NRG Energy Inc. (NYSE:NRG) was supposed to be the utility company of the future. When David Crane ran the company from 2012 to 2015, he pushed into renewable energy by buying a residential solar installer, acquiring portable solar-power products maker Goal Zero, investing billions in renewable energy projects, and launching the yieldco craze with NRG Yield Inc. (NYSE:CWEN)(NYSE:CWEN.A).
But NRG Energy's stock has been in decline since mid-2014, and investors grew restless with Crane's performance. He was pushed out at the end of 2015, and since then, NRG has gone through a year and a half of strategic reviews. Its latest strategic shift, released on Wednesday, was pushed for by hedge funds Elliott Management and Bluescape Energy Partners, which were given two seats on the board earlier this year. And it will shake up NRG forever.
Shifting the focus at NRG
NRG Energy's newly announced transformation plan seems simple enough on the surface:
- Operations and cost excellence: Cut a total of $1.065 billion in costs from operations, most of which will be realized by the end of 2018.
- Optimize the portfolio: Sell between $2.5 billion and $4 billion of assets, and unload $8.7 billion in debt from the balance sheet. This includes selling 50% to 100% of NRG Yield.
- Optimize capital structure and allocation: Remove $13 billion in debt and generate $6.3 billion in excess cash from the business by 2020.
That all sounds fairly reasonable. But when you dive into the details of how those fiscal goals will be accomplished, it becomes clear that NRG is planning to offload most of its renewable energy assets and refocus the company on fossil fuels. That's a strategy built for disaster.
Abandoning the renewable energy track
As you can see below, most of the debt reduction NRG's review highlighted comes from renewables. $6.1 billion will come from selling or de-consolidating NRG Yield. $2.7 billion in debt reduction comes from selling renewable assets on NRG's balance sheet. The remaining $2.6 billion will come from GenOn's bankruptcy, filed earlier this year.
What's notable is that the expected debt reduction, from $19.5 billion today to $6.5 billion on a pro forma basis, comes almost entirely from non-recourse debt. This is primarily debt that renewable projects take on to generate leveraged returns to equity, but it isn't a serious risk to NRG's operations because it's non-recourse to the parent company if there's a default. Instead of keeping these assets and collecting long-term cash flows from renewable projects, NRG Energy is just lopping off those assets and unloading them, which is where the $4.0 billion in cash generation comes from.
Betting on the failing fossil fuel business
What will be left at NRG Energy is the retail utility business and some fossil fuel assets. If that sounds to you like a utility in 1985, it should.
NRG is taking all of its forward-thinking assets with growth opportunities, from wind and solar to EV charging stations, and abandoning them to focus on aging energy assets.
The problem with that strategy is that new energy assets like wind and solar get first priority on the grid, which is really what's crushing wholesale power prices -- and that is precisely what has taken such a toll on NRG Energy. Whether it is a homeowner with solar panels on their roof, or a utility-scale wind or solar plant, the electricity that gets produced has a virtually guaranteed spot on the grid, pushing out fossil-fuel-burning wholesale power companies like NRG. And since solar energy is produced at peak consumption times during the day, that means those legacy plants are selling less power at those lucrative peak-demand rates.
NRG is doubling down on the worst part of the electricity industry today, and while investors are excited about the cash infusion now, the company may not have much of a business in a decade if wholesale power markets keep deteriorating at their current rate. For long-term investors, that's a reason to abandon ship.