Vistra powers up to meet rising energy demand, fired by nuclear capabilities
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With a history going back to 1882, Vistra Corp. (NYSE:VST) has been a fossil fuel energy provider for decades. The Irving, Texas-based company, which survived the bankruptcy process in a previous corporate incarnation earlier this century, has been looking to turn green in recent years, benefiting from the potential demand for clean energy. Catering to the huge energy requirements to power data centers serving the needs of burgeoning AI development also presents an opportunity.
Vistra was added to the S&P 500 index earlier this year and has emerged the best-performing stock in the index for the first three quarters of 2024. Vistra turned in an over 210% gain for the period, compared to the S&P 500 index’s overall 22% gain. The lesser-known energy company even bested high-profile Nvidia’s about 150% gain for the period, which seems tepid in comparison.
However, the company also faces risks and it’s not a given that it will light up your portfolio. For instance, Vistra makes big use of derivatives to hedge its energy portfolio and operates in a capital-intensive, competitive and highly-regulated industry. Is Vistra, at its closing price of about $124 on October 25, an investment that will generate a good return for investors?
Potential for supply-demand mismatch in power sector
At the end of 2023, Vistra reported, the company “brings its products and services to market in 20 states and the District of Columbia, including all major competitive wholesale power markets in the U.S. We serve approximately four million residential, commercial, and industrial retail customers with electricity and natural gas. Our generation fleet totals approximately 37,000 megawatts of generation capacity powered by a diverse portfolio, including natural gas, nuclear, coal, solar, and battery energy storage facilities.”
The company is working towards net-zero carbon emissions by 2050. As of 2023, it had seen a 50% reduction in its greenhouse gas emissions compared to a 2010 baseline, Vistra reports. Last year, the company generated 7% of its power from nuclear plants and 4% from other clean energy sources, with 89% of its power generation coming from natural gas (66%) and coal (23%).
For the second quarter of 2024, ended June 30, 2024, the company reported net income of $467 million, compared to $476 million for the 2023 second quarter. The company attributes the decline to higher depreciation and interest expenses, which were offset in part due to additional income resulting from Vistra’s recent acquisition of Energy Harbor, a purchase that boosts Vistra’s nuclear power generation capabilities. Vistra’s adjusted earnings before interest, taxes, depreciation and amortization (EBITDA), which is not based on Generally Accepted Accounting Principles, rose 40% over the year to $1.4 billion. Vistra’s adjusted EBITDA makes allowances for gains or losses from its hedging activities that have not yet been realized and reorganization impacts, among other inputs.
The company also declared a quarterly dividend of $0.2195 per share, up 7% from the comparable period of 2023. Vistra is looking to payout $300 million in dividends annually and expects dividend per share to go up each quarter as it buys back shares. It is looking to expend at least $2.25 billion towards stock buybacks in 2024 and 2025.
On the company’s second quarter earnings call with analysts, Jim Burke, Vistra’s CEO, reaffirmed the company’s call for adjusted EBITDA from its ongoing operations in the range of $4.550 billion to $5.050 billion for 2024. This does not take into account any contribution from a nuclear production tax credit (PTC) that the Inflation Reduction Act provides for. He also reported that Vistra is raising its estimated midpoint range for its 2025 ongoing operations adjusted EBITDA by $200 million to $5.200 billion to $5.700 billion. And this estimate does not include any potential benefit from the production tax credit. According to Burke, “However, it is important to note that we believe the nuclear PTC will provide downside support for such range of opportunities and we will continue to evaluate the appropriate timing for including PTC estimates in our forecasts.”
One highlight of the company’s second quarter is that it entered into power purchase agreements with Amazon and Microsoft for two large-scale solar projects Vistra is building in Illinois and Texas. This also furthers Vistra’s move towards renewable energy. Buke sees a “robust pipeline” when it comes to Vistra’s pipeline for development opportunity. He noted, “Our large geographic footprint across the country, which encompasses more than 70 sites with grid interconnects and thousands of acres of land for development, provides ample opportunities to meet customer needs for a particular energy technology or to co-locate operations.”
According to Burke, there’s a potential “significant supply gap” emerging in Vistra’s largest markets, with multiple demand drivers brought about by “the reassuring of industrial activity partially due to the CHIPS Act, the build out of data centers, whether behind the meter or in front of the meter, increased electrification of commercial, industrial and residential loads and strong population growth, particularly in Texas.” Burke added, “We believe current environmental policies will drive significant retirements of dispatchable thermal generation, notably coal plants, through the end of the decade, creating a supply/demand gap.” He sees these decisions as more driven by state-level policies and less under the influence of federal policies.
Data center opportunities
According to the Electric Power Research Institute, data centers could double their current electric power consumption by the end of the decade, using up to 9% of the electric power generated in the U.S. That’s a cause of concern to the U.S. government which is pushing technology companies towards green energy to meet this demand. And according to Business Research Company, the global demand for clean energy will grow from $1.10. trillion currently to $1.55 trillion by 2028. Besides energy demand from data centers and crypto mining operations, government regulations are also pushing electric cars and other industries towards green energy.
According to Vistra, the company has the “second-largest competitive fleet of nuclear power plants at the center of its zero-carbon generation portfolio,” with its four nuclear plants having the combined capacity to generate more than 6,500 MW of clean energy, which is enough to power about 3.25 million homes. This could be a good source of energy for data centers. The company is interested in opportunities for co-location deals with data centers, such as one that Talen Energy entered into with Amazon Web Services. According to Burke, on the company’s earnings call, the company is in conversations for data center deals, which could be co-location deals or not, with these prospective customers looking at their options.
He noted, “This is a really big opportunity for our industry to meet customer needs. And create a lot of economic development, and I hope as an industry we don't get in our own way here and that we're able to see that this load growth is really beneficial for our economy broadly. And we expect these conversations to stay active until we get to a decision with a couple of key customers, which we're pretty optimistic about.” While data center deals present “a unique opportunity” for the company, with its many sites, to partner directly with customers, this is not baked into its forecast, according to Burke.
Vistra has also benefited from AI by deploying the technology in its operations. To optimize thermal efficiency at its power plants, or the amount of fuel needed to produce a unit of power, the company has turned to an AI algorithm.
Nuclear plant operations are risky
While Vistra sees opportunity in generating clean energy from nuclear plants, this source of power also poses risks. For instance, there could be lapses in maintenance procedures and plant operations and safety systems could be impeded due to human error or unpredictable events. There are also costs and risks associated with the storage, handling and disposal of radioactive materials and the storing and maintaining of nuclear fuel at Vistra’s on-site storage facilities. There is a risk of nuclear accidents occurring, which could hurt humans and property, creating a liability for Vistra. The company may not have adequate insurance to cover such risks.
For instance, a nuclear accident occurred at the Three Mile Island nuclear plant in Middletown, PA, in 1979 which led to the unit’s shutdown. Interestingly enough, Constellation Energy recently entered into an agreement to provide clean energy to Microsoft from another nuclear plant on Three Mile Island (adjacent to the one that was shut down) through its Crane Clean Energy Center. The Nuclear Regulatory Commission oversees nuclear power plants and they are subject to its licensing power and have to comply with the Atomic Energy Act. There are also risks to operating other power plants. And the company is subject to a host of other environmental regulations, including potential changes making for stricter carbon pollution standards.
Vistra also faces risks from changes in commodity prices, including from fallouts from the Russian invasion of Ukraine. To guard against volatility in commodity prices, the company engages in hedgingactivities using derivatives. This creates risks from factors such as a default by its counterparties. Derivatives contracts could also require Vistra to put up additional collateral to meet liquidity requirements under some conditions. Enron, an energy trading firm that went bankrupt in 2002 became notorious for its use of derivatives.
The company is also engaged in a variety of litigation actions, such as a pending class action lawsuit alleging that it was involved in price manipulation in the natural gas market by misreporting prices to index publications. Another case against the company filed by the Illinois Attorney General says it overcharged consumers. And Vistra also operates in a competitive wholesale and retail energy market.
Should you look to Vistra to ignite your portfolio?
Vistra’s liquidity ratio as of the end of the third quarter, at 0.98, shows that its current assets just fall short of covering its current liabilities. The company is highly leveraged, with a debt-to-equity ratio higher than two, given it operates in a capital-intensive industry. Moreover, its debt carries some restrictive covenants that could impede the company’s operational flexibility.
According to Kris Moldovan, Vistra’s chief financial officer, “Vistra's net leverage ratio currently sits at 3 times ongoing operations adjusted EBITDA, despite the additional debt that was required to close the Energy Harbor acquisition in the first quarter of this year. We expect it to return to below 3 times by the end of 2024.”
The company’s operating profit margin for the last twelve months is about 21% and its book value at the end of the second quarter is just over $9.00, making for a price-to-book ratio of more than 13. And based on its 2023 earnings per share of $3.58, its price-to-earnings ratio is 34.6. On a forward-looking earnings basis though, its P/E ratio is a more favorable 17.7. And the company’s plan for stock buybacks and steady dividend payouts is a positive. Considering the growth prospects for the energy industry, Vistra could be a good addition to your portfolio, in spite of the risks it faces.
Note: I do not own any individual Vistra stock and I do not intend to take a position in the stock within five days of publication of this post. This write up is my unbiased opinion and not intended as financial advice. All investments carry risks and you should talk to a financial advisor to learn about the suitability of an investment for your portfolio. I did not receive any compensation for this piece that influenced my views.