After Texas disaster, NRG, Vistra look vulnerable

After surprising the market with substantial capital losses from the mid-February deep freeze in Texas, NRG Energy Inc. and Vistra Corp. have sparked speculation that one or both could soon be taken private.

"It is not far-fetched to assume that private equity is willing to pay for assets," Guggenheim Securities LLC analyst Shahriar Pourreza said in an interview.

CreditSights on March 23 downgraded Vistra's bonds to "underperform" from "market perform" on "very high" leveraged buyout risk, with analyst Andrew DeVries noting that the company's stock is trading under 6x enterprise value/2022 EBITDA.

"This valuation is simply too cheap for [Vistra] CEO Curt Morgan, a former private equity executive, to ignore," DeVries wrote.

Morgan served as an operating partner at Energy Capital Partners LLC prior to taking the helm at Vistra, formerly a subsidiary of Energy Future Holdings Corp., in October 2016.

"Clearly, he's very attuned to what private markets expect," Pourreza said.

CreditSights also highlighted the strong financial performance and balance sheet of Calpine Corp. after it was acquired by an investor group led by Energy Capital Partners in 2018.

By the numbers

CreditSights laid out a scenario with a takeout price of $21.25 per share for Vistra, equivalent to a 25% equity premium, for an equity value of about $10.3 billion and a $19.6 billion enterprise value. The firm believes that such a transaction which would be 50% debt funded and would require $5 billion in new debt.

"There is just too big a disconnect in the public markets where no marginal buyers want to step in and take the price spike risk vs. private equity that could come in and add real value winterizing the plants," DeVries said in an email.

Vistra's stock closed at $16.70 on March 23. The company's shares plummeted more than 20% on Feb. 26 after executives disclosed a financial hit as large as $1.3 billion from the near grid collapse in the Electric Reliability Council of Texas Inc. during February's deadly winter storm.

Guggenheim's Pourreza said the Texas energy crisis "destroyed a lot of confidence" investors had in independent power producers. Guggenheim downgraded NRG and Vistra to "neutral" March 17 as the firm said it is "moving to the sidelines" until it gets more clarity on the situation in Texas.

"We believe investors will remain justifiably wary of Texas until more clarity comes on all fronts and the curves fully reflect the risk of operating in a state where resource adequacy is dependent upon the frequency of scarcity," Pourreza wrote in a research report.

As fully integrated power providers, NRG and Vistra also own large retail electricity companies in Texas. Vistra has a "long" position, with more generation capacity in Texas than retail load, while NRG has more retail load than generation.

Pourreza said these retail books, which would also go private in a transaction, provide "an exit option" for private equity firms.

Irving, Texas-headquartered Vistra disclosed Feb. 17 that only about 1,000 MW of its more than 19,000 MW of generation was offline during the energy emergency.

However, the Public Utility Commission of Texas set electricity prices at the $9,000/MWh cap after load shedding artificially reduced power demand. This, along with supply constraints for its natural gas plants, meant Vistra had to procure power "at prices at or near the price cap."

"[T]his load curtailment shifted the entire risk from what should have been on a retail segment back to a generation segment because of its linkage to the fuel supply challenge on particularly natural gas," Vistra President and CFO James Burke said Feb. 26. "And that's where we were long. We had an ability to capture this, but you're long if you get the fuel. If you don't get the fuel, you're short."

After NRG executives initially told analysts and investors to expect a potential positive or negative $100 million impact to its 2021 guidance ranges from the storm, the company said March 17 that it expects an interim financial loss of $750 million.

Executives said about 15% of NRG's financial impact is tied to ERCOT's latest systemwide default of $3.1 billion. NRG's stock closed down more than 17% on March 17.

"The pool of equity investors willing to invest in the limited public power generation sector continues to decline as NRG and [Vistra] have now shown us it is possible to lose one-third of a year's EBITDA in just a few days of extreme weather," DeVries wrote.

Investment grade within reach?

In putting NRG on CreditWatch with negative implications, S&P Global Ratings noted that the cost of the storm will hinder the company's deleveraging efforts and will halt the improvement in its credit metrics over the short to medium term.

NRG said the latest estimated financial impact could cause the company to extend its debt reduction program and delay the achievement of its investment-grade credit metrics to 2022.

For Vistra, CreditSights said investment grade is a late 2022-early 2023 event but could be pushed to as late as 2024.

"[W]e simply don't see CEO Curt Morgan waiting that long when Calpine's owners are printing money, clipping dividends and borrowing at [less than] 5%," DeVries wrote.

The analyst highlighted Blackstone Group Inc., Apollo Global Management Inc., ArcLight Capital Partners LLC, Carlyle Group Inc., Oaktree Capital Management LP and LS Power Group as large enough to fund an acquisition of Vistra, with the firms also having significant experience in power generation.

While it is "not unreasonable to assume" that either NRG or Vistra goes private, Guggenheim's Pourreza said it is "a very big check for private equity to write."

There are also "market power concerns" in Texas, which means certain private equity firms, such as Energy Capital Partners, would be prohibited from buying IPPs. Although Guggenheim also sees investment-grade ratings for the sector pushed out to late 2022 or early 2023, Pourreza said the "forward fundamentals have not deteriorated."

DeVries, meanwhile, said there is "no chance" that NRG or Vistra would try to separate their generation and retail businesses, given the recent rash of bankruptcies and defaults plaguing retail energy providers in the aftermath of the energy crisis.