Please ensure Javascript is enabled for purposes of website accessibility

Is NRG Energy Stock a Buy?

By Reuben Gregg Brewer – Jun 25, 2020 at 9:33AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

NRG Energy is charting a new course and looking to reward investors with dividend growth. But there's a lot more to this story that you need to know.

NRG Energy (NRG -2.32%), having repositioned its business for the second time since the start of the new millennia, offers investors a generous 3.5% yield. Better yet, it has plans for 7%-to-9% dividend growth, which is material for a utility stock. But the story here isn't as simple as it seems -- and there are some important factors to consider before you jump aboard. 

A troubled past

Without getting into too many details about old events, U.S. utility NRG Energy went bankrupt in 2003. That's not such a good backdrop, but this happened nearly 20 years ago. After emerging from court protection it started to rebuild, along the way buying up a merchant power company (in 2013) and building a renewable power business, hitting on what has been an important global theme.

In 2017 NRG Energy's GenOn unit (effectively the merchant power company it bought just a few years earlier) filed for bankruptcy and was handed over to creditors. Then in 2018 it sold its stake in NRG Yield, the renewable power business it built. While an oversimplification, NRG Energy basically emerged from its own bankruptcy, built some businesses that didn't work out as hoped, and had to go back to the drawing board -- again. 

A man with power lines in the background

Image source: Getty Images

That quick history lesson brings us up to 2020. NRG Energy operates in two main business lines: a retail power seller with a material position in Texas and a smaller operation in the eastern part of the country, and a contract power generation company, producing power largely in Texas with a smaller footprint in the eastern region. It reports its business in two segments as well: Texas (roughly two thirds of adjusted EBITDA) and Eastern/Other (the rest), effectively pairing production assets with the regions in which they operate. Presumably the company's second makeover is pretty much complete at this point. 

The company as it stands

Clearly Texas is NRG Energy's most important business, which is good and bad. The state has been growing for years thanks to oil and natural gas investment. However, low energy prices have suddenly left that sector reeling, and it's likely to be at least a near-term headwind for the state. Basically, the state that has the biggest impact on NRG isn't exactly firing on all cylinders. Making matters worse, roughly 58% of NRG's power in the region comes from coal, a fuel that's increasingly being replaced with often cheaper, and always cleaner, renewable power alternatives.

The rest of the company's Texas fleet, meanwhile, is basically split between natural gas (about 17%, and often considered a carbon-based transition fuel) and always-controversial nuclear power (close to 26%). The company's Eastern division has a similarly carbon-heavy footprint, with coal at 27% of its generation capacity and natural gas at roughly 70%. 

While not the end of the world, NRG has basically made a heavy bet on carbon. At the start of 2020 renewable power was less than 1% of NRG's capacity. In fact, the amount of renewable power in the company's fleet fell roughly 98% between 2018 and 2019. That makes sense given that it sold its stake in NRG Yield in 2018, but it's pretty much the opposite direction that most other utilities have been heading in recent years.

So while all of the repositioning over the last couple of years has helped stabilize the company's leverage profile (financial debt to equity is around 1 times today, compared to over 3 times in 2016), it may have set itself back materially on the generation front. And the repositioning definitely led to some pain for income investors, since the dividend was slashed about 80% along the way. 

NRG Financial Debt to Equity (Quarterly) Chart

NRG Financial Debt to Equity (Quarterly) data by YCharts

To be fair, with the reset complete, the dividend was increased materially at the start of 2020. And, even as NRG Energy deals with the impact of COVID-19, it expects to be able to grow its dividend between 7% and 9% as the year progresses. It also believes it will have enough excess cash flow and financial capacity to make opportunistic growth investments. That level of dividend growth is generous in the utility space, and it makes sense that investors would find NRG Energy appealing for that reason alone. But opportunistic investments should probably cause a little trepidation, since the company doesn't exactly have a great track record on that front. Moreover, with Texas' oil sector facing its own set of troubles (which could last for a long time) and a carbon-heavy generation footprint, NRG Energy still seems like it's a little out of step with the broader utility space today. It's not clear that the utility is really as well positioned as management would like investors to believe. 

Maybe not the best option

There are a lot of options in the utility sector that don't come with all of the baggage that NRG Energy has. Yes, the dividend growth sounds great, but there are some negatives here that conservative dividend investors should probably think about before investing. In the end, most will likely find that other stocks in the sector present a better risk/reward trade off.

Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

NRG Energy, Inc. Stock Quote
NRG Energy, Inc.
NRG
$38.27 (-2.32%) $0.91

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
326%
 
S&P 500 Returns
102%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 10/02/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.