Duke Energy Stock: AI Upside In A Solid Utility (NYSE:DUK)

Duke Energy (NYSE:DUK) has recently signed deals with some of the world’s largest tech giants. After Goldman Sachs projected a huge demand for electricity due to artificial intelligence, Duke can see its outlook supercharged.

Duke Energy signs clean energy deals with tech giants

Seeking Alpha reported Wednesday that Duke Energy had signed agreements with Amazon (AMZN), Google (GOOG), and Microsoft (MSFT) to develop new power contract terms for carbon-free energy generation investments in North Carolina and South Carolina.

Duke and the tech firms signed proposals to craft new rate structures, designed to lower the long-term costs of clean energy investment. The utility firm said the new tariffs would create beneficial generation at customer facilities.

The U.S. technology giants have been at the forefront of growth in energy-intensive data centers for generative artificial intelligence projects. The Electric Power Research Institute could absorb up to 9% of U.S. electricity generation by the end of the decade, according to a recent study by the Electric Power Research Institute.

I believe that the company is well-tuned into the potential for data centers and is already creating contracts with some of the largest players leading the AI drive. That can put Duke at the forefront of the move for AI electricity demand.

Goldman Sachs has outlined huge growth potential for electricity

Investment bank Goldman Sachs has also recently outlined a huge surge in power demand due to AI growth.

The bank’s analysts said that the U.S. and Europe will require almost $1 trillion in renewable energy investment over the next decade. Data centers are expected to be a big driver of global demand by up to 160% by 2030, Goldman said.

Further data has shown that data center investment has risen 200% since 2016 with expectations for another 89% by 2028. Companies such as Amazon have outlined large investment outlay plans for AI in the recent first-quarter earnings season.

First-quarter earnings project strong growth

Duke Energy recently released its first-quarter earnings for 2024, where the company outlined its own strong growth trajectory into 2028.

The company’s outlook is being driven by manufacturing but data centers are becoming a growing theme.

Green energy development is driving the manufacture of huge plants in Duke’s jurisdictions, such as a $13.9 Toyota battery plant in North Carolina, and a $6.3 billion Stellantis and Samsung plant in Indiana. Government commitment to green energy could support further subsidies in the future, adding to the upside potential.

Duke’s 25% estimate for data centers could also rise depending on the success of AI projects. We are still at the dawn of AI technology and if a new product becomes a commercial success, that could lead to higher demand and more upside for Duke.

First quarter results saw the company post an adjusted profit of $1.44/share, beating estimates of $1.38/share, due to improved weather and favorable rate case impacts. Revenue was slightly lower than expectations, but $1.02 billion in its dominant electricity segment was up from $791 million in the first quarter of 2023.

Q1 load growth was up 2.4% in the Carolinas and Florida. The company reiterated its guidance of $5.85-$6.10, which was in line with expectations.

During the earnings call, CEO Lynn Good said the company was on a path to “deliver sustainable value and 5%-7% earnings growth over the next five years.”

The company also confirmed that it has set up new contracts for data center billing, which will include take-or-pay and up-front infrastructure buildout payments.

A valuation outlook for Duke Energy

According to Seeking Alpha data, I believe Duke Energy is still fairly valued on a five-year basis. The company’s non-GAAP price/earnings ratio is -6.27% lower than the average and its Enterprise Value/Sales is largely flat.

That gives investors a margin of safety over previous and I believe management has a good strategy in place to deliver on its projected 5% annual growth in earnings over the next five years. GAAP EPS grew 6.29% year-over-year and operating cash flow saw growth of 97% over the same period.

The company has been delivering higher revenue per share for the last four years and I believe that the outlook to 2028 gives investors a chance to jump on the next four years of growth.

The company currently has a 4.1% dividend yield but is committed to raising that over the long term.

Risks to the investment thesis

The biggest risk to the investment thesis would be if AI uptake flopped. The sector has been dominated by front-end chipmakers and the buildout of capacity from the tech giants, but they will need to see businesses and consumers adopt AI en masse or they will need less electricity.

However, there is a surge in companies looking to invest in data centers and the company’s projections will likely be safe for 1-2 years at a minimum in my opinion. The company is currently trading at a fair value and economic development from green energy manufacturing dominates the growth outlook.

An update on activist investment

An investor in Duke Energy from 2020 has been the activist hedge fund Elliot Investment Management.

The company is a top ten company and is urging the utility to pursue a tax-free separation into three regionally-focused and publicly-traded companies. In a letter to Duke’s board of directors this month, Elliot set out a plan to create between $12 billion to $15 billion in near-term value for the company’s shareholders.

Elliott has seen Duke’s business as underperforming its potential and is not maximizing its high-quality assets. Elliot wants to see the company split into three regions: Carolinas, Florida, and the Midwest. The goal is to improve execution, lower costs, and increase investment.

“Our extensive diligence and conversations with stakeholders have made it clear that the Company’s sprawling, noncontiguous portfolio of utilities has burdened shareholders with a ‘conglomerate discount’ relative to the value of Duke’s utility franchises,” the hedge fund’s letter said.

Duke responded with a lengthy letter of its own answering the investment firm’s proposals and outlined its recent outperformance of the S&P 500 and plans to deploy $125 billion in capital over the next ten years. Management also said that a breakup came with the risk of “incremental costs.”

Conclusion

Duke Energy is a solid utilities player that outperformed its sector over the last year. The company delivered strong year-over-year revenue in the first quarter and expects to grow EPS at an annual rate of 5-7% into 2028. That expectation is being driven by huge investments in clean energy manufacturing and also the recent surge in data center investment. The recent deals signed with the U.S. technology giants that are leading the charge on data centers are a good sign that lines of communication are open between Duke and those firms. The activist letter this month shows that Elliot are still a keen investor in Duke and they could bring a more hostile effort with the outlook for electricity growth. Duke is valued slightly less than many of its five-year averages and that does not account for a 4% dividend yield and expected earnings growth.