Should I buy AGL Energy (ASX:AGL) as a hedge against inflation in 2024?

Nick Sundich Nick Sundich, May 10, 2024

Should I buy AGL Energy (ASX:AGL)? That’s a question many investors would be forgiven for asking themselves when hearing that electricity prices have been skyrocketing since the world emerged from pandemic isolation. Consumers may cut back on energy usage, but they cannot avoid spending altogether. They may shop around for better deals, but in all seriousness good luck to them because they’re going to need it.

AGL gained 17% in CY23 and despite being flat this year, has nearly doubled since November 2021. It may not be the best performing stock in the ASX, but neither is it the worse. Notwithstanding, this company is still well off all time highs seen in the 2010s. So is there more room to run? Spoiler Alert: Perhaps in the short-term, but investors thinking AGL is as safe as gold or CSL (ASX:CSL) would have short memories.


Who is AGL Energy?

AGL is a generator and seller of electricity and gas to Australian households and businesses. In fact, it is the largest of its kind in Australia. Here’s a bit of history to use at (investor) trivia nights: It was the second company to list on the Sydney Stock Exchange, joining as the Australian Gas Light Company.

Now for some ESG trivia: It is Australia’s largest carbon emitter, accounting for 8% of Australia’s national carbon footprint.


From a circus to champagne?

2022 was a horrible year for AGL. Mike Cannon-Brooks and a consortium led by him tried to take over the company because he had different ideas as to how AGL could shake off its identity as a major carbon emitter. The board conceived plans to split its coal business into a separate entity named Accel Energy. Before it could put the plans to shareholders for a vote, shareholder pressure led to the company not even putting the question to them. The scuttling of the plans led to four board members resigning and the company to undertake a strategic review of its operations.

Even after all this was over, scars remained. The company will have major capex requirements over the next decade to achieve Net Zero by FY35. It would require up to $20bn in place before 2036 funded from assets on its balance sheet, offtakes and via partnerships. Sometimes investors can overlook boardroom dramas if the company is delivering for shareholders, but AGL was not. It made a 1HY23 loss of over A$1bn, hindered by extended outages at its ageing Loy Yang A and Hunter Valley power plants.


Is the future rosier?

Since Easter 2023, companies left right and centre began admitting to shareholders customers are cutting back spending and their share prices are dropping like flies. Investors are desperate for safe havens – companies that will not experience declining demand or declining margins, preferably being able to do so while just servicing their customers as usual.

Sorry big banks, but investors don’t like the fact that you had to offer significant cashback offers and discounted interest rates to stop mortgagees breaking up with you and refinancing with a larger bank.

But AGL Energy was an exemption, delivering a trading update in May that got investors excited, followed by its FY23 results. It made a $1.26bn statutory loss due, $680m of which was impairments, but it made $1.36bn in EBITDA (up 12%) and an underlying profit of $281m (up 25%). It told investors to expect $1.875-$2.175bn in EBITDA and a $580-780m profit.


Guidance increased

In February 2024, AGL released its 1HY24 results and made a $576m statutory profit and $399m underlying profit. The discrepancy between these figures is explained by a positive movement in the fair value of financial instruments. Underlying EBITDA was $1.074bn, up 78%. Guidance for the full year was narrowed, but towards the upper end, i.e. $680-780m NPAT and $2,025-2,175m in EBITDA.

Earlier this week (i.e. on May 7 2024), it upped its FY24 guidance further to a $760-810m profit and $2,120-2,200 EBITDA. It told investors it reflected the strong operational and financial performance of the business since its half year results, due to improved plant availability, flexibility and generation, higher consumer demand over the summer period, and continued strong Customer Markets performance.

As we noted above, shares are flat this year but have nearly doubled since November 2021.


AGL Energy (ASX:AGL) share price chart, log scale (Source: TradingView)


It may still be undervalued

Despite the share price growth, AGL is still well behind its all time highs. And it is trading at just 4.6x EV/EBITDA and 10.3x P/E for FY25 with a PEG of just 0.45%! If you consider the average P/E for an ASX 200 stock is 16.5x according to Capital IQ and apply that to AGL, this derives a share price of $15.01 – a 50% premium to its intraday price on Tuesday May 7 2023.

On a DCF basis, we think it is $15.51 – a 58% premium. We have used consensus estimates and a WACC of 8.79%.


Is a slowdown coming?

Nonetheless, the 13 analysts covering AGL (despite agreeing with the company’s guidance for FY23 and FY24) only have a median share price of $11.14 – a mere 14% premium, because revenue growth will be slower. They expect just 3.5% in FY24. After peaking at $14.5bn in FY25, they expect revenues to retreat thereafter, only expecting $13.4bn in FY26.

Although EBITDA and EPS aren’t predicted to plunge, they are expected to stagnate after FY25. Obviously, AGL will have to close down polluting assets and generate capex for new energy initiatives somehow.

For now, it appears investors are overlooking the longer-term, happy for anything that has minimal chance of a 20-30% share price plunge on account of an earnings downgrade. However, given the bar has been set high for AGL, it may merely require slower bottom line growth to see a share price plunge.


So, should I buy AGL shares?

In the short-term (the next 12 months or so), investors may want to consider AGL, especially if their portfolio is heavily weighted to riskier segments of the market – consumer discretionary stocks and tech. In the longer-term, we remain uncertain as to the company’s transition from being the largest polluter to another Net Zero firm.

Specifically, how it will be funded, whether it can be achieved on time and whether or not it can maintain the top and bottom lines while doing so.

So, investors who buy in need to have an exit strategy planned. And as we always say, no stock portfolio should be in just one company or sector. A portfolio must be well balanced between different sectors, companies and even different assets, to give investors the best possible chance of netting returns.


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