolio. However, since the end of last year, when Enel Chile's shares reached $3.5 per share, they have already fallen by around 20%, putting investors who bought the stock on the basis of dividends under serious doubt. Data by YCharts To try to better explain what's behind this underperformance, I'm updating the thesis based on recent events, a deeper look at Enel's indebtedness, and how secure future dividends are. Is Enel Chile's Concession at Risk? First of all, I believe that in recent months, Enel Chile has had its performance affected due to the reliability of its quasi-monopoly model being questioned in its country of operation. Enel Chile has, through its subsidiary Enel Distribución Chile, distribution concessions of indefinite duration that allow it to supply energy in specific urban areas, mainly in the Santiago Metropolitan Region. This model, however, follows certain rules such as (1) regional exclusivity, where only Enel Distribución Chile is authorized to supply electricity, which creates a kind of natural monopoly; (2) tariff regulation, The Chilean government, through the National Energy Commission (CNE), regulates distribution tariffs. Tariffs are reviewed every four years, based on operating costs and investments needed to improve the electricity infrastructure and guarantee the quality of the service; (3) quality targets, where the Superintendence of Electricity and Fuels (SEC) imposes quality and continuity of service targets. Enel Chile must meet these targets. The big problem at the moment is that the company has been threatened by the Chilean government with an end to this concession. In August, around 60,000 residents of the Santiago metropolitan area were left without electricity for more than a week, facing major disruption. In Chile, Enel Chile has faced strong criticism from the government and the population. The company has become the target of attacks from Chilean President Gabriel Boric and has been poorly rated in opinion polls. It's worth noting that Boric belongs to a left-wing party and advocates for the nationalization of certain industries. The company's situation in Chile worsened after a landmark court ruling in Santiago, which ordered Enel to pay compensation of 8 billion pesos (around $10 million) to 127,000 customers affected by a blackout in 2021. In August, the Chilean Superintendence of Electricity fined the company 4 billion pesos (around $5 million) for failures in power distribution after heavy rains in May. The agency criticized Enel for providing incorrect information during the crisis. Although these fines are not relevant from a monetary point of view, these issues culminated in incisive statements from President Boric, who suggested reviewing Enel's monopoly in the electricity sector. Boric called the company's actions “seriously inefficient,” affecting Santiago and five other major regions of the country. The government has even discussed the idea of nationalizing part of the energy sector, although this has already been discarded following internal opposition. It also comes at a delicate time that Enel Chile is increasing tariffs, with the approval of PEC 3, which is expected to remove benefits adopted during COVID-19 to alleviate basic costs for the population. While this is not so great news for the Chilean households, this is excellent news for Enel Chile as there is already an accounts receivable related to the PEC net of factoring of $904 million, making the company project that by the end of 2024, the accounts receivable net of factoring should range between $350 million to $450 million. Despite external pressures, to keep the concession, Enel Chile needs to maintain infrastructure investment, which involves constant maintenance to ensure a reliable supply. It is also necessary to expand distribution capacity as urban demand advances. The Chilean government could initiate the preliminary phase of the administrative process, which may lead to the expiration of the concession and would be catastrophic for the company's operations. But at the moment, the outcome is still highly speculative. The Weak Spot: Balance Sheet In my view, part of the reason Enel Chile's shares have underperformed over the past year ties directly back to its balance sheet. The first point is that Enel Chile has a strong leverage profile, with EBITDA leverage in the last twelve months at 3.5x. According to a report by Fitch, which rates Enel Chile as BBB+, the company is projected to converge to 3x by 2026. By the first half of the year, Enel Chile had increased its gross debt by 8% to $4.75 billion. However, Enel Chile mentions that this is primarily due to working capital and CapEx needs, which could be strategic investments in growth, where PEC could help reverse this trend towards H2 as well as the seasonality of the business. Another worrying point was that the average debt maturity decreases to 5.9 years, meaning that Enel Chile may face debt payments sooner, which could pressure its cash flow if not offset by cash inflows. In fact, this is a key point considering that the company's renewable expansion is expected to impact cash flows in the medium term, with free cash flow likely turning negative over the next two years. Enel Chile's IR Perhaps the better news is that Enel Chile's net debt is largely (76%) linked to fixed rates, offering more predictable debt servicing costs, currently at 5% (although higher than the 4.9% at the end of 2023). However, another important point for Enel Chile is the exchange rate (FX) volatility, which can significantly impact its financial performance because the company's revenue and expenses, as well as its debt obligations, are often in different currencies. Since Enel Chile's Power Purchase Agreements (PPAs) and some revenue streams are denominated in U.S. dollars while its operating costs and other expenses are in Chilean pesos, fluctuations in the Chilean peso-U.S. dollar exchange rate affect the company's cash flow and debt service capacity, even though the company has cross-currency swaps of $231 million and forward contracts of $736 million for hedging FX (totaling about 20% of net debt). For instance, this year, the U.S. dollar has appreciated by more than 8% against the Chilean peso. Google Finance When we look at liquidity, Enel Chile is stable, although a little tight. The quick ratio sits at 1.04, which, being above 1, suggests that Enel Chile has enough near-cash assets to meet immediate liabilities. The quick ratio, being slightly lower than the current ratio at 1.16, signals that inventory represents a small portion of current assets, typical for utility companies with steady cash flows. What Really Matters: Dividends But after all, considering that Enel Chile is underperforming throughout 2024 and still paying a dividend yield of close to 9%, is the income-based investment thesis worth it? In my opinion, yes. Well, in my previous article, adapting conservative assumptions, I had forecasted based on the guidance provided by Enel Chile, where I expected for 2024 an adjusted net income of between $0.5 billion and a minimum payout of 50%, with a dividend yield of 6.7% based on the stock price of $3.02. Considering that Enel Chile is expected to deliver figures well above its high-end guidance of 2024 ($0.7 billion), with EPS projections expected to increase by 17% this year, the yield now goes up to 9%, very close to what the company is delivering today. According to the company's most up-to-date strategic plan, the guidance is for net income to reach $0.4-0.6 billion by 2026, maintaining the same 50% minimum payout. If no shares are repurchased during this period, it is likely to yield in a conservative scenario between 4.9% and 7.2%. If a similar 80% payout is paid as in 2023, the yield could be between 7.75% and 11.63% in 2026. Enel Chile's IR Considering that Enel Chile operates in the utility sector and has a low beta of 0.49 (two years), Chile's total equity risk premium of 5.4%, and the company's low 5% cost of debt, it is reasonable to assume a cost of capital (WACC) ranging from 6% to 8%. In other words, If Enel Chile's dividend yield is projected to range between 7% and 11% for the next two years at least (which seems realistic to me), and the WACC is between 6% and 8%, this is quite compelling and suggests that the company generates sufficient returns to cover its costs while providing a meaningful yield to investors. The Risks As Enel Chile has underperformed this year while still yielding attractive dividends for now and likely for the near future, this depends a lot on the company's ability to fulfill its guidance. For that, the execution of its strategic plan needs to be flawless, and it also needs to rely on synergy with Chile's regulatory bodies, especially on the issue of tariff regulation, to alleviate its indebtedness. Climate risks could harm operations, likely weighing on the bottom line and limiting the distribution of dividends. In addition, although the political risk has manifested itself to some extent at Enel Chile in recent months, this, I believe, tends to be a more short-term noise. However, anything involving the loss of the concession would be extremely serious for Enel Chile, directly impacting the financial results of its strategic plan. The possibility of this happening certainly puts the confidence of income-oriented investors in check, considering that the strongest point of the investment thesis in utility companies like Enel Chile is precisely their predictability of results. Final Remarks Although the investment thesis based on dividends seems attractive and relatively safe for Enel Chile, it is always complicated to quantify when issues of government political pressure can impact the investment thesis. Part of the security and reliability of the dividends is due to the company owning the largest concessions in Chile, which allows it to generate robust cash flows. Any uncertainty about these concessions should give the markets mixed feelings. In addition, its leveraged balance sheet remains a delicate point in the investment thesis, with a total debt-to-equity ratio of 92%, the company finances its operations using nearly as much debt as equity. The company tends to suffer more in times of appreciation of the U.S. dollar against the local currency as a huge part of its debt is unhedged against FX fluctuations, and its revenues are generated in the local currency. However, trading at a forward EV/EBITDA of 6.3x—almost half the industry average—the valuation is significantly de-risked. That said, investors should be aware that Enel Chile, operating in a market subject to political risk and under a concession model, is very unlikely to trade at multiples similar to peers in the U.S. With that in mind, I want to reiterate that Enel Chile remains dedicated to distributing strong dividends, likely exceeding its cost of capital. Following this year’s underperformance, I believe the company still represents an excellent choice for dividend investors, especially given its relatively de-risked valuation multiples.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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