· AES announced today that it received Euro309MM (about $350MM) for outstanding receivables from the Bulgarian state-owned wholesale power company, NEK, in-line with the August 2015 amended power purchase agreement (APPA).
Time to turn-up the growth volume || Finally, it feels like AES is turning the corner from restructuring-and-stagnant Street to growth-and-prosperity Boulevard, but investors to hold their breath for 2016. Much is likely to depend on global economic environment, which appear to be on shaky footing. We’d like AES to stop wasting money on share repurchases, and dedicate more of its efforts on reducing recourse debt. We believe that AES should lower its risk premium across the board when evaluating investments in an effort to boost investments and AEPS CAGR. In concert with lower recourse debt, we believe this to be a prudent strategy, something that could have been started in 2014 before all of the capital wasted on share repurchases. Also, at least, we’d encourage AES to drastically reduce the dividend, if not eliminate it, and use it for equity portion of investments. We’d encourage AES to rid itself of US T&D in exchange for generation assets, and look to expand its core competencies in global generation, especially in Brazil, and in general, any free-market country, which demonstrates distress asset valuations. We also look for AES’ success in Mexico through participation in Mexico’s restructuring of its state-owned electric utility.
Calpine is the template for the future of independent power || Given environmental regulations/legislations, we believe Calpine Corporation is not only the model for all future IPPs in the US, but also, and perhaps more importantly, the voice of the industry, in our opinion. Despite this CPN is trading at inappropriate levels due mostly to natural gas prices and soft US economy. However, we believe there’s room for CPN to move to ~$24/share over the ST. Strategically, there is little to criticize. We also applaud management’s move towards using unsecured debt and taking advantage of low interest rates. We believe Granite Ridge, Fore River and Guadaloupe deals reflect management’s good judgment, and we feel CPN’s growth program is on target, for now. However, we would like to hear more about its plans to not only solidify its competitive advantage, but also how it plans to extend this advantage over the next 1-2 decades. Development of Glass Mountain geothermal would be good move in right direction, in our opinion. In the NT, we feel commodity prices will continue to challenge CPN, but over ST-to-MT the importance of heat rates will likely start to dominate IPP valuations as, finally, older and less efficient plants are retired. Champion Energy acquisition leaves us somewhat puzzled and is an unexpected development, the prudency of which is yet to be decided. Lastly, we believe virtually all environmental issues work towards CPN’s advantage, but we can’t accurately nor absolutely evaluate impact of more renewable developments.
AES is at a critical strategic inflexion point: Is AES a growth vehicle? || AES is at a strategic inflection point and should return to its roots as a power company: We would like AES to at least sell DPL’s T&D assets and use the proceeds to expand its power portfolio. Also, it feels to us that AES has been on a 12-year restructuring that seems destined to continue for at least another 6-12-months or so given its target to sell another $500MM by YE2015. Good news is AES appears to be exiting this journey; bad news is that its MT+ growth prospects don’t appear as robust as it was in the past, only managing a tepid 6%-8% growth beyond 2019, while 1-3 year growth prospects appear to be about 10%-12%. But, its tepid valuation seems to reflect more of the MT-LT prospects than ST-MT projections. We believe this may lead to a ST+ opportunity for AES investors through the anticipated rise in power prices over the next several years, keeping in mind that the LT challenge for AES is to accelerate its bottom-line growth to at or above 15%/year. The best opportunity for this turnaround, in our opinion, lies in Mexican opportunities. Regardless, we believe that an 8.7x on our 2016E AEPS is unwarranted and feel that AES should trade closer to ~$16-$17/share or at about 14.0x-15.0x on our 2016E AEPS.
On February 9, 2016, the Supreme Court of the US (SCOTUS), in a 5-4 verdict, stayed the implementation of the Clean Power Plan (CPP) until the DC Circuit Court could review the plan.
First time in almost 15 years, the electricity industry is facing rapid changes. Not since the separation of generation from transmission and distribution (T&D) businesses has the industry faced so many changes. Some of these include renewable portfolio standards (RPS), greenhouse gas (GHG) regulations, other regulatory and legislative changes, and the proliferation of distributed generation, energy storage, smart meters and smart grids, electric vehicles, and renewable power. Many view these changes as challenges and hurdles, but we believe that these changes should not be viewed as challenges, but opportunities, particularly for the utility sector and conditionally for the independent power producers (IPP).
Some of the more difficult issues involve RPS, and GHG regulations on the regulatory/legal side and the proliferation of distributed generation, renewable power, energy storage and electric vehicles from a commercial viewpoint. Many of these issues are interrelated and entangled and one change cannot be properly accommodated without integrating another change properly. From a high level, we believe that challenges encompassing these changes are as follows:
• As expected, due to mild weather, gas prices dipped below $3/MMBTU and continues to languish
• However, the strange turn in March weather has alleviated the downward pressure on gas prices
• Our forward-looking forecast on commodity prices does not consider the possibility of additional strange weather patterns occurring, i.e., we assume normal weather for the rest of 2017
• We believe that two factors will contribute to higher demand that will drive gas prices up in 2017 and 2018, which would keep gas prices mean-reverting above $3.50/MMBTU levels, in our view:
o Higher economic growth conditioned on reductions in both corporate and personal tax rates, and
o Accelerating liquefied natural gas (LNG) exports
• We believe that higher economic growth should eclipse the approximately 1.9% growth in supply (some 1.4BCF/Day) in 2017 projected by the EIA
o Our optimism wouldn’t be warranted under the economic environment of the last 6 years or so, which saw annual average economic growth of just above some 1.5%
o Our optimism is based on the expected accelerating economic activity brought on by the expectant reduction in corporate tax rates and enhanced by an expectant cut in personal income tax rates as well; we believe that these new economic and tax policies will create a positive virtuous economic cycle that would propel GDP growth beyond 3%, which should quickly absorb a 1.9% growth in natural gas supply, in our opinion
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