While Princeton, N.J., power producer NRG Energy Inc. has been trying to thwart a $4.7 billion hostile takeover by Chicago giant Exelon Corp., rumors have been swirling that it's considering picking up Reliant Energy Inc.'s retail operation.
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Carl Blake, an analyst at bond research firm Gimme Credit LLC, thinks it's a bad idea. In a report issued Thursday night, he wrote that while the deal would nicely complement NRG's generation assets in Texas, the business has competitive, regulatory and operational issues, requires a lot of capital and doesn't fit well with NRG's wholesale-focused strategy or skill set.
"The bond and stock market's negative response to a potentially re-leveraging transaction makes sense, but we think NRG's management has a grasp on the situation and, therefore, wouldn't expect NRG to emerge as an aggressive bidder for the property," he wrote.
Blake thinks a better idea would be buying Calpine Corp. Gimme Credit liked the $9.6 billion transaction when it was announced earlier this year, and Blake thinks it would have better leveraged NRG's operational expertise. He says Calpine's idle assets offer great upside potential but don't currently generate much cash relative to the company's debt. "Yet with Calpine's projected interest coverage of 2.1 times and leverage of near 6 times for 2008, even a stock-based acquisition would add meaningfully to NRG's leverage," he wrote.
Blake is concerned that NRG might consider actions that might hurt bondholders in its struggle to remain independent. But he thinks the downside risk of a re-leveraging transaction is mitigated by management's disciplined approach to acquisitions, the current state of the financial markets and banks' reluctance to lend to heavily leveraged transactions.
While the decline in NRG's stock has made Exelon's offer all the more attractive to NRG shareholders, Blake says the big difference in perceived value makes it unlikely a deal will be done. "But if a deal is consummated, it will likely be a positive event for NRG bondholders," he said.
- Claire Poole
