Translation: Original published in Finnish on 10/30/2024 at 7:40 am EET.

We reiterate our Reduce recommendation for Fortum and revise our target price to EUR 14.0 (was EUR 14.5). The Q3 result was largely in line with our expectations, but the earnings forecasts for the coming years remained under mild pressure as electricity prices stayed depressed. After an exceptionally strong cash flow in the second half of the year, Fortum will soon have net cash, so a generous dividend stream is secured, and the valuation is low anyway. However, given that earnings growth will remain negative in the coming years, we believe that without a positive development in electricity prices, the return potential is limited. 

Q3 result as expected in the big picture

Fortum's comparable EBIT for the seasonally weak Q3 was 158 MEUR, in line with market expectations. There was a significant decline from the comparison period (Q3'23: 226 MEUR), together with power prices. The power price achieved in the Generation segment was a good EUR 44.1/MWh considering the circumstances, but the year-on-year decrease (Q3’23: EUR 51.2/MWh) was still significant. Comparable operating profit of the Generation segment was
176 MEUR in Q3, which was reasonably in line with our forecast (183 MEUR). On the positive side, the power price achieved was higher than we anticipated, while on the negative side, the production volume of the highly cost-effective hydropower was lower than we anticipated in Q3. Comparable EPS was EUR 0.14, while the expectation was at EUR 0.13. Overall, the operational result was at a good level given the circumstances and did not provide any material surprises. Cash flow from operating activities was quite good at 349 MEUR in Q3.

Forecasts for the next few years lower, mainly in line with electricity futures

In the outlook, special attention is always paid to the Generation segment's hedges, which will determine the earnings development in the coming years. Approximately 80% of the Generation segment's estimated outright power sales in the Nordic countries have been hedged at EUR 47/MWh for the remainder of 2024, approximately 65% at EUR 42/MWh for 2025 and approximately 40% at EUR 41/MWh for 2026. Of these, the hedge price of EUR 44/MWh for Q4'24 was a clear disappointment for us, as we expected the high-priced hedges to be allocated to the seasonally good Q4, but these were apparently already significantly used up for the Q3 result. Otherwise, the hedges were in line with our expectations. However, earnings forecasts for the coming years remained under pressure as electricity futures dipped to around EUR 40/MWh (previous update around EUR 42-43/MWh). Significantly higher future levels will have to wait until 2029, when the market seems to expect a more favorable supply/demand balance. In terms of operational result, our projections for the coming years were lowered by around 5%, but the exceptional cash flows in Q4 and a stronger balance sheet structure have made the lower lines of the income statement less volatile.

Value and dividend yield on offer

Fortum's valuation multiples are moderate (2025e P/E 13x and EV/EBIT below 11x), the company is significantly undervalued relative to the present value of its production sites and, in our view, slightly undervalued relative to its peers. However, as the result declines in the coming years, we believe that the upward drivers are limited. The high dividend yield (7-8% for the next few years) provides a good basis for expected return, which may well motivate a patient value investor to wait for a positive turn in electricity prices with Fortum shares in the portfolio. In the long run, as electrification progresses, demand will increase, which means that the price of electricity must also rise. We already find the risk/reward ratio of the stock quite attractive but remain on the sidelines for now.