We’re sad CPN got taken out at basement price; A sad last goodbye

CPN looks to be on track to be privatized by 1Q2018 end
CPN is getting taken out at $15.25/share, well below our NIV of some $48/share and ST-Target of $34/share
We would expect an IPO of CPN once the FERC restructures the wholesale power market pricing mechanism to not only properly incorporate the true marginal pricing of renewable generation, but also to properly value ALL ancillary services and reliability and resiliency features
CPN reported 3Q2017 AEPS of some $0.63 and $669MM in AEBITDA vs. our estimate of $0.61 in AEPS and $727MM in AEBITDA, while consensus estimated AEPS at about $0.65
As of this note, while we will continue to monitor the company, we will no longer be publishing on CPN unless the privatization is reversed or another bid is accepted

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As predicted CPN is going private, but at a disappointing price

Terms of the Deal:

CPN announced that it agreed to be acquired by Energy Capital Partners (ECP), and a consortium of investors led by Access Industries and Canada Pension Plan Investment Board (together the “Buyers”) for $15.25/share in cash leading to an equity valuation of some $5.6B
The transaction has a 105 day “go-shop” period that ends 1 minutes past midnight of Friday, December 1, 2017
If CPN receives a superior bid then it may disband the current deal for a break-up fee of some $65MM, otherwise, should CPN choose to cancel the transaction, for whatever reason, then the break-up fee is $142MM.
The deal is expected to be consummated in 1Q2018.
The current management team is expected to remain in place.

Conclusion:

Disappointing selling price:
Potential alternate industry buyers:
Could another PE buyer offer more? Absolutely, in our opinion:
We believe a new bidder would emerge before December 1, 2017: Therefore, we must conclude that there ought to be another PE buyer looking at buying CPN, and we look for a competing bid to emerge before December 1, 2017, possibly in the range of some

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CPN 2Q2017 Earnings Note: We believe CPN is all but privatized; sticking point would be SB100

We believe CPN is all but privatized; sticking point would be SB100 || We feel CPN already has a deal or is close. Key sticking point is likely SB100 in CA that mandates 100% renewable for retail sales. If passed, SB100 would relegate CPN’s CA CCGTs relatively useless or would have to run as peakers, which diminishes CPN’s value. Our preliminary valuation suggests that CPN’s equity value would be about $0/share if all of its CCGTs were shut-down in CA, $15-$20/share, if run as SCGTs, and over $30/share with normal operations. Therefore, we believe that CPN will be privatized between $17-$18/share, in-line with our ST-Target. If the deal fails then we agree CPN should focus on debt repayment – $1 debt repay is at least $1 accretion to equity value – and Retail. But as we previously noted, it seems macro-economic situation is improving, and we feel it would accelerate into 2018. Target debt repayment of $2.7B translates into at least some $7.60/share. Operationally, we believe that expansion of Retail through organic means is correct given that major pieces of the business is in place. We agree accelerated closure of coal plants is coming, industry is moving more towards reliance on renewable energy, and even the slow improving natural gas prices are all tailwinds for ST-to-MT gain for CPN. Strategically there’s little to criticize, and it seems CPN has disavowed share buybacks. But, in improving fundamental market and aggressive debt repayment, we believe CPN’s hedging program is too aggressive. In MT-to-LT, we believe importance of heat rate will likely dominate IPP valuations.

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The Logic NY Fed Court Decision to Uphold ZECs is Spurious

The US District Court of the Southern District of New York (Fed District Court) yesterday ruled through New York Southern District Judge Valerie Caproni dismissed all challenges to New York’s Zero Emissions Credit (ZEC) program
The decision by Judge Caproni, though seemingly logical, is actually spurious, in our opinion. The decision was based on the following logic and comparison:
While we do appreciate Judge Caproni’s position and interpretation of the law, we note several inconsistencies in the Judge’s arguments

By acknowledging that financial subsidies do allow otherwise uncompetitive sources of generation to be built, Judge Caproni is acknowledging that financial subsidies do distort market pricing because it increase supply into the market relative to demand, which by definition, ALWAYS NEGATIVELY affects pricing

Conclusion: Therefore, we continue to believe that as the case is appealed to higher judicial authority, we maintain that the most rational outcome is the reversal of both NY and IL subsidies for nuclear power. However,

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Power Company Privatization will Lead to Unintended Consequences

Lately there has been talk about privatizing power companies, including both CPN and NRG, and while we believe that the most rational course for these companies may be to go private – given the lack of “enthusiasm” for these names in the public markets – we are certain that the end result will not be either what the market expects nor what the regulators, politicians and, most of all, what the consumers desire
The assumptions we are making in our analysis are as follows:
Private equity (PE) investors are not unintelligent and will act in their own self-interest
Virtually all of the market (public and private) believe in the theory of “all else being equal”
Market forces move along least resistant path absent paradigm shift, typically externally imposed
As reserve margins dip below 12% market prices become more volatile and margins begin to expand at an accelerated rate
PE investors will be betting on the reduction of debt from internally generated free cash flow and asset sales, supplemented by cost reductions, to increase the equity value of its investments with the option value of changing market dynamics to further boost its rate of return
The first thing that PE investors are likely to do is to make the assumption that the underlying market forces and conditions don’t/can’t/won’t change for the foreseeable future
Based on these underlying assumption, PE investors will be able to figure out which plants they buy will remain profitable, which won’t and which are on the margin

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CPN 1Q2017 Earnings Note

Rightly, debt repayment is priority with Retail holding steady ||

Market appreciation for power stocks is lacking with CPN trading near its book value. In face of apathy, we agree CPN should focus on debt repayment – $1 debt repay is at least $1 accretion to equity value – and Retail. But, we feel macro-economic situation may improve in 2017, accelerating into 2018. Target debt repayment of $2.7B translates into at least some $7.60/share, which leads to our ST-Target. Operationally, we believe that expansion of Retail business through organic means is correct given that major pieces of the business is all in place. We believe Cal-ISO decision to grant 2 RMR contracts to CPN peaking units are but tip of iceberg for shareholder benefit. Decision to use PPA in place of building Guadalupe is in-line with our expectations and right thing to do, in our opinion. We continue to believe CPN’s story is about LT future of power. We agree accelerated closure of coal-fired generation is coming, industry is moving more towards reliance on renewable energy, and improving natural gas prices are all tailwinds for ST-to-MT gain for CPN and credit metrics likely to improve rapidly. Strategically there’s little to criticize, and it seems CPN has disavowed share buybacks. But, in improving fundamental market, we believe CPN’s hedging program is too aggressive. Improving commodity prices should continue, at least through 2017, but beyond depends on economy, which we believe may surprise. In MT-to-LT, we believe importance of heat rate will likely dominate IPP valuations.

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CPN 4Q2016 Earnings Note

ST Value Creation through Debt Repay, but Economy may Surprise ||
We feel CPN is focused on debt repayment to create value – $1 debt repay is at least $1 accretion to equity value – which we agree is correct in unexciting market/economy. But, we feel macro-economic situation may change fairly quickly for better in 2017, accelerating into 2018. Target debt repayment of $2.7B translates into at least some $7.6/share, which leads to our ST-Target. Operationally, acquisition of Noble Americas Energy Solutions (NAES) introduced CPN Retail to customers in 8 states in which CPN has no-to-low generation, but we believe this isn’t an issue. Decision on Guadalupe construction expected in 2H2017, but likely to be renegotiated. Rejection by Nevada PUC for acquisition of South Point doesn’t mean CPN shuts it down. In our opinion, we continue to believe CPN’s story is about LT future of power. We agree accelerated closure of coal-fired generation is coming, industry is moving more towards reliance on renewable energy, and improving natural gas prices are all tailwinds for ST-to-MT gain for CPN and credit metrics likely to improve rapidly. Strategically there’s little to criticize, but we’d like CPN to disavow share buybacks, and in improving fundamental market, we believe CPN’s hedging program is too aggressive. Improving commodity prices should continue, at least through 2017, but beyond depends on economy, which we believe may surprise. Also, over MT-to-LT, we believe importance of heat rate will likely start to dominate IPP valuations.

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CPN 3Q2016 Earnings Note

Cyclical upside around the corner ||
Lowered our capacity price expectations, which lowered our NIV/share to $41 from $56. Even as recent fundamentals seem weak, we believe that 2017 is turnaround year. CPN reduced top end of guidance by another $50MM to $1,850MM, but, market fundamentals are clearly improving and weather continues to be cooperative. So, we continue to believe that CPN’s still well-poised to deliver strong returns for shareholders over NT-to-MT. Also, in our opinion, in LT CPN’s story is about future of power and well beyond just macro effect of economy and commodity prices. We agree accelerated closure of coal-fired generation is coming, industry is moving more towards reliance on renewable energy, and improving natural gas prices are all tailwinds for ST-to-MT gain for CPN and credit metrics are solid. Strategically there’s little to criticize, but we’d like CPN to disavow share buybacks, and in improving fundamental market, we believe CPN’s hedging program is too aggressive. Improving commodity prices should largely continue, in our view. However, over ST-to-MT, we believe importance of heat rate will likely start to dominate IPP valuations. Environmental issues that continue to plague others present opportunities for CPN. We’d like to see CPN develop Glass Mountain Geothermal. Noble acquisition feels right, but separate management from Champion makes little sense to us. We like CPN’s balance sheet management.

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CPN Buys Noble Americas Energy Solutions, a Retail Operation

• CPN announced that it purchased Noble Americas Energy Solutions (NAES) for $900MM:
o NAES is a provider of retail electricity services for commercial and industrial customers
o Synergy savings and run-off from old legacy hedges (together Synergy Savings) is expected to be some $200MM, primarily in the first year
o Run-rate AEBITDA is estimated to be some $140MM, resulting in a purchase price that is about 6.4x the expected run-rate AEBITDA, net of synergy savings about 5.0x
o The NAES acquisition is expected to double the volume of retail load that CPN could service

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