I've been writing about and investing in the energy industry for nearly a decade. It hasn't been a smooth ride. A combination of commodity price volatility and poor capital allocation decisions have caused the sector to generate poor investment returns in recent years. That has prompted many investors to write this industry off entirely.
That's not something I'm planning to do, because I see pockets of opportunity in the sector. One of the biggest is in renewable energy, which some have dubbed "the most valuable and interesting business opportunity of the 21st century." I'm a firm believer in that view. That's why I'm buying a basket of several renewable-energy stocks so that I don't miss out. I just made my latest purchase, adding renewable-energy yieldco Clearway Energy (CWEN 1.18%)(CWEN.A 1.21%) to my portfolio. Here's what I see ahead for the company.
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Clearway Energy 101
Clearway Energy owns and operates a portfolio of clean power-generating assets -- including wind, solar, and natural gas facilities -- and district energy systems. It sells the electricity produced by its generation facilities as well as the warm and chilled air produced by its district energy systems to end users under long-term, fixed-rate contracts with utilities and other end users. Those agreements provide the company with relatively predictable cash flow, which gives Clearway Energy the money to pay a dividend -- which currently yields 3.9% -- and expand its clean energy portfolio.
While Clearway Energy is a publicly traded company, Clearway Energy Group (CEG), owned by private equity giant Global Infrastructure Partners (GIP), holds a controlling interest. This relationship is important because it provides Clearway Energy with new investment opportunities. For example, last December, Clearway Energy bought a natural gas power plant from a fund controlled by GIP. Meanwhile, CEG recently offered it the opportunity to acquire and invest in a portfolio of several projects, including 100% of the Rattlesnake Wind Project, CEG's remaining interest in a wind repowering partnership, and a new collaboration to repower the Pinnacle Wind Project. These investment opportunities will enable Clearway Energy to grow its portfolio and cash flow, supporting future dividend increases.
Clearway Energy's financial review
Clearway Energy recently reported its 2019 results. Overall, the company generated $254 million in cash available for distribution (CAFD), which is the money it could pay out in dividends. While that was down 13% year over year because of weaker renewable-energy resource conditions and higher interest payments, it was slightly above its guidance of $250 million.
Another issue that affected Clearway last year was the bankruptcy of California-based utility PG&E (PCG 1.01%), which is one of its largest customers. While PG&E continued to purchase power from Clearway according to their existing contracts, the lenders tied to those projects restricted Clearway from distributing this cash until PG&E exits bankruptcy. Clearway accordingly reduced its dividend by 40% in early 2019 to increase its financial flexibility, allowing it to make several growth-focused investments over the past year.
What's ahead for Clearway Energy
Clearway Energy was very active last year. It closed several financial transactions that helped reduce its borrowing costs while also providing it with funding to make new investments. The most meaningful one was the purchase of the Carlsbad Energy Center, which it bought from GIP in December for $184 million in cash plus the assumption of $803 million in debt. It expects that project to contribute $27 million in CAFD per year.
These moves have Clearway Energy projecting that it will generate $310 million in CAFD this year, assuming PG&E continues to purchase power via its existing contracts. This forecast implies a 22% increase from 2019's level. That high-powered growth gave Clearway the confidence to increase its reset dividend by 5% this year. Even with that increase, its dividend payout ratio will only be around 50% of CAFD this year, which is a conservative level.
The company could potentially grow even faster this year if it closes more investments. As mentioned, CEG recently offered it the opportunity to acquire and invest in a portfolio of renewable-energy projects, which could close this year. It also has the potential to complete additional transactions with CEG, GIP, or third parties to power growth in the coming years.
A bright future
Clearway Energy has had its share ups and downs over the years, including last year's issues with PG&E and weaker renewable energy resource conditions. However, the company has the financial flexibility and support from its sponsor to capture growth opportunities in the renewable-energy sector. So it should have plenty of power to steadily grow its dividend, which could enable it to generate high-powered total returns in the years ahead.
