Calpine's highly efficient fleet creates a cost advantage against its competition--and shares are trading well below our fair value estimate, says Morningstar's Andrew Bischof.
Andrew Bischof: Utility valuations have once again heated up, with the sector trading at a 20% premium to our fair value estimates as of the beginning of July. While regulated utilities are expensive in our view, we think value can be had with riskier independent power producers.
Among independent power producers, we find Calpine the most attractively positioned, trading at a 25% discount to our $20 per share fair value estimate. While all independent power producers have no moat ratings, Calpine is the only independent power producer with a positive moat trend. Calpine is uniquely positioned among independent power producers as the industry's only predominant natural gas generator, with the most efficient fleet in the U.S. The company's plants are well positioned to benefit from tightening supply/demand conditions in key regions it operates, notably the Northeast and mid-Atlantic. Calpine's hedging program and capacity revenue lock in a substantial amount of future cash flows.
We like Calpine due to its highly efficient fleet that creates a cost advantage against its competition, regardless of natural gas price movements. In a low natural gas environment, like the one we have today, Calpine's fleets run more often protecting margin in a depressed power environment. The quick start ability of Calpine's fleet allows the company additional margin opportunities during significant demand periods, like extreme weather events we have recently experienced.
Calpine is also a winner from climate change and the alphabet soup of environmental regulations, as it operates no coal plants, and the majority of its fleet is clean natural gas with the rest attractive, renewable, geothermal generation.
Finally, we believe Calpine's management team to be smart capital allocators, reassigning capital to more attractive regions with higher return potential. When growth opportunities don't present themselves, management wisely returns cash to shareholders through share repurchases, with a current implied 14% free cash flow yield.
