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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.

Q4 Outlook For Oil And Gas ETFs

Crude Oil The free fall in oil prices have made energy the most talked-about sector of the entire market in 2015, apart from the fact that its performance has been the worst. Year-to-date, The Energy Select Sector SPDR ETF (NYSEARCA: XLE ) has posted a loss of 20%. On the other hand, the broad-based Dow Jones Industrial Average and the S&P 500 index shed just 8% and 5%, respectively, over the same period. As of now, crude prices are trading just above the key psychological level of $40-a-barrel after hitting a new 6-1/2 year low of $37.75 recently. This, despite a short spike that saw the commodity scale a year-high of $61.43 per barrel in June. (Read: 4 Ways to Short the Energy Sector with ETFs ) Oil is facing the heat on several fronts. Perhaps, the most important of them pertains to the mounting worries about China’s crude demand. In particular, the Asian giant’s currency devaluation has stoked speculation about soft economic growth in the world’s No. 2 energy consumer. What’s more, in the absence of production cuts from OPEC, the effects of booming shale supplies in North America and a stagnant European economy, not much upside is expected in oil prices in the near term. Moreover, a stronger dollar has made the greenback-priced crude more expensive for investors holding foreign currency. The Iranian nuclear framework agreement, which has the potential to release more of the commodity in the already oversupplied market, has put the final nail in the coffin. As it is, with inventories near the highest level during this time of the year in 80 years at least, crude is very well stocked. On top of that, OPEC members (like Saudi Arabia) have made it clear time and again that they are more intent on preserving market share rather than attempting to arrest the price decline through production cuts. Therefore, the commodity is likely to maintain its low trajectory throughout 2015. (Read: Still Believe in Goldman’s $20 Oil, Go Short with These ETFs ) This has forced the oil companies and associated service providers to make deep cost cuts by reducing their workforce. Oilfield services behemoths like Halliburton Co. (NYSE: HAL ), Schlumberger Ltd. (NYSE: SLB ) and Weatherford International plc (NYSE: WFT ) were the first to respond to the worsening situation, announcing substantial redundancies earlier in the year. Of late, they have been joined by integrated majors including Royal Dutch Shell plc (NYSE: RDS.A ) and Chevron Corp. (NYSE: CVX ). In the medium-to-long term, while global oil demand will be driven by China – which continues to be the main catalyst to liquids consumption growth despite the current slowdown – this will be more than offset by sluggish growth prospects exhibited by Asian and the European economies. In our view, crude prices in the next few months are likely to exhibit a sideways-to-bearish trend, mostly trading in the $40-$50 per barrel range. As North American supply remains strong and demand looks underwhelming, we are likely to experience a pressure in the price of a barrel of oil. Natural Gas Over the last few years, a quiet revolution has been reshaping the energy business in the U.S. The success of ‘shale gas’ – natural gas trapped within dense sedimentary rock formations or shale formations – has transformed domestic energy supply, with a potentially inexpensive and abundant new source of fuel for the world’s largest energy consumer. With the advent of hydraulic fracturing (or “fracking”) – a method used to extract natural gas by blasting underground rock formations with a mixture of water, sand and chemicals – shale gas production is now booming in the U.S. Coupled with sophisticated horizontal drilling equipment that can drill and extract gas from shale formations, the new technology is being hailed as a breakthrough in U.S. energy supplies, playing a key role in boosting domestic natural gas reserves. As a result, once faced with a looming deficit, natural gas is now available in abundance. Statistically speaking, the current storage level – at 3.261 trillion cubic feet (Tcf) – is up 473 Bcf (17%) from last year and is 127 Bcf (4%) above the five-year average. Expectedly, this has taken a toll on prices. Natural gas peaked at about $13.50 per million British thermal units (MMBtu) in 2008 but fell to sub-$2 level in 2012 – the lowest in a decade. Though it has recovered somewhat, at around $2.70 now, the commodity is still way off the heights reached seven years back. In fact, natural gas been trading range bound over the last couple of quarters with investors looking for direction. It has been stuck between $2.50 and $3 per MMBtu over the past 5 months. In response to continued weak natural gas prices, major U.S. producers like Chesapeake Energy Corp. (NYSE: CHK ), Cabot Oil & Gas Corp. (NYSE: COG ) and Range Resources Corp. (NYSE: RRC ) have all taken significant cost-cutting measures, including a reduction in their capital expenditure budgets for the year. With production from the major shale plays remaining strong and the commodity’s demand failing to keep pace with this supply surge, natural gas prices have been held back. Even the summer cooling demand has been of little help. What’s more, with improved drilling productivity offsetting the historic decline in rig count, and expectations of tepid heating demand with the imminent arrival of soft late-summer temperature, we do not expect gas prices to rally anytime soon. Playing the Sector Through ETFs Considering the turbulent market dynamics of the energy industry, the safer way to play the volatile yet rewarding sector is through ETFs. In particular, we would advocate tapping the energy scene by targeting the exploration and production (E&P) group. This sub-sector serves as a pretty good proxy for oil/gas price fluctuations and can act as an excellent investment medium for those who wish to take a long-term exposure within the energy sector. While all oil/gas-related stocks stand to move with fluctuating commodity prices, companies in the E&P sector tend to be the most important, as their product’s values are directly dependent on oil/gas prices. (See all Energy ETFs here ) SPDR S&P Oil & Gas Exploration & Production ETF (NYSEARCA: XOP ) Launched in June 19, 2006, XOP is an ETF that seeks investment results corresponding to the S&P Oil & Gas Exploration & Production Select Industry Index. This is an equal-weighted fund consisting of 73 stocks of companies that finds and produces oil and gas, with the top holdings being HollyFrontier Corp. (NYSE: HFC ), Tesoro Corp. (NYSE: TSO ) and PBF Energy Inc. (NYSE: PBF ). The fund’s expense ratio is 0.35% and pays out a dividend yield of 1.98%. XOP has about $1,472.9 million in assets under management as of Sep 10, 2015. iShares Dow Jones US Oil & Gas Exploration & Production ETF (NYSEARCA: IEO ) This fund began in May 1, 2006 and is based on a free-float adjusted market capitalization-weighted index of 74 stocks focused on exploration and production. The top three holdings are ConocoPhillips (NYSE: COP ), Phillips 66 (NYSE: PSX ) and EOG Resources Inc. (NYSE: EOG ). It charges 0.45% in expense ratio, while the yield is 1.77% as of now. IEO has managed to attract $403.5 million in assets under management till Sep 10, 2015. PowerShares Dynamic Energy Exploration and Production (NYSEARCA: PXE ) PXE, launched in Oct. 26, 2005, follows the Energy Exploration & Production Intellidex Index. Comprising of stocks of energy exploration and production companies, PXE is made up of 30 securities. Top holdings include Phillips 66, Valero Energy Corp. (NYSE: VLO ) and Marathon Petroleum Corp. (NYSE: MPC ). The fund’s expense ratio is 0.64% and the dividend yield is 2.20%, while it has got $92.9 million in assets under management as of Sep 10, 2015. Original Post

How Would Your Portfolio Do In A 50% Market Decline?

By Ron DeLegge Prudent investing in a reckless world has become a long-forgotten idea. And the 6-year run-up in U.S. stock prices (NYSEARCA: VOO ) has certainly been a contributing factor. After love, risk might be the most misunderstood and misinterpreted word in the English language. Today, people’s perverted sense of risk management is making sure they don’t miss the next big run in Netflix (NASDAQ: NFLX ) or Tesla (NASDAQ: TSLA ). Forgetting History People have let their guard down and are once again repeating the same mistakes investors in previous eras have made by underestimating the risk character of their investments. The only difference between now and previous bear markets like 2000-02 and 2007-09 is that everybody today is older and not necessarily wiser. As a result, I felt a certain obligation to help the investing public to have a multi-dimensional and complete view of their entire investment portfolio. But figuring out how to do it on just a single written page that anyone could understand took me years to develop. When I first introduced the idea of assigning a written grade to investors’ portfolios back in 2010, I had my doubts. Would people embrace my Portfolio Report Card concept? Would people send me their portfolio data for diagnosis? How would I fit their final grade onto just one page? Would my grading system be robust enough to work on all portfolios, regardless of the size and tax status? Would people be motivated to eliminate the weaknesses inside their portfolios identified by the Portfolio Report Card? A Crucial Grading Factor In case you didn’t know, risk is one of the most important grading categories of Ron DeLegge’s Portfolio Report Card grading system. And over the past year, I’ve diagnosed more portfolios than the typical investment advisor sees during their entire career. One of the most consistent patterns I’ve seen from the Portfolio Report Cards I’ve recently executed is that people are jacked up on risk because of overallocation to stocks (NASDAQ: QQQ ). Back on Aug. 18, 2004, Bridgewater Associates (run by billionaire Ray Dalio) made a similar observation and classified it as the “biggest investment mistake.” Bridgewater pointed out that over 80% of a typical investor’s risk is in stocks and that because of that overexposure, owning other asset classes like municipal bonds (NYSEARCA: MUB ), Treasuries (NYSEARCA: TLT ), and REITs (NYSEARCA: VNQ ) does little to balance out the portfolio’s risk profile. According to Bridgewater’s analysis, the overallocation to equities at the expense of other asset classes penalizes investors by roughly 3% in expected value, which could be used to cut risk. Put another way, Bridgewater’s original assessment of investors’ portfolios back in 2004 was true and it’s still true today. A Lazy Approach The fairyland idea that prudent risk management is simply a function of doing nothing during a dreadful bear market is popular but ignorant view. First, it incorrectly assumes that bear markets (NYSEARCA: SPXS ) will be short-lived. Second, it incorrectly assumes that bear markets will only happen during non-emergency moments or when we least need our money. More importantly, the do-nothing approach of “staying the course” badly misses in the biggest way because it erroneously assumes that Joe and Jane Investor have well-designed investment portfolios. My data shows quite the opposite; that Joe and Jane Investor have poorly constructed portfolios that are one-dimensional, under-diversified, and not the least bit equipped to deal with a severe market decline of 20% or more. Figure 3, which will be in my upcoming book, provides a sober look at the math of market losses. As you can see, if your portfolio suffers a 50% cut, you’ll need a 100% return just to get back to even. And since the velocity of bear markets happen faster compared to bull markets which tend to happen over a period of years, it often takes many years for an investor to recoup their losses – that’s if they ever recover at all. And that’s exactly why having a margin of safety within your portfolio is imperative. I am grateful to the many people – individual investors just like you – who have allowed me to analyze and grade their investment portfolios. I also want you to know that my Portfolio Report Card grading system just quietly passed a new milestone: over $100 million of investments have now been analyzed and graded. How would your portfolio do during a 50% market decline? Remember: Bear markets have happened in the past and will happen again in the future. And the time to find out if your investment portfolio is architecturally sound and read for the fire is before not after the market event. Original post Disclosure: No positions