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NRG Energy – Adding Value With A Business Restructuring

Summary NRG Energy’s dream of building one of the first integrated fossil fuel and clean energy businesses will go unfulfilled. NRG Energy plans to spit off its clean energy business in a few months time, forming what will be known as “GreenCo.”. While the fossil fuel and clean energy business have many synergies, a separation of these two businesses is likely more viable in the current investment atmosphere. NRG Energy’s clean energy business will have to compete with ultra-competitive solar companies as a standalone company, which could prove to be a large obstacle. Over the past few years, NRG Energy (NYSE: NRG ) has stood out in its attempt to become the first major integrated fossil fuel and renewable energy company. While the company has successfully integrated these two businesses to some extent, there have been many obstacles that have limited NRG Energy’s overall success in this endeavor. There are many aspects of the distributed solar business, in particular, that do not mix well with the traditional fossil fuel power business. While these two businesses are not at odds in theory, the relatively unproven distributed solar business has made investors wary. As such, the company decided to split off its clean energy business into what will be known as “GreenCo.” Here is a chart explaining why NRG Energy is planning to split off its clean energy business. (click to enlarge) Source: NRG Energy Integration Problems NRG Energy’s plan to integrate a large clean energy business was not flawed in theory. NRG Energy could use the comparatively vast resources from its fossil fuel business to help catalyze its burgeoning clean energy business. This would put the company at a financial advantage against pure play clean energy companies like Vivint Solar (NYSE: VSLR ). However, the downsides associated with such integration seem to be outweighing the benefits. One of the main problems with this strategy is that fossil fuel and clean energy investors are generally of different mindsets. Fossil fuel investors are usually more interested in more stable businesses, whereas clean energy investors are more interested in growth. While NRG Energy’s clean energy business has enormous growth potential, many fossil fuel investors are likely off-put by the segment’s more risky nature. On the flip side, many clean energy investors are likely put-off by NRG Energy’s relatively low growth fossil fuel business. While there are indeed many investors that find the combination of businesses attractive, it seems as if separating these two businesses would attract more investors on balance. In addition, both the fossil fuel and clean energy businesses require a huge amount of attention. Pure-play distributed solar companies like SolarCity (NASDAQ: SCTY ) already have their hands full just managing their specific businesses. In NRG Energy’s case, distributed solar is just one segment in a larger business portfolio. It is unlikely that the company would be able to invest the optimal amount of time and energy into all of its businesses. While many synergies certainly do exist in NRG Energy’s fossil fuel and clean energy businesses, it seems as though separating the businesses would unlock more value due to the combination of current investor sentiment and limited attention/resources. Pure-Play Approach NRG Energy’s pure-play approach will likely attract more investors over the long-run. However, this also means that its renewable spin-off will be competing against the likes of SolarCity, Vivint Solar, etc, with much less assistance. The big financial advantage of NRG Energy’s clean energy businesses will mostly disappear once the company is spun-off from its fossil fuels business(NRG Energy is planning to give the GreenCo a financial limit of $125M in 2016). With that being said, NRG Energy’s clean energy business is still doing relatively well, and will likely succeed even without the help of the company’s main business. NRG Energy believes that there is ~$1B that can be unlocked by spinning off its clean energy business, which could very well be true given the benefits of separation. As investors will likely favor this strategy, as was mentioned before, NRG Energy is likely going down the correct path. Shareholders should benefit from the company’s planned pure-play approach, especially given the increasing complexities of the clean energy business. While CEO David Crane’s integrated energy plan was sound in principle, it may have been too early to implement this as investors have not fully committed to the idea. Obstacles While there are definitely many positives associated with a clean energy spin-off, the company could find it difficult to adjust as a pure play. Also, the company may have more trouble financing its operations as was mentioned before. Whereas the NRG Energy’s clean energy business currently has an advantage in financing due to its relationship with NRG Energy’s fossil fuel business, this will no longer be the case after the spin-off occurs. Competing against well-established companies like SolarCity and Vivint Solar could prove to be more difficult than expected. Regardless, the distributed solar market in particular is still incredibly underpenetrated, which means that NRG Energy’s GreenCo has great growth opportunities. Conclusion While NRG Energy’s grand plan to integrate massive fossil fuel and clean energy businesses has been derailed, the company is still undervalued at a market capitalization of $5.1B . Given that most of the company’s growth potential lies in its clean energy segment, NRG Energy may no longer be undervalued after it splits off its clean energy business. In theory, the synergies of NRG Energy’s fossil fuel and clean energy business should have outweighed the negatives of such integration. With that being said, investors are still largely uncomfortable with this idea, thus making the planned spin-off a smart decision for shareholders.

Review Of NRG’s Business Update Conference Call

Summary NRG held an analyst call last Friday to provide a strategic update. NRG will create a GreenCo, including its Home Solar business. The remaining exposure to GreenCo is $125M. NRG committed to an additional $1.3B in share repurchases and debt reduction through 2016. The company also announced its performance in the latest PJM capacity auction. Last Friday, NRG Energy (NYSE: NRG ) held a conference call to present an update to its strategic direction and to present a business update. The big item in this call was the plan for simplifying NRG by creating a new “GreenCo.” The GreenCo will contain three of NRG’s current business units: NRG Home Solar, NRG EVgo, and NRG Renew. The creation of the GreenCo is expected to be complete on January 1, 2016. Part of the reason for this move is that investors have been concerned that these businesses were money pits that would just suck away the cash generated by its main wholesale power business. NRG said that these businesses are showing progress and that the time had come to increase the financial rigor and make them more self-supportive. NRG has put a limit of $125M in additional support to GreenCo from the parent. It is also pursuing potential strategic partners. NRG feels that the GreenCo business will be self-sufficient by the middle of 2016. NRG provided an update on how the Home Solar business has been doing this year, and presented the following chart: Exhibit 1 Source: NRG 9/18/15 presentation NRG felt that the solar business got off to a slow start in 2015, but that it has achieved some momentum as the year has progressed. 2015 sales are up 103% year-to-date, even after the slow start, and the 2,500 bookings in August are a monthly record for NRG. That level puts it with Sunrun (NASDAQ: RUN ) in the competition for third place in domestic market share, behind SolarCity (NASDAQ: SCTY ) and Vivint (NYSE: VSLR ). Installations and deployments are still lagging, but NRG feels this lag will be addressed by year-end. Getting the installations and deployments figured out is obviously a big thing for its solar business. It is one thing to be able to take orders, but it is another to actually deliver a product, and this is what NRG needs to prove to investors. (Reminds me of this old Seinfeld episode .) Of course, one of the advantages of solar deployment being behind schedule is that it has burned less cash in the business. At January’s investor day, NRG estimated $250M in cash being spent at Home Solar in 2015, but now its estimate is only $168M. Other reasons for the decrease are a partnership with NRG Yield (NYSE: NYLD ) and better terms from tax equity providers. It really makes sense for NRG to make the move to break out the GreenCo businesses. You can see how small these GreenCo businesses really are compared to the older NRG businesses by looking at the YTD EBITDA table: Exhibit 2 (click to enlarge) Source: NRG Q2 2015 Earnings Presentation Management is spending significant time involved with these businesses, even though there is a small effect on the bottom line. Yes, there is the potential for high growth if these work, but there are lots of risks as well, and with management spending all of their time on the small businesses, they risk missing opportunities at the big businesses that could really impact the bottom line. Management does not want to quickly sell the GreenCo business at this time. They think that as the business continues to grow and as the IPO market improves, they could extract a lot of value. One example they gave is that the Texas market has been very slow to embrace solar. They feel that if Texas takes off, the GreenCo would really be a big beneficiary, and they would like to keep exposure to this upside. NRG said it thinks it could eventually realize a significant multiple above the $125M commitment it is making today. RUN, the company with a similar-sized solar business, has an enterprise value of about $1.7B, so there may be hope that NRG can extract value from this endeavor. The call reviewed a number of other topics besides the GreenCo announcement. Over the last six months, NRG has been examining ways to optimize its generating portfolio through deactivations, fuel conversions, or other means. On Friday, NRG announced that non-strategic asset sales would also be part of its portfolio optimization. The company feels that there are a number of valuable assets that could be sold, simultaneously reducing its need for CAPEX and providing capital to be used elsewhere in the company. NRG mentioned that there is a good chance a number of these sales would be in the PJM region. If transactions do take place in PJM, it could give investors some nice data on values for similar assets that would help in estimating the value of other companies with big nearby portfolios (Dynegy (NYSE: DYN ) and Talen (NYSE: TLN ) for example). NRG also plans to reduce development, marketing, and G&A spending by $150M in 2016. It estimates that it will cost $60M to put these expense reductions in place. NRG expects that over the next six to nine months, cost reductions, CAPEX reductions, non-recourse financings, and asset dispositions will free up $1B in capital. By the Q3 conference call, NRG will announce the details of where the first 50% of this $1B will come from. The final 50% will most likely take place through asset dispositions, which it expects to happen in 2016. This $1B will be used for stock repurchases and debt reduction. NRG also committed to an additional $300M of stock repurchases and debt repayments from cash flow it expects to receive this year. All of these balance sheet reductions are on top of the remaining $251M of stock buybacks that NRG has already committed to for 2015. Also, don’t forget that in 2016, NRG’s operations will produce additional cash flow that could be used for further reductions to the balance sheet and dividends to shareholders beyond this current plan. NRG also mentioned that maintenance and environmental CAPEX is expected to go from about $725M in 2016 to $400M in 2017, which will continue to help its cash flow over the long run. The call also provided updates regarding NRG Yield. The big item was that an agreement has been reached to move the Edison Mission Wind portfolio to NRG Yield. This is going to bring $210M of cash to NRG, and the entire deal was completed at an implied enterprise value of $452M. The implied EV/EBITDA of the deal was approximately 11x. It was also announced the NRG Yield would not be looking to raise any equity until the markets for Yieldcos improved. This could impact its ability to obtain more assets, but stated that NYLD can still grow its dividend at a 15% CAGR without any further asset dropdowns from NRG. Exhibit 3 (click to enlarge) Source: NRG September 18 presentation The big update about NRG’s traditional generation business was the review of last month’s PJM capacity auction. (My Seeking Alpha article discussing the auction can be found here .) Exhibit 4 (click to enlarge) Source: NRG 9/18/15 presentation The company’s 2018/19 results give about $225M of extra revenue compared to the results of the original 2017/18 auction. If you assume a 40% tax rate, and then take NRG’s 331M shares, you get an almost 41¢/share impact to earnings. NRG did not break out the specific units that cleared the auction, but it did show some data by zone. I have totaled the cleared capacity data NRG gave in Exhibit 4 above, and compared it to the available capacity in the different regions. Exhibit 5 (click to enlarge) Source: NRG and Garnet Research estimates It should be noted that NRG’s numbers include imports, which explains why the total of NRG generation that cleared in the RTO is above the amount located in that zone. If all of NRG’s assets in PJM (not including imports) had cleared at the CP price, it would have received about $1.1B in revenue, instead of the $950M level it achieved. According to page 16 of PJM’s report on the auction results, the COMED zone (the area around Chicago) had 23,320 MW of capacity clear the auction. This means that NRG had about 18% of the cleared capacity. PJM’s report also shows that 26,275 MW were offered in the auction for that zone. Exelon (NYSE: EXC ) has already stated that its 1,800 MW Quad Cities nuclear plant did not clear in COMED, and it now appears, assuming NRG offered all of its capacity, that the remaining capacity that didn’t clear was entirely owned by NRG. This should be a sign that if things continue to tighten around Chicago, NRG has a good chance of benefiting. With the new auction results, expect an update of this slide from the Q2 results presentation when NRG presents Q3 results. Exhibit 6 (click to enlarge) Source: NRG Q2 2015 Earnings Presentation NRG now has about $950M from the latest auction that will be split between 2018 and 2019 in the above chart. The recent PJM transitional capacity auctions for the 2016/17 and 2017/18 planning years will add $125M to be split between 2017 and 2018, and an additional $105M to be split between 2016 and 2017. Friday’s announcements should be pretty positive for NRG, but the initial reaction has not been that enthusiastic. Exhibit 7 (click to enlarge) Source: SNL NRG did take a big hit on Friday after the conference call. But most of this was giving back that gains from earlier in the week that came when it announced it would hold the call. The market also had a down day on Friday, so NRG was likely carried along with everyone else, further worsening performance. So far this week, the stock has continued down, even with Friday’s positive news. Most of the other independent power producers were down significantly as well, so NRG’s fall has not been isolated. Conclusion This was a positive call for NRG. It is simplifying its business and will be returning significant capital to investors. The stock market has driven NRG’s shares down further since the announcement, on top of an already tough year. If NRG can execute this plan, it should at least stop the relentless decline it has been experiencing. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Larry Williams’ Principals And Insight Into Becoming A Better Trader

Larry Williams is a well-known trader and newsletter writer in the stock trading space. He has over 40 years of experience in the market and has written numerous books including Trade Stocks and Commodities with the Insiders: Secrets of the COT Report and How I Made One Million Dollars … Last Year … Trading Commodities . There is something to be learned from someone who has been in the markets for 40 years and been extremely successful. We were extremely lucky to be privy to a recent interview Larry Williams was a part of. Below are some notes we’ve gathered from the conversation: 1) Fundamental and technical analysis both work, however they will only work under the right market conditions whether it be a bull or bear market. For example, in the latter stages of a bullish market, as a buyer, you might find companies with low P/E ratio to be few and far between. Therefore, if you stick with fundamental analysis, you will most probably miss out on buying opportunities you’d otherwise find through technical analysis. In technical analysis, your focus is more on supply and demand in what is most likely a shorter time frame versus how well a company is fundamentally performing over the long haul. 2) For commodities, retail traders like to buy strength, but commercials like to buy weakness because the cost is less. Our interpretation of this is that most successful traders buy strength because of human behavior. People see an underlying asset like a derivative of oil go up, they jump on it for fear of missing out even if the prices jump and then more people jump on it. Until of course the prices become too ridiculously high and then people try and sell to lock in their profits. Commercial companies that use commodities like to buy at low prices because it keep their cost of goods sold lower. If revenues are constant and you reduce costs then you’d have better margins. 3) Most indicators are redundant, RSI (Relative Strength Index) and STO (Stochastic Oscillator) are essentially the same. There are a lot of things to look at, but when using an indicator understand the purpose of the indicator you are using. There are a lot indicators out there that essentially do the same thing. Both the RSI and STO both help to determine overbought and oversold conditions. While there are evidently cases when regardless of whether or not a stock or index is overbought, prices continue to print higher. The key is not to have too many, keep it simple, and don’t use the same overlapping indicators. 4) Trade your personality, find the system that fits you and lifestyle. Can you trade during work or at home? Do a personality check. One thing I’ve learned through trading in the stock markets for about 10 years now is that you have to trade your personality. Take someone else’s trading plan and trying to trade against that typically doesn’t work out unless the both of you have the same personality. Each of us have different risk tolerance and financial needs. You should only trade with what you are willing to lose and not only that but you have to be comfortable with actually losing that amount. Market Related Information When interest rates go up, stocks have historically been hit hard in the short term, but you’ll want to buy that weakness. The logic behind this is that when rates begin to go up, more people will feel goosed into borrowing and that leveraged money will go into consumption and production. Market tops are typically well formed and structured thereby also taking a long time to develop. On the other hand, market bottoms are based on crashes and plummet on panic. How many positions should you hold? Any more than 4 positions is a lot of multi-tasking. For Larry Williams, 3-4 positions is plenty. Any more than that require too much multi-tasking. In addition, he typically puts on a 2%-4% risk of total trading capital on each trade . Losing four consecutive trades at 4% risk would be a 16% drawdown. What is the biggest lesson Larry has learned from trading? He learned to be humble when you are winning and learning from other people. All highly successful traders are a little unsure of themselves, so they never bet big. None of these successful individuals have had high levels of emotional response to things and therefore don’t get emotionally rattled. What are the four steps to making a trade? Find condition, find the entry, set your target, create trailing stops. What are some other interesting tips and tidbits? 1) Conditional traders look at conditions, seasonality and overlay technicals. 2) Trading should be like combo lock where you need to get a number of factors going your way.