Shareholder Activism Hits American Electric Power: Is The Stock Overvalued?

By Markets Fool.com

Shareholder activism is all the rage these days. From Carl Icahn to Nelson Peltz and a slew of others, many high-profile investors are launching public campaigns to shake up a number of companies. One place you don't expect to see much shareholder activism is in the utility sector. After all, utilities are seen as stodgy dividend payers. It's hard to envision a scenario in which a famous investor would see reason to get involved with a heavily regulated utility.

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But these are no ordinary times. Recently, Canadian private investment firm TRC Capital made a mini-tender offer to American Electric Power shareholders. Interestingly, the offer came in below the current stock price. Not surprisingly, the company quickly urged shareholders to reject the offer.

TRC Capital's motivations here are unclear. In some ways, this type of shareholder activism seems to do more harm than good.

Be careful what you wish for
TRC Capital offered to buy up to 2 million shares of AEP. That would represent less than .5% of AEP's shares outstanding. Even more confusing was that the offer was for $53.45 per share, which is about 4% less than AEP's April 16 closing price of $55.85 per share.

In a press release making the case against the offer, AEP said it believes the unsolicited mini-tender offer from TRC Capital was made in order to avoid certain disclosure and procedural requirements of the Securities and Exchange Commission.Because of that, AEP believes investors aren't getting the same level of protection as they would from a larger tender offer.

It's understandable why TRC Capital would want to buy shares at a quick discount. After all, the investment firm could convince investors to cash out without first comparing the offer to the stock's recent closing prices. That would conceivably earn TRC Capital a quick gain.

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But, more broadly, such an offer sends a mixed signal to AEP shareholders and the market as a whole. If word of an offer from a prestigious investment firm spreads, a larger group of investors might be convinced that the value of the stock should be lower. The stock price could then fall toward the level of the offer, thus wiping out any benefit from making the offer in the first place.

Ignore the noise
It would be foolish for AEP to accept the offer. Investors also shouldn't be tempted to cash out, since they'd be leaving money on the table and would lose out on AEP's dividend payments. After all, those hefty payouts are a big reason why people buy utility stocks in the first place.

Indeed, AEP has paid out dividends for more than 400 consecutive quarters. The stock currently pays a $2.12 per-share annual dividend, which amounts to a nearly 4% yield right now. AEP regularly increases its dividend as well: The company distributed $2.03 per share last year, up from $1.64 five years prior.

TRC Capital is clearly trying to make a quick score, but in doing so is implying the stock might be overvalued. This could do more harm than good if investors then more broadly reevaluate AEP's valuation. For what it's worth, I don't view the stock as overvalued by any means. AEP trades for 16 times earnings, which is a significant discount to the S&P 500's 20 multiple. AEP is also cheaper than many of its sector peers. For example, Southern Co. trades for 20 times trailing earnings.

AEP investors should ignore the noise and focus on what matters. AEP is giving its shareholders exactly what they need from a utility: reliable earnings growth and a juicy dividend yield. If those are your reasons for owning the stock, there's no need to sell.

The article Shareholder Activism Hits American Electric Power: Is The Stock Overvalued? originally appeared on Fool.com.

Bob Ciura has no position in any stocks mentioned. The Motley Fool recommends Southern Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.