Buy NRG Energy: A Utility That Will Benefit From Rising Natural Gas Prices

| About: NRG Energy, (NRG)

NRG Energy, Inc. (NYSE:NRG) is expected to benefit from natural gas price increases, which will help the company expand its margins and earnings. Most utilities are benefiting from the coal to gas switch, due to lower natural gas prices. However, NRG is one the few companies that would benefit from a rise in natural gas prices. Natural gas prices bottomed in April this year ($1.94) at a time when NRG's stock traded at its 52-week low of $14.29. Since April, natural gas prices are up by almost 65%, and NRG's stock is up almost 61% till date.

NRG Energy Inc. is an independent power producer and operates as a wholesale power producer. NRG is one of the most diverse and largest power-generating companies. It has strong growth prospects, has enjoyed a decent growth rate of 8.4% in the last five years, and is expected to grow at an attractive rate of 28% on average for the next five years. The company recently announced a dividend of $0.09 per share, to be payable in November. We reaffirm our buy recommendation on the company's stock because of expected future synergies and cheap valuation.

Natural gas prices are trending upwards. This will help NRG increase its power prices, which will translate into margins and earnings expansion. Natural gas prices are expected to stay in the range of $4 to $4.5/MMBtu in the long run. It is difficult that natural gas prices will go beyond the $4.5/MMbtu mark given the available supply. Power prices have increased slightly in recent months; however, in the coming two to three years, power prices are expected to rise 3%-5% on average, based on the assumption that natural gas prices will also increase. Downside risks for NRG are the volatile power and natural gas prices.

The company has a strong financial performance and is expected to improve in future. It has been focusing on its retail electric business. Retail electric EBITDA improved by 10% in the recent second quarter, which was primarily driven by new customers and higher customer usage. NRG is expected to enjoy synergies, as the company is buying Genon Energy, which is a competitive electricity producer. Synergies are expected to be realized by 2014. Synergies includes $200 million of annual EBITDA and $300 million of annual free cash flows; as the company will be able to improve upon its operational efficiency and cost synergies.

NRG is scheduled to announce its earnings for the third quarter by the end of this month. The company is expected to register $2.79 billion in revenues and earn $0.43 per share in 3Q2012. Earnings for the third quarter are expected to be in line with the corresponding period in 2011. NRG's EBITDA guidance for fiscal year 2012 is $1.8-$2.1 billion.

On Monday, NRG announced that its Board of Directors had declared a quarterly dividend of $0.09 per share. This means an annualized dividend of $0.36 per share and a dividend yield of 1.55%. The dividend is payable on November 15. NRG declared quarterly dividends for the first time in July this year. As NRG takes over Genon Energy, which has a strong balance sheet with cash of almost $2 billion, the combined company is expected to have a strong liquidity position. This indicates that the company will be able to sustain its dividends in future. The company's management might also opt for a share repurchase program in future.


The AES Corporation (NYSE:AES)

Calpine Corp. (NYSE:CPN)

TransAlta Corp. (NYSE:TAC)

Gross Margin (TTM)

25 %

22 %

24 %

39 %






Source: Yahoo Finance

NRG has a higher gross profit margin of 25% as compared to its competitors AES and CPN. The company is also trading at a discount relative to its competitors. Its PEG of 0.95 reflects that the company offers cheap growth, as compared to its competitors.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by Qineqt's utilities Analyst. Qineqt is not receiving compensation for it (other than from Seeking Alpha). Qineqt has no business relationship with any company whose stock is mentioned in this article.

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