GenOn Energy (GEN) provides energy generation and other market services to wholesale electricity customers in the United States. Recently formed by the merger of RRI Energy and Mirant Energy in December of 2010, the stock price has been battered since inception.
There have been some recent bright spots, including the appointment of former Secretary of Energy Spencer Abraham and former Deputy Secretary of Energy Betsy Moler as directors.
Outside of the recent appointments and struggling stock price, is there hidden value within GenOn shares? GenOn originally came to my attention due to their extremely low price to book value of shareholder's equity (P/B) ratio of 0.37, and because of their closeness to sustained profitability.
To investigate whether GenOn offered a good deal to potential investors, I took a dive in to what assets shareholders would presumably be getting with shares of GenOn.
In this chart I've paired up assets listed in order of reported liquidity on the left hand side and the stakeholders of the company in order of most secured (since all liabilities are more senior to stockholders, I have not broken out liabilities).
Unlike most companies in a distressed stock price environment that begin faliling dramatically below a P/B ratio of 1, GenOn is not carrying much in the way of intangible assets or goodwill. The tricky thing with intangibles and goodwill is that these are assets that can end up on the books after acquisitions and may not reflect much in the way of value if the acquisitions were poor or the strategic value management saw never materialized.
If all assets listed above property, plant and equipment were to sell at their stated book value, shareholders of GenOn would get about 55% of the PPE, or $3.5B. Considering that GenOn closed 1/13/11 with a market cap of $1.89B, it's not difficult to see how there is potentially a lot of value for GenOn shareholders.
If we were to assume a 30% writedown to receivables, prepaid expenses, inventories and current derivative contracts, GenOn shareholders could still break even if PPE could be sold for $0.82 on the dollar of the book value, even if all the assets below PPE were thrown in the garbage.
In fact, maintaining the same assumptions as above and instead assuming GenOn could capture 40% of the value of the assets stated below PPE, shareholders would realize a 35% return. Again, this is assuming a 30% writedown on receivables, prepaid expenses, inventories and current derivative contracts, 18% writedown on PPE and 60% writedown on everything below PPE. And investors still receive a 35% return.
Skeptics will likely argue that because GenOn's coal facilities are older and the price of natural gas has been cheap as of late, that the book value of their assets is not a good reflection of their market value. My counter is that this PPE is already accounting for lifetime depreciation, which accountants are required to assess on assets as they near the end of their useful life. GenOn additionally has facilities generating electricity out of natural gas, so while some of their production plants have likely been suffering others are probably worth more as of the price of natural gas.
Especially compared to other distressed companies such as Sears Holdings (SHLD), which I recently did a similar piece for, deep value investors have a great deal of upside with GenOn if they're interested in the energy sector and more specifically the independent electricity generation industry.