You won’t read about Vectren in the headlines.

But for more than 50 years in a row, Vectren has quietly paid and raised its dividend. It’s a feat that’s been done by just 21 other companies publicly traded in the U.S.

Vectren is a utility company, and utility companies are often attractive to investors living off dividends in retirement. Their dependable earnings and defensive strategies mean their dividend payments are typically very safe.

But one downside of utility companies is their slow growth. Vectren’s growth, however, has accelerated as of late.

Let’s see if Vectren’s stellar track record of dividend payments and its growth potential makes it a candidate for our Conservative Retirees Portfolio.

Business Overview

Formed in 1999 as the merger of two Indiana utility companies (one of whose roots date back to 1912), Vectren serves natural gas and electricity to customers in central and southern Indiana as well as Ohio.

Vectren

Source: Vectren

Vectren’s customers in these areas are a healthy mix of residents, businesses, and industrial complexes. In its core natural gas business, 67% of 2015 revenue was from residential customers, 23% from commercial customers, and 10% from industrial customers.

Like all utility companies in the United States, Vectren is regulated by the public utility commissions (PUC) of the states in which it operates. These commissions set the prices utility companies can charge.

Vectren also runs a non-regulated business that provides pipeline construction and repair services to other utility companies and, to a lesser extent, energy contracting for large institutions like universities.

These unregulated, non-utility services account for about 20% of Vectren’s business each year.

Vectren

Source: Vectren

Business Analysis

“Location, location, location” is the mantra for most businesses. But for utility companies like Vectren, it’s “regulation, regulation, regulation.”

Enormous investments in infrastructure like generating stations and power lines are required to provide energy to people. As a result, competition in the industry is scarce, and were it not for regulation, utility companies would be able to charge exorbitant rates.

Thus begins the dance between regulators and utility companies. Regulators see to it that utility companies charge reasonable rates while also granting them the right to earn a profit.

This relationship between a utility company and its regulators is paramount. If poorly regulated, a utility company can fail. Pacific Gas & Electric, for example, declared bankruptcy in 2001 after California regulators refused a rate increase to compensate for soaring energy costs.

Thankfully for Vectren and its investors, the company has enjoyed a long history of favorable relations with regulators in Indiana and Ohio.

Most recently, Indiana approved Vectren’s 7-year gas infrastructure plan. Investments like these drive growth for utility companies, whose permitted revenues are tied to their “rate base”, or the value of their infrastructure. The higher Vectren’s rate base, the more revenue the company is afforded.

Vectren expects a 5–6% annual growth in their rate base over the next four years as a result of regulator-approved investments in infrastructure.

Vectren

Source: Vectren

Regulators have also approved a pricing formula that includes adjustments for weather (warm winters beget less demand for energy) and the cost of natural gas and fuel, two factors that would otherwise cause uncertainty in Vectren’s profitability.

With the cost of living already below the national average in both Indiana and Ohio, there’s little reason to think that regulators in the two states will turn hostile towards Vectren and squeeze their profits.

But despite the friendly regulatory environment, Vectren’s utility business, like most utility businesses, grows slowly.

To grow faster, the company runs two non-regulated, non-utility businesses that promise higher profit margins: infrastructure construction and energy contracting.

Through its infrastructure construction business, Vectren sells pipeline construction and repair services to other utility companies. These days, demand is high as states across the country work to replace their aging gas infrastructure.

Vectren

Source: Vectren

Vectren also does a wide-range of projects for large institutions through its energy contracting business. For example, the company recently won a contract to build a power plant at NASA’s headquarters.

Although the energy contracting business accounts for only a small fraction of total revenue, the company’s backlog of energy contracts has picked up significantly in recent years.

Vectren

Source: Vectren

All said, Vectren’s blend of utility and non-utility business, along with favorable oversight by regulators, has meant the company has been more profitable than that of its peers in recent years. Vectren’s 5-year average annual return on equity sits at 10.2%, whereas popular utilities Consolidated Edison and Duke Energy have averaged 9.2% and 6% over the same period, respectively.

Key Risks

There’s little to be said about the stability of Vectren’s utility business. As a regulated monopoly, it has few competitors and enjoys undisturbed profits year in and year out.

What’s less certain, though, is whether Vectren can meet expectations to sustain its recent high rate of growth. If it can’t, the stock will likely disappoint.

Like all businesses, Vectren makes more money when the company sells to more customers. Vectren’s customers are the populations of Indiana and Ohio, both of which are forecasted to slow in growth.

Vectren

Indiana’s rate of growth is forecasted to slow substantially over the next few decades.

Vectren

Ohio’s population has all but flattened in recent years. (Source: Greater Ohio, U.S. Census Bureau)

Indiana’s rate of growth will slow substantially over the next few decades.

Decelerating population growth in Vectren’s service areas won’t likely impact the company in the short-term, but it may eventually put the brakes on the company’s current trend of higher growth.

Another obstacle to growth is energy efficiency. New lightbulbs, energy-efficient appliances, and other innovations may curtail the average person’s use of electricity.

In fact, the Energy Information Administration (a U.S. federal agency) projects that electricity use in U.S. households will rise 0.7% per year through 2040, a far cry from the 8% annual growth seen in past decades.

Another risk to consider is that Vectren’s non-utility business accounts for 20% of revenue, a larger percentage of sales than the non-utility businesses of most other utility companies we’ve researched.

This unregulated, non-utility business is competitive and cyclical, leaving Vectren more—though not much more—vulnerable to recession than some utility companies.

Finally, no analysis of a utility company these days is complete without a discussion on the implications of rising interest rates, a trend that may begin after years of a Federal Fund Rate close to 0%.

If interest rates rise, bond yields will follow. Since utility stocks are often viewed as bond alternatives because of their high dividend yields and stability, investors may choose to sell their shares of utility companies and instead invest in bonds.

Share prices will naturally fall if investors lose their appetite for utility stocks. In the extreme case, investors of utility companies may witness flat or declining share prices, as they did during the 1970s when interest rates were on the rise.

Vectren

Source: Berkeley Lab (https://emp.lbl.gov/sites/all/files/lbnl-1003952.pdf)

In sum, while there are few obstacles to

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