Southern Company (SO 0.36%) just did something rare in the U.S. electricity market: It brought a large-scale nuclear power plant on line. It was the first time that has been done in over three decades. And the utility is about to do it again, in early 2024, when it attaches a second nuclear power plant to the grid. This is a huge event for investors looking at Southern, but there's a bigger story here that needs to be discussed before you buy the stock.
Southern's nuclear success was hard won
To say that Southern opening up Vogtle 3 and Vogtle 4, the two nuclear power plants it is building, is a big deal is an understatement. That's only partly because of the 30-plus year pause in the construction of new nuclear power plants in the United States. The other reason is that the path to achieving this was rocky at best.
Image source: Getty Images.
Not only did the project face massive cost overruns, but it was also long delayed. At one point the company's primary contractor (Westinghouse) declared bankruptcy, effectively forcing Southern to take on that role. Then add in a global pandemic for good measure. In some regards, it is a miracle that the Vogtle project (as the two plants are collectively known) was completed at all. In fact, after the Westinghouse bankruptcy, a utility peer chose to stop construction of the nuclear plant it was building.
Southern's stock performance over the past year reflects the success it has achieved. Notably, shares have fallen just 3% or so versus the broader utility industry's decline of roughly 12%, using Vanguard Utilities ETF (VPU -0.27%) as a proxy. That's a pretty impressive showing, though the stock spent a fair amount of time underperforming the energy sector during the troubled Vogtle construction process. So, in some ways, Southern is just making up lost ground.
But there are big changes that will come about once Vogtle 4 is actually up and running. First off, the capital investment will end and the project will stop being a cash drain. Second, Vogtle 3 and 4 will start to generate cash flow, increasing Southern's cash flow from operations by around $700 million. Third, the company's fairly lofty dividend payout ratio (projected to be around 77% in 2023) will start to come down, which should eventually allow for a higher dividend growth rate at some point in the next few years. In other words, the investment story around Southern is changing dramatically.
SO Dividend Yield data by YCharts
But given the stock's relatively strong performance, it isn't the same deal it once was. While the 4% dividend yield is still higher than what's on offer from the average utility, it is now toward the low end of the company's yield range over the past decade. The big value opportunity is clearly past. The story now is about what the future will hold, which is likely more rapid dividend growth. The goal is to match dividend growth to earnings growth, but that likely won't happen for at least a year or two.
Who should buy Southern?
If you are a value investor, Southern probably won't interest you. If you are a dividend growth investor, Southern is more interesting, but the growth probably won't show up for a bit. That said, conservative dividend investors focused on dividend consistency might still like the stock given the opportunity for stronger dividend growth ahead and the company's seven-decade-plus streak of holding the dividend steady or increasing it. Southern probably won't excite you, but that's the point. And if you can handle collecting a still above-average 4% yield while you wait for the more rapid dividend growth that appears on tap, this reliable dividend stock could be a good fit for you.
