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Retail rising: Crowded market sparks scrum for power customers

This is the second segment in a two-part series exploring competitive power's retail growth strategy and the frenzy for retail portfolio acquisitions. Read the first part here.

Describing deal multiples on retail energy portfolios outside Texas, Vistra Energy Corp. CEO Curt Morgan recently called valuations "a little frothier" than he would prefer, suggesting an influx of fellow suitors with similar strategic interests in expanding their retail presence.

The increasingly competitive market for retail energy businesses is being driven by the sizable, and thus attractive, growth opportunity they represent. In 2017, more than 1,300 TWh was designated as eligible to be served by competitive retail energy suppliers across states with retail energy choice, according to DNV GL Competitive Energy Markets research. Of that addressable market, only about 788 TWh total was served by competitive retail energy suppliers, with about 608 TWh going to commercial and industrial, or C&I, customers, and the balance to mass-market retail customers, DNV GL's data shows.

Additional prospective benefits to mergers between large integrated power companies and smaller retail targets include cost synergies from systems integration of customer acquisition, billing and monitoring services. Under the umbrella of a larger balance sheet, retail suppliers could also look to draw on internal resources for physical supply collateral and credit obligations tied to their trading positions, as required by grid operators, a move that could help firms sidestep fees from third-party commodities wholesalers and lenders, senior power executives and retail energy market advisers told S&P Global Market Intelligence.

In a prime example of the emergent trend among independent power producers, NRG Energy Inc. announced March 27 a $210 million deal to acquire retail electricity, renewable and natural gas provider XOOM Energy LLC, a transaction that should provide NRG with access to 300,000 customers primarily in Eastern markets.

Earlier in March, NRG President and CEO Mauricio Gutierrez described his company's strategic interest in strengthening positions in generation and retail, noting that potential wholesale price uplift in the Electric Reliability Council of Texas' pure energy market during extreme weather events this summer could offer a valuable counter-balance to weaker retail margins.

"Volatility creates opportunities, and it creates opportunities for retail companies and generation companies that are well-positioned," Gutierrez said March 1. "We saw it during the polar vortex, and we actually are ready to capitalize on this opportunity as customers look to move to retail companies that are better capitalized, that have generation behind them and superior service that we provide."

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An employee of CenterPoint Energy installs a smart meter in Houston, home to one of the country's most competitive retail energy markets.

Source: Associated Press

Opportunity set

Winning new customer accounts in retail and commercial energy markets can be time-consuming and costly, market observers agree, adding to the appeal of third-party acquisitions. Bringing in experienced retail management teams may offer long-term competitive advantages, as these teams themselves have been active acquirers of smaller regional retail books to meet growth objectives.

"The competition is high," ENGIE North America Inc. President and CEO Frank Demaille told S&P Global Market Intelligence, referencing retail markets versus more fluid commercial markets, where ENGIE is active. "It's fair to say it's a difficult market, and we're constantly revisiting our strategy because we believe if you just push electrons, it won't work."

Spark Energy Inc.'s operations across the PJM Interconnection and ISO New England market territories would appear to make it a natural candidate for generators keen to match their long positions in the regions with retail, as well as integrated suppliers looking to amp up their retail expertise. Spark CEO Nathan Kroeker in a March 11 earnings call acknowledged that the company has fielded "some interest over the last several months" from IPPs as it moves to consider strategic alternatives with the help of Morgan Stanley.

Similarly, peer energy retailers with wide footprints in Eastern markets, like Crius Energy Trust and Centrica Plc's Direct Energy LP, are also said to have weighed potential strategic action according to one senior banking source, but have remained on the sidelines alongside Just Energy Group Inc. Elsewhere, a potential spinoff of FirstEnergy Solutions Corp.'s customer portfolio could offer potential suitors another path to bolstering their retail exposure outside Texas, another senior banking source familiar with the matter observed. FirstEnergy's competitive retail unit counted about 900,000 direct, government and mass market retail customers at the end of 2017, for about 24.5 TWh in combined load, according to a Feb. 20 filing. NRG's acquisition of XOOM also points to strategic interest in smaller, privately held energy retailers like North American Power and Gas LLC, Inspire Energy Holdings LLC, IGS Energy Home Services LLC and Frontier Utilities Inc., among others.

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Consolidating competition

ENGIE North America, which owns Think Energy, has organically grown its retail customer base to roughly 120,000 accounts in Texas, but the company said it is looking to expand its retail portfolio and is "currently considering acquisition opportunities to do so." That would build on its aggressive expansion into building an integrated commercial energy supply platform, which has guided the company's recent acquisitions of Infinity Renewables LLC and SoCore Energy LLC.

ENGIE SA represents just one strategic buyer with a large foreign balance sheet eyeing a greater share of U.S. retail energy markets. Royal Dutch Shell PLC and foreign utilities like Centrica, Enel SpA and Tokyo Electric Power Co. could also be among those firms eyeing expansion into competitive retail and C&I markets, retail market observers say.

The limited universe of publicly traded retail energy companies, and their small private peers, could also invite private equity buyers to aggregate retail portfolios and flip them back to strategic buyers as valuations rise, according to one boutique power investment adviser. LS Power Group is one such specialized private equity investor that could look to build on its own retail energy platform, LifeEnergy LLC, which launched in early 2016. Both LS and private equity peer Energy Capital Partners are in the process of raising two new buyout funds, with targets of $2 billion and $6 billion, respectively, according to securities filings from December 2017.

Multiples on retail deals could fetch premiums in line with recent acquisitions by Calpine Corp. and Exelon Corp.'s Constellation Energy Group Inc., hovering around a 5x-6x EBITDA multiple, though potentially higher, the senior banking source suggested, depending on potential synergies with existing retail platforms and the general competitive appetite.