Clean energy investment will be a multidecade opportunity as the world increasingly shifts away from carbon-based energy sources. That's the big story behind NextEra Energy Partners (NEP 0.86%).
The problem is that sometimes a big story isn't enough to keep a company going. If you are looking at the ultra-high 11%-plus yield from NextEra Energy Partners today, you need to think well past the yield. Here's why.
NextEra Energy Partners and NextEra Energy
NextEra Energy Partners is what is commonly known as a yieldco. It was specifically created to pay distributions to unitholders, but that has nothing to do with its actual corporate structure as a master limited partnership (MLP). It is tied to its relationship with the utility NextEra Energy (NEE 2.42%).
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NextEra Energy is one of the world's largest producers of solar and wind power and has a huge pipeline of clean energy investments. To help fund its plans, it created and manages NextEra Energy Partners, a fairly simple relationship.
NextEra Energy builds a renewable power asset, and then sells, or drops down, that asset to NextEra Energy Partners. The cash generated from the sale is used to build more clean energy assets, and the cycle continues.
The benefit for NextEra Energy Partners is that each new asset it buys, funded by unit sales and debt, increases the cash flows it generates. And that growing cash-flow stream is used to pay unitholder distributions. But this dynamic has been upended because of NextEra Energy Partners' unit-price decline and high yield.
Indeed, it only makes sense for NextEra Energy to sell assets to NextEra Energy Partners if they are cheaper sources of capital than the giant utility could get elsewhere. Right now, given the huge 11%-plus yield, NextEra Energy has less-expensive choices available to it. It said as much at the end of 2023 when it announced it wouldn't be selling new assets to NextEra Energy Partners for a little bit.
Is the opportunity over with NextEra Energy Partners?
This is where things get interesting. NextEra Energy has cut the target for annual distribution growth at NextEra Energy Partners to around 6%. That's not a bad number, even though it is materially lower than its historical rate of distribution growth.
And there's still a long runway of growth for clean energy investing, broadly speaking. Assuming NextEra Energy Partners can continue to muddle through and that Wall Street eventually recognizes the long-term capital investment opportunity in clean energy, now could be a great time to buy NextEra Energy Partners and lock in a very large yield.
But if NextEra Energy Partners' yield remains elevated for too long, which would mean its unit price remains depressed, the purpose it serves to NextEra Energy would be lost. Similar situations in the midstream sector have resulted in parent entities buying the MLPs they created to simplify their business structures.
There is less opportunity for investment in the midstream sector, which must be considered in this equation. That suggests clean-energy-focused NextEra Energy Partners probably has more attractive benefits for its parent over the longer term.
But that alone might not be enough to save NextEra Energy Partners from a similar fate if the price continues to be moribund and the yield elevated. If NextEra Energy can't use it as a funding source, Wall Street will eventually ask the utility why it is wasting valuable management time and energy running NextEra Energy Partners.
You have to pick a side
Stepping back, NextEra Energy Partners is not an easy investment call. If it returns to being a valuable funding source for parent NextEra Energy, then its hefty yield represents a huge buying opportunity. But you are betting that the price will rebound, and the yield will fall.
However, if NextEra Energy Partners isn't a viable funding source for its parent, it is probably too late for investors to bother with the MLP. There's a very real possibility that NextEra Energy will try to find a way to get out from under its obligation to keep running an entity that is no longer serving its intended purpose.
