The National Grid (LSE:NG) share price is up 23% over the past year. It recently hit a record high, although some might be concerned that the stock could be becoming overvalued. Even with this as a potential risk, I think there are plenty of reasons that make the company still a compelling buy. What are they?
A realistic view
One major reason for optimism is the enormous investment required to modernise electricity infrastructure. In the UK, we’ve made a push towards renewable energy and electrification, but it’s still in its early stages. Fortunately for National Grid shareholders, the firm sits right at the centre of this transformation.
In the latest full-year report earlier this month, its CEO said the “National Grid is embarking on the largest investment programme in our history, committing at least £70bn over the next five years to modernise and expand energy networks.”
This spending isn’t just wasted money. In simple terms, the more infrastructure it builds, the larger its regulated asset base becomes. Over time, that can translate into higher profits and growing cash flows.
I don’t believe the size or scale of this is fully factored into the current share price.
I also think investors are increasingly appreciating the defensive nature of the business. It’s true the FTSE 100‘s close to record highs, but economic uncertainty’s still very high. The conflict in the Middle East isn’t over, and we have our own worries here in the UK.
If these increase, people could start loading up on defensive stocks like National Grid. After all, it operates essential infrastructure that households and businesses rely on regardless of the wider economy.
Income attraction
Another positive factor that should help the stock rally is the dividend. At 3.92%, the dividend yield is above the index average. Beyond the yield, people will note that National Grid has a long history of paying dependable dividends. Management recently reiterated the commitment to progressive payouts, so it’s still clearly in focus.
Of course, there are risks investors shouldn’t ignore. Some flag that the recent rally has made the stock overvalued. I’m not convinced, as the price-to-earnings ratio of 16.28 is just below the index average.
However, one concern is the company’s sizeable debt pile. Net debt in the latest results increased 7% from the year before, to £44.2bn! Utilities often borrow heavily to finance infrastructure projects, but higher borrowing costs can still pressure profitability.
Even with that concern, I think the trend for the stock will continue to be higher as investors realise the potential for higher long-term profits from the infrastructure build-out. With the added potential boost from any possible market wobble, I believe it’s still a stock for investors to consider for their portfolios.
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Jon Smith has no positions in the shares mentioned.
