QCLN - NextEra Energy Partners: 3 Reasons We Prefer Brookfield Renewable

2023-09-15 10:00:00 ET

Summary

• The renewable energy bubble has burst, leading to a decrease in valuations in the sector.
• Brookfield Renewable Partners and NextEra Energy Partners have been beaten down to reasonable valuations.
• We give you three reasons why we prefer the former over the latter.

The renewable energy bubble has burst. While the march to increasing renewable energy sources has continued relentlessly, the bubble of epic valuations has come to an end. We documented this in real time with our Sell and Strong Sell ratings on Invesco WilderHill Clean Energy ETF ( PBW ) and First Trust NASDAQ Clean Edge Green Energy Index Fund ( QCLN ).

With the froth out, it is time to go hunting for bargains, with the understanding that all bubbles always go far in the other directions. That is, what was once expensive and ridiculously priced, will become cheap and ridiculously priced.

Our Protagonists

Since we focus our work on finding quality income oriented investments, we chose the two famous yield plays for today's topic. Brookfield Renewable Partners LP ( BEP ) and its corporate (non-LP) version Brookfield Renewable Corporations ( BEPC ) are one of the best known entities to come out of the Brookfield Asset Management ( BAM ) fold. Whatever we say further out in this article about BEP, applies to BEPC as well, but for simplicity, we will only use BEP in our labeling.

BEP is a global energy powerhouse with $78 billion in assets in 20 countries around the world.

The contender to the crown is NextEra Energy Partners, LP ( NEP ). The daughter company of NextEra Energy ( NEE ) has been a favorite amongst those who like a fast-growing company that throws a solid distribution their way. Both stocks have been on our radar as the renewable energy bubble burst took place.

We go over three reasons why we prefer BEP to NEP for those looking to add a little renewable energy exposure at these beaten down levels.

1) A Huge Difference In Quality

There is a time to take risk and there is a time to put caution first. For most of the past decade, it really did not matter whether you had triple-A credit, or were rated in the last rungs of junk. You got access to the credit markets. But we have moved beyond that ZIRP (Zero Interest Rate Policy) era, and we will likely differentiate in the months ahead between higher and lower quality ratings. In fact, the signs are in place that we are set up for some radical widening of spreads in the bottom tiers of the credit pool.

BEP is rated BBB by S&P. NEP on the other hand is at BB. That single "B" differentiator actually puts these ratings a good distance apart, with BB+ and BBB- intervening. BEP also has a far greater weighted average debt maturity. We like having BEP in our portfolio here and would stay away from lower rated issuers except in very select cases.

2) A Big Difference In Promises

NEP has backed itself into a corner with promises of high distribution growth. While the ZIRP allowed this to flourish, we think the 12%-15% distribution growth is simply not possible in today's world. NEP stuck to its tag line despite a first half of 2023 that was significantly weaker than expected. Adjusted EBITDA and Cash Available For Distribution, i.e. CAFD, both coming in under 2022 levels. That is going to make those lofty growth rates difficult.

But we think the time is drawing closer when NEP resets the distribution growth expectations for the 2024-2027 timeframe. That will likely create some panic in the stock. In addition, the payout ratio for NEP is likely to cross 100% in 2023-2024 timeframe, further pressuring the stock.

BEP on the other hand has no such high and mighty promises to back up. It has targeted a 5% to 9% growth.

Based on funds from operations expected for 2024, the payout ratio will be about 73% if BEP does hike by another 5%. This is more in line with setting the right expectations for this financial climate.

3) A Big Difference In Asset Quality

Wind and solar projects are great for expansion, but they are not our top choice for stable base load generation. NEP is focused on wind and solar, while BEP gets half of its electricity generation from very high quality hydro assets.

Unlike wind and solar, you really cannot create new hydroelectricity assets at will. We think these will hold substantial value in the long run and offer a better appreciation potential versus wind and solar.

Verdict

If you want to chase the 12-15% distribution growth dream, we really cannot stop you. But we think that distribution growth is not going to come. If 12-15% growth rates alongside paying out every last cent of CAFD as distributions was easy to do, even the parent NextEra Energy ( NEE ) would be doing it.

BEP is the better and safer option and this is the first time, since we started its coverage, that we are actually slapping a buy rating on it.

We like it more for the reasons cited above, despite both BEP and NEP having a similar cash flow multiple and despite NEP sporting the higher yield.

Can BEP go lower from here as well? Of course, it can. There are no guarantees in the market, only probabilities. We think we can get a good 7-8% total return from BEP from this point, though. Those interested in the BEPC (to dodge the K-1) can also note that it is trading at a small premium to BEP, which might also be a reflection of the poor sentiment on this company. We own BEP and will consider adding should it go lower.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

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