By Robert Sternthal and Anthony Kim
With everyone in the U.S. solar market looking for new methods of financing, why is there so little discussion on NRG Energy’s recent initial public offering (IPO) of its ‘YieldCo’, NRG Yield?
On its face, the IPO may be a game-changer, offering companies with larger, bankable portfolios a new way to recapitalize and finance their renewable energy projects and future developments with the lowest cost of capital available in the market.
Some may argue that there are already a number of Canadian-listed companies that are similar in purpose to NRG Yield. Just a few months back, Silver Ridge Power, another portfolio company, planned to IPO in Canada, with proceeds used to acquire solar projects owned by AES Solar. However, the make-up of the assets in NRG Yield and the NYSE listing are significantly different from other YieldCos that led to last week’s successful IPO (unlike Silver Ridge Power, which withdrew its IPO despite a reduction in share price).
Let’s first discuss what NRG Energy has done here:
- The portfolio, which is all U.S.-based, mixed conventional and thermal assets with renewable assets in one public vehicle. The renewable assets provide about 42% of the cash flows on a projected basis, while they make up only 29% of the net generation.
- The conventional assets provide income, as do the renewable assets, but the renewable assets will provide additional tax benefits that shelter much of the YieldCo’s income going forward.
- Adding new renewable assets (without a separate tax equity investor) will further reduce NRG Yield’s taxes payable, leaving more cash for dividend distribution.
- NRG Yield is a project-only company; management remains at NRG.
- NRG will continue to develop projects that can ultimately be monetized in NRG Yield, giving NRG an automatic exit for its assets so long as NRG Yield can issue more equity.
- While the initial yield dividend will provide investors with approximately a 4.32% dividend (assuming today’s $27.80 share price), projected growth in NRG Yield’s cash flows for expected projects will provide a significantly higher return through a higher dividend going forward.
How does this affect the U.S. solar industry? In the current market, there is currently few efficient ways — if any — to finance distributed generation (DG) assets, but a majority of new build in the U.S. solar market is expected to be from DG or residential solar, not utility-scale solar.
As of the date of the IPO, the majority of the renewable energy capacity in NRG Yield’s portfolio consists of utility-scale solar, not DG solar. So the question is now whether NRG will decide to use NRG Yield as an acquisition platform for all of the DG assets developed by NRG and others in the market. If so, what will be the parameters of those assets going forward? Will investors be comfortable with DG assets being responsible for a greater share of the portfolio’s cash flows? Put another way, will investors be comfortable with utility-scale solar taking a less active role in the YieldCo, especially considering how large of a cash flow impact utility-scale solar has on the current NRG Yield portfolio?
If NRG and NRG Yield can effectively and efficiently find a way to put larger portfolios of diverse DG assets into its portfolio, such assets will certainly be accretive for shareholders, especially if the vehicle uses the Investment Tax Credit (ITC) to offset income from its other assets. In order to efficiently utilize the Investment Tax Credits and Modified Accelerated Cost Recovery System (MACRS) depreciation from the renewable assets, NRG Yield will need to continually add income-producing assets to its portfolio whether conventional generation or seasoned renewable assets.
The question remains if the public markets are ready to accept a larger role played by solar DG in a YieldCo. If the answer is yes, we can probably say goodbye to continuing discussions on REITs, MLPs and other vehicles as the primary financing tool going forward for solar DG. The reader should note that there are many more renewable energy owners and developers in line to establish their own YieldCo. Just ask your local investment banker.
Robert Sternthal is president of Reznick Capital Markets Securities (RCMS) and has extensive experience in financing renewable energy transactions, whether they are in the wind, solar or biomass sectors. Anthony Kim is an analyst at RCMS and has previously written numerous research reports while working at Bloomberg New Energy Finance.