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Analysts see little reason for Exelon, PSEG to spin off generation businesses

Exelon Corp. and Public Service Enterprise Group Inc. are unlikely to sell or spin off their highly valued generation businesses given their importance to earnings growth and uncertainty around carbon regulations, analysts contend.

"We calculate current stock prices are implying a $20.1 billion enterprise value for Exelon's non-utility generation business [Exelon Generation Co. LLC] and $10.2 billion valuation for [PSEG Power LLC], which sits under the Public Service Enterprise Group umbrella," CreditSights analysts Andrew DeVries and Nick Moglia wrote in a March 14 report. "These valuations and the EBITDA multiples [of each competitive generation business] continue to not support either management team spinning off either genco anytime soon."

CreditSights noted that the stock market is valuing Exelon Generation at 6.7x 2019 expected EBITDA of about $3 billion and PSEG Power at 11.3x 2019 estimated EBITDA of $900 million. This compares to valuations of pure-play generation businesses NRG Energy Inc. and Vistra Energy Corp. of 7x to 9x estimated EBITDA, "so we see very little chance of sale/spin risk to unlock equity upside," the analysts wrote.

Outside of enterprise value multiples, CreditSights said uncertainty lingers related to federal policy impacting carbon dioxide emissions that could make it imperative for the companies to hold on to their nuclear and renewable assets.

"[W]e don't think either parent company would seek to sale/spin either portfolio before the next presidential election owing to the strong chance many candidates have an anti-CO2 stance that boosts the value of both portfolios significantly," the analysts wrote. "Both subsidiaries generate more than half of their earnings from emission free sources ... which represents a long-term call option on future political regimes implementing any form of a carbon tax."

Guggenheim Securities LLC analyst Shahriar Pourreza, who was "on the road" with Exelon management, said the generation company "isn't going anywhere soon."

"Management retains its faith in the integrated model, as strong cash flows at the generation business support both the dividend and the [approximately] 8% rate base growth at the utilities and a [divestiture] would create too many dis-synergies," Pourreza wrote in a March 13 report.

"Management expects some [$8 billion] in available cash through 2022 from [Exelon Generation] as it is, with the funds put to use investing in the utilities [approximately $4.2 billion], deleveraging [approximately $2.5 billion], the dividend [approximately $400 million], and finally a small amount of growth capex [approximately $600 million] for things like contracted solar," Pourreza added.

Pourreza said Exelon and PSEG also have the "clean, job-generating assets that state and federal policymakers want to keep in operation."

In addition, legislation in Pennsylvania and Illinois could provide relief for nuclear generation. The process of implementing zero-emissions credits for nuclear generation in New Jersey is ongoing.

"We believe some investors are assigning an unjustified policy overhang to [Exelon Generation]," Pourreza wrote. "We have long seen policy as the 'third factor' dictating power revenues for gencos and [independent power producers], and while federal policy has done little to improve the lot of either party, the states have moved steadily in Exelon's favor."