NRG Energy, Inc. (NYSE:NRG) Q3 2023 Earnings Call Transcript

NRG Energy, Inc. (NYSE:NRG) Q3 2023 Earnings Call Transcript November 2, 2023

NRG Energy, Inc. misses on earnings expectations. Reported EPS is $1.41 EPS, expectations were $1.53.

Operator: Good day and thank you for standing by. Welcome to the NRG Energy, Inc. Third Quarter 2023 Earnings Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your first speaker today, Kevin Cole, Head of Treasury and Investor Relations to read the Safe Harbor and introduce the call.

Kevin Cole: Great. Thank you, Darren. Good morning. And welcome to NRG Energy’s third quarter 2023 earnings call. This morning’s call will be 45 minutes in length and is being broadcast live over the phone and via webcast, which can be located in the Investors section of our website at www.nrg.com under Presentations and Webcast. Please note that today’s discussion may contain forward-looking statements which are based on assumptions that we believe to be reasonable as of this date. Actual results may differ materially. We urge everyone to review the Safe Harbor in today’s presentation, as well as the risk factors in our SEC filings. We undertake no obligation to update these statements as a result of future events, except as required by law.

In addition, we will refer to both GAAP and non-GAAP financial measures. For information regarding our non-GAAP financial measures and reconciliations to the most directly comparable GAAP measures, please refer to today’s presentation. And with that, I will now turn the call over to Mauricio Gutierrez, NRG’s President and CEO.

Mauricio Gutierrez: Thank you, Kevin. Good morning, everyone, and thank you for your interest in NRG. I am joined this morning by Bruce Chung, Chief Financial Officer. Also on the call and available for questions, we have members of the management team. Before we go into the quarterly review, I’d like to start with an overview of our value proposition. Over the last six years we have taken the necessary steps to position NRG at the center of the energy transition. Our Consumer Energy business that benefits from the increasing electrification of our economy, while generating significant excess cash well beyond its business needs. A complementary Smart Home business, that increases the lifetime value of our customers and enable greater optimization of our customer’s energy demand and the financial flexibility to return significant capital to our shareholders, while maintaining a strong balance sheet.

As you can see, we delivered compelling value today, and importantly, we have positioned our business to deliver value well into the future. So, with that, I’d like to turn to the three key messages of our earnings presentation on slide five. First, we are raising our 2023 financial guidance, driven by strong financial and operational results, both in the third quarter and year-to-date. Second, we are initiating 2024 financial guidance above the plan we shared with you at our June Investor Day. And finally, with line-of-sight to achieving our 2025 growth roadmap, we are accelerating our focus on behind-the-meter load management opportunities for homes and businesses. Starting with our third quarter results on slide six. We delivered top decile safety performance and $973 million of adjusted EBITDA, 103% improvement from the same period last year, driven primarily by strong operational performance across the business and the addition of Vivint.

This brings our year-to-date results to $2.438 billion of adjusted EBITDA, a 74% increase above the prior year. On our last earnings call, we indicated that we were trending towards the top end of the guidance range. With strong third quarter performance and our current outlook for the balance of the year, we are increasing and narrowing our 2023 financial guidance ranges, which includes the close of STP and that increase in the company’s annual incentive plan given the expected outperformance for the year. During the quarter, we continue to make good progress on our strategic priorities. Vivint integration is well underway and with early success on our growth initiatives, we are raising again our 2023 target from $60 million to $75 million.

This is 150% increase from our original $30 million target set in May. Also during the quarter, we continue executing on our portfolio optimization efforts with the retirement of the Joliet power station and the sale of Gregory and our interest in STP. Turning to capital allocation. We are raising our 2023 share repurchase target by 15% to $1.5 billion. We have completed $200 million of share repurchases year-to-date and with the close of STP, expect to execute the remaining $950 million under an accelerated share repurchase program. Next, we have executed $800 million of debt reduction, as part of our liability management program. Bruce will provide more details in his section. Finally, we are initiating 2024 financial guidance ahead of our June Investor Day plan.

These earnings expansion is durable and represents high quality growth and overall strengthening of our business. On capital allocation, we allocated $500 million to debt reduction and the remaining excess cash allocated 80% to return on capital and 20% growth. Now turning to slide seven for an update on our Integrated Energy Business. We experienced the hottest summer on record in our core Texas market, breaking the previous peak demand record 10 times. While the power grid was given the record demand, it performed quite well with only a few periods of scarcity pricing when renewable output was low. Important thing, the efforts we undertook in our summer readiness and spring outage program resulted in a significant increase in our plan reliability.

In the bottom left hand chart is our in-the-money availability. Indicating the availability of our units during periods when they are profitable, which is the relevant metric for our business and shows a significant improvement. Retail saw strong performance through the quarter with in-line customer growth and better-than-expected retention. We continue to improve our digital experience with customers engaging more, increasing monthly average app usage by 20%. Moving to retail supply. The steps we have taken to enhance our diversified supply strategy was successful in providing predictable supply costs under different load and price scenarios. Beyond investing in our plans, we adjusted our hedge ratios to lean long in key summer and winter months.

Finally, we are beginning our efforts in residential demand response and have increased participation by 10% this year. We also manage a large C&I demand response business, with 2.5 gigawatts of capacity under management. I will provide more color on the behind-the-meter opportunity later in the presentation. Our Smart Home Business also performed well with strong customer growth and margin expansion as you can see on slide eight. We continue to advance our technology platform with the launch of new innovative products, improving our customer experience, that is constantly recognized as the best in the industry by consumer publications. On the right hand side of the slide, you will see the key performance indicators that we introduced in our last earnings call.

We continue to see exceptional performance in Smart Home, with 7% subscriber growth, 9% revenue growth and 9% service margin improvement versus the same period last year, consistent with the improvements we reported in our second quarter results. Acquisition costs are higher due to the impact of more products being sold and higher interest rates, but were more than offset by higher revenue on new subscribers. Our customers are engaging more with our platform and are staying for a longer period of time. We are very encouraged by the performance we are seeing across the business and the opportunities that are arising inside the Home. Now, I want to provide an update on the opportunity for the management we see behind-the-meter or Virtual Power Plants on slide nine.

We have been managing energy optimization programs for commercial and industrial customers for years and now we are seeing the growing opportunity in the residential space. New distributed technologies and a growing penetration of connected smart devices in the home have materially changed the industry, providing greater control to the consumer. Grid reliability has also played a role in accelerating adoption. As flexible demand represents instantaneous peaking capacity when the grid is at peak load or in scarcity conditions. We think the primary pathways for us to create value in these markets. First, through optimizing our existing customer peak demand in ERCOT and PJM, where we can benefit from both energy and capacity value, as well as reduced market risks.

Second, through VPP services for Smart Home and Utility customers, both in regulated and competitive markets. We are uniquely positioned to win this space, we have the scale with 7.6 million customers, decades of commercial and market expertise and then Integrated Energy Business that allows NRG to monetize the value without having to go to the wholesale market or requiring regulatory change. We also have that data and insights from running the third largest commercial and industrial demand response program in the country. While our focus in the near-term, continues to be optimizing our core and integrating driven, over the medium- and long-term we see a significant value opportunity from these programs. These value is not included in our June Investor Day plan and.

I look forward to providing you updates on our progress in the future. Moving to slide 10 for anomaly by integration efforts. We are making good progress across our initiatives and are reaffirming the full plan targets, totaling $550 million of recurring free cash flow before growth by the end of 2025. Our growth and cross-sell efforts have yielded strong results, allowing us to increase our 2023 growth target, $75 million. On the right-hand side of the slide, you will see the increasing number of customers buying two or more products. I want to highlight that this is not exclusively cross-sell between energy and Smart Home, but includes other consumer products sold across NRG that generate recurring revenues. We have been hard at work executing pilots and collecting critical insights as we prepare to scale energy and Smart Home cross-selling in 2024 and beyond.

In the appendix of today’s presentation, you will find our latest growth and cost plan score card. So you can track our progress. So, with that, I will pass it over to Bruce for the financial review.

Bruce Chung: Thank you, Mauricio. Turning to slide 12, NRG’s third quarter and year-to-date financial performance significantly exceeded the same periods last year. NRG produced adjusted EBITDA of $973 million in the quarter, which is $493 million higher than the third quarter of 2022. As you can see in the chart at the bottom of the page, even when normalizing 2022 results for transitory items and the WA Parish outage, 2023 adjusted EBITDA still exceeded the prior year, by $350 million. Compared to a normalized 2022, third quarter 2023 performance was driven by $125 million of improved operations and margin expansion in our core energy business and $225 million of Vivint EBITDA which was not included in our 2022 results. Similar to the first two quarters of the year.

Our core energy business continued to benefit from expanded margins, near record retention and increased customer count. Our diversified supply strategy and solid performance continue to provide predictable supply costs through a volatile load and freight conditions in Texas. Looking at our segments and starting with Texas. Adjusted EBITDA increased by $356 million versus the prior year on the back of higher gross margin of $378 million. Continued unit margin expansion from lower supply costs coupled with improved plant performance were the primary drivers for the increase in gross margin. This increase in gross margin was partially offset by increased OpEx from higher selling and marketing in Home Energy, where we increased 50,000 customer’s year-over-year.

In the East/West segment, adjusted EBITDA declined $88 million versus last year, driven primarily by lower spark-spreads of Cottonwood, discontinuation of equity earnings treatment for Ivanpah and an increase in accruals as part of the company’s annual incentive plan, reflecting the expected financial outperformance for the year. In Q3, Vivint continued to deliver strong financial results, contributing $225 million in adjusted EBITDA. Revenue grew 9% year-over-year, driven by subscriber growth of 7%, favorable retention and higher recurring monthly revenue per subscriber, which combined with reductions in monthly service cost per customer, drove a 15% increase in adjusted EBITDA compared to 3Q 2022. NRG’s free cash flow before growth was $355 million for the quarter, bringing our year-to-date total to $983 million.

This represents a significant improvement over 2022 totals, driven by growth in adjusted EBITDA. As a result of our year-to-date financial performance, we are raising and narrowing our full year 2023 guidance ranges, $3.15 billion to $3.3 billion for adjusted EBITDA and $1.725 billion to $1.875 billion of free cash flow before growth. The midpoint of our new guidance represents a $95 million increase in adjusted EBITDA and a $60 million increase in free cash flow before growth to the midpoint of our original guidance ranges. Turning to slide 13 for an update on our 2023 capital allocation. We have updated our 2023 excess cash to reflect the final net proceeds of divesting our interest in STP. The net proceeds from the sale of Gregory and the increase to our free cash flow midpoint for the year.

The remaining numbers on this slide are largely consistent with the update we gave on the second quarter earnings call with a few notable exceptions. Moving from left to right, we have updated the capital we will spend on Vivint integration from $145 million to $50 million. This does not reflect lower cost associated with the integration, but rather a shifting of those dollars to 2024 and 2025. Much of the move is driven by systems integration decisions which shifted the timeline for those costs to be incurred. Continuing on, as you can see in the debt reduction column, we have made significant progress toward our target of $1.4 billion in debt reduction, with $800 million achieved through October 31st of this year. With the closing of the STP transaction, we will complete the remaining $600 million of debt reduction by the end of 2023 through a targeted liability management program.

Finally, moving to the share repurchases column. You will see that we have completed $200 million of share repurchases thus far in 2023. This includes a $50 million we completed at the time of the second quarter earnings call and $150 million we recently completed on October 31st. With the closing of the STP transaction, we intend to launch a $950 million accelerated share repurchase program imminently. Between the $200 million already completed and the $950 million accelerated share repurchase program, our total share repurchases for the year will be $1.15 billion, which is $150 million more than what we had communicated at Investor Day and 2Q earnings. Moving to slide 14, we are excited to introduce our guidance for 2024. We are guiding 2024 full year adjusted EBITDA with a range of $3.3 billion to $3.55 billion, representing a midpoint of $3.425 billion.

We are also guiding 2024 free cash-flow before growth, with a range of $1.825 billion to $2.075 billion, representing a midpoint of $1.95 billion. As you can see in the chart at the bottom of the page, there are several drivers of year-over-year guidance. Incremental Vivint EBITDA reflecting a full year’s worth of ownership is effectively offset by the lost EBITDA from the Greg — from the STP and Gregory asset sales. Our growth plan and cost synergies contribute $240 million of incremental EBITDA, but it’s partially offset by an increase in the Vivint EBITDA harmonization adjustments. The final driver reflects a continuation of the improved operations and margin expansion, impacting our 2023 results and contributes to $160 million to our 2024 midpoint.

As you can see with the impact of improved operations and margin expansion, our 2024 guidance midpoint exceeds the pro forma, we provided in our Investor Day plan. On slide 15, we are providing our 2024 capital allocation plan. As you can see, our capital allocation plan adheres to the 80-20 principal of return on capital versus growth, while ensuring we continue to meet our debt reduction commitments. Our plan currently calls for a debt reduction of $500 million in 2024. As we have always said, we are committed to a strong balance sheet and this debt reduction ensures that we remain on the path to achieving our target credit metrics by the end of 2025. Our return of capital plan is comprised of $825 million of share repurchases and $330 million of common dividends.

The common dividends reflect an 8% increase in the common dividend per share from a $1.51 to a $1.63. Between capital return in 2023 and the expected capital return in 2024, we will have executed over 70% of our current share repurchase authorization and return to $2.65 billion to shareholders. In summary, our third quarter and year-to-date results show robust financial performance across the company, and with our increased 2023 guidance, we are poised to close out the year in a strong position and enter 2024 on a similarly high note. We remain committed to executing the Investor Day plan we shared back in June and our focus on maintaining a high level of operational performance will not waver as we head into the end of the year. With that, I will turn it back to you, Mauricio.

Mauricio Gutierrez: Thank you, Bruce. I want to provide a few closing thoughts on today’s presentation on slide 17. As you can see, we have made significant progress across all of our key priorities and are also ahead of the five-year plan we provided to you during our Investor Day. I want to take a moment to thank all my colleagues at NRG for keeping focused on execution and for their hard work in achieving these results. We have the right strategy and the right team to deliver exceptional value today and well into the future. So, with that, I want to thank you for your time and interest in NRG. Darren, we are now ready to open the line for questions.

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Shar Pourreza of Guggenheim. Your line is now open.

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Q&A Session

Shar Pourreza: Hey, guys. Good morning.

Mauricio Gutierrez: Hey. Good morning, Shar.

Shar Pourreza: Good morning. Bruce, can we just unpack the $160 million in improved ops and margins that you are calling out in the 2024 EBITDA guidance, walk a little more? How much of that is margin expansion and how sticky is that overall as we look to refine our models for 2025 and beyond?

Mauricio Gutierrez: Sure. Bruce?

Bruce Chung: Sure. Hey, Shar. Good morning.

Shar Pourreza: Good morning.

Bruce Chung: So. I would say that, really when you think about the $160 million, it’s pretty much margin expansion across the entirety of the complex. So if we think about our Home Energy business, we are really seeing margin expansion, there is really on two fronts, one is on revenue management and on the cost of supply. So when you think about the durability of that, the revenue management side of it is really a function of the efforts we have done over the past several years around data-driven analysis to really make sure that we are targeting proper revenue rate for customers and then on the cost of supply, that’s really representing the benefits of our diversified supply strategy and just a general better plant performance relative to history.

On the C&I side, we are seeing margin expansion there, which we would also believe is terrible. As we know, there has been volatility in the market and customers are locking in higher revenue rates reflecting that volatility, and obviously, those contracts tend to be longer tenor and so that should also provide durability. And then lastly on the Smart Home side. As you saw with the KPIs, we are seeing margin expansion both on the revenue front and higher revenue per subscriber, as well as lower cost to serve as we continue to optimize that piece of the business, and again, given the long duration nature of those customers, we would expect that to also continue to be durable. So, all-in-all, higher expansion on the margin side with durability.

Mauricio Gutierrez: So, Shar, I mean, this is really just a reflection of the improvements we have done in the business and I see them as durable sustainable for the foreseeable future.

Shar Pourreza: Perfect. And we should — 2024 free cash flow conversion rate, it looks like it’s in the mid-to-high 50s. I know you have indicated at the Analyst Day, your target is to step-up through the plan into the mid=to-high 60s. Can you just walk us through how you see that stepping up and what kind of shape that may take, i.e., linear as we also continue to update our models? Thanks.

Mauricio Gutierrez: Sure. Bruce, do you want to?

Bruce Chung: Yeah. I would say, Shar, I think, we continue to remain focused on that conversion rate. I don’t think it will be linear, because if you — most of that conversion improvement is going to come from increasing the conversion at Vivint, right? And so if you remember, we provided some information that showed a free cash flow growth profile at Vivint going from $140 million to $445 million. by the end of 2025, so that’s a pretty steep increase in the cash flow at Vivint which is really going to help to drive that conversion higher on a go-forward basis.

Shar Pourreza: Got it. Perfect. And lastly, Mauricio, just on a — just a strategy question, I guess. Can you just update us on how you are kind of approaching the prospects for newbuilds in ERCOT? I know there’s obviously a lot of the existing assets in the market right now, we have seen in Carolina and we have seen in Texas gen, would you have any interest in second hand plants? Thanks guys. I appreciate it.

Mauricio Gutierrez: Sure. Well, as you know, Shar. We actually improve our diversified supply strategy. Some of it will be through own generation, some moving into rent and to complement with market purchases. So the team is constantly looking at the economics between buying from the market, renting or buying assets from other and creating options internally to develop those facilities either as brownfield development. So we are looking at all of it. We are evaluating the economics. At the end of the day, we are balancing operational risk, market risk, counterparty risk, that criteria permeates the evaluation that we are doing on all of these options. We are still awaiting to see changes in market design and other improvements to incentivize dispatchable generation.

That also is going to shape the decisions that we are going to make. So as you can tell, this is not just a linear and a myopic view on assets to be bought in the market and development, we really also need to see what incentives are available given the changes in the regulatory construct in ERCOT. So I have said before that towards, I would say, the end of the year, we are going to have more visibility on those changes in ERCOT that is going to inform the next steps we are going to take.

Shar Pourreza: Fantastic guys. Congrats on your results. See you soon.

Mauricio Gutierrez: Thank you, Shar. Appreciate that.

Operator: Thank you. One moment for our next question. Our next question comes from the line of Julien Dumoulin-Smith of Bank of America. Your line is now open.

Julien Dumoulin-Smith: Hey, guys. Good morning. Thank you very much for taking the time. Appreciate it. Look, just checking in first on the buyback here just a technicality. Can we talk a little bit — you have a big portion remaining for what you call 2023? You want to talk about your ability to get that done and then also how that might proves to be additive to kind of 2024 here, especially given the higher numbers that your guidance versus initial plan?

Mauricio Gutierrez: Sure, Julien. So…

Julien Dumoulin-Smith: …you get it done.

Mauricio Gutierrez: Yeah. As we mentioned, we are going to do the ASR imminently, that means as soon as possible. And what I will characterize the execution of that ASR, we are going to do it as fast and as efficient as we can. So I think that’s the spirit and the intent launching this ASR as soon as possible.

Bruce Chung: Julien, I would just add that as you know, when you do an ASR, we obviously realize the vast majority of the shares having been bought in pretty much on an immediate basis, but it takes time for the banks to be able to go and purchase those shares properly. And so my guess is, we would probably anticipate that the program will be completed inside of the first quarter of next year. But to us, that’s actually a pretty good situation because then that provides the ability to then roll into a regular way share of repurchase program related to our 2024 capital allocation plan to really continue to maintain the momentum on the repurchase front.