North Dakota's Two Gifts to Investors

While widely held utility stocks such as Duke Energy, Exelon, FPL and Southern Company flicker this year, a much-lesser-known duo from North Dakota are generating yet another pair of double-digit total returns.

MDU Resources (symbol MDU) and Otter Tail Corp. (OTTR) have delivered year-to-date returns of 16% and 17% through August 19, even after Otter Tail shares fell 19% on August 5 on news of a less-than-requested rate increase in Minnesota and the company's reduced profit forecast for the rest of 2008. The same day, MDU issued stronger-than-forecasted quarterly results and raised its earnings "guidance" substantially through the end of 2008. Since then, Otter Tail shares have gained back half the one-day loss, closing at $39.58 on August 20, while MDU has traded flat. This says that traders overreacted (as they frequently do), dumping Otter Tail shares over a one-time disappointment, and that they are waiting to see whether MDU can keep its new profit promises.

There are many reasons to like both stocks. They each possess a decent balance sheet. They've paid dividends continuously since the 1930s, with regular increases. And MDU and Otter Tail are succeeding in reducing their dependence on regulated gas-and-electric services without endangering their dividends or, worse, losing huge sums and veering toward possible bankruptcy.

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That a couple of small gas-and-electric companies, with service in the Dakotas, Idaho, Montana and northern Minnesota, can make a diversified business approach work while so many bigger boys have botched similar endeavors isn't just a sweet story from the heartland. It's another example of why you need to look beyond a company's size and fame to see what the business is truly about.

The performance of the two stocks bears out how well these companies are managed. For the past ten years through July 31, the average electric-utility stock produced an annualized return (including dividends) of 4.1%. MDU's figure is 14.8%, and Otter Tail's is 12.7%. Over the past three years, both companies handily outgained Exelon, whose vast nuclear holdings make it Wall Street's favorite utility investment.

How is this? With MDU, the answer is largely natural gas. MDU produces plenty of it (and is looking for more in Texas and North Dakota), and the company stores and transports gas in its own fields and pipelines. With gas usage growing and prices strong, gas operations from the drill bit to the thermostat provided about 75% of MDU's earnings in the first half of 2008. (MDU closed at $32.23 on August 20.)

Otter Tail is even more diversified. It owns several infrastructure businesses related to gas-and-electric power, such as DMI Industries, which builds towers for wind turbines. Otter Tail is investing heavily in DMI, which recently built a plant in Oklahoma that is not yet profitable -- another reason for weak second-quarter earnings results. But the order backlog is growing and the future of wind-power equipment is terrific, thanks to federal tax credits and state regulations that mandate more renewable energy.

Both MDU and Otter Tail have construction subsidiaries, whose growth has slowed with the economy. This also holds back earnings at the moment and stands as a risk to those profit projections. But in times of prosperity, these stocks serve well as growth investments built atop a base of regulated earnings and reliable dividends. And you thought North Dakota only stood for wheat fields, cold weather and wide-open spaces?