FirstEnergy in Neutral Lane

Zacks

We reiterate our Neutral recommendation on Ohio-based FirstEnergy Corporation (FE). Although the company posted lackluster financial results in the second quarter 2012, we believe increased investments in its transmission business will significantly drive top-line results in the near term. Its several transmission projects in Ohio, Pennsylvania, West Virginia, New Jersey and Maryland are also expected to come online in the coming years.

However, the implementation of the recent Mercury and Air Toxics standards (MATS) law, effective 2015, has forced  the company to trim its capital investment outlook  to $975 million from the earlier forecast range of $1.3-$1.7 billion. Moreover, with regulatory pressures, the company closed its operations at the coal-fired plants of Eastlake 4 and 5, Bayshore 2, 3 and 4, the Armstrong, Albright, Willow Island and Rivesville, which will adversely affect its financials.

First Energy’s recent approval of the electric security plan for long-term supply of power is expected to boost its customer base, especially in the Ohio region. In addition, we believe the company’s market based capacity pricing will aid in increasing revenue in the near term. Going forward, the FirstEnergy-Allegheny merger is expected to spur margins.

Nonetheless, FirstEnergy’s operation and financials are often exposed to risks resulting from interest rate instability and commodity price fluctuations which impact the company’s earnings and balance sheet positions. With the ongoing storm season in the US, which will continue over the third quarter, we believe FirstEnergy’s operation will face severe difficulties with unplanned outages and interruption of services. This could hamper productivity and margins.

On a positive note, we expect successful execution of FirstEnergy’s retail strategy through hedging or selling forward to its retail customers and the shifting of sales volume within and among the sales channels will further benefit the company. The company’s retail volume witnessed a 16% increase in the second quarter of 2012.

FirstEnergy reaffirmed its operating earnings expectation in a band of $3.30−$3.60 per share for 2012. GAAP earnings for 2012 are expected in the range of $2.80−$3.10 per share.

The Zacks Consensus Estimate for third quarter and full year 2012 are currently pegged at $1.14 per share and $3.37 per share, respectively. The company’s closest peer is Indiana-based NiSource Inc. (NI)

FirstEnergy currently has a short-term Zacks #3 Rank (Hold rating). FirstEnergy is a diversified energy company. Through its subsidiaries and affiliates, the company engages in the generation, transmission and distribution of electricity as well as energy management and other energy-related services. With market capitalization of $18.29 billion, the company has a total of 17,257 employees.

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