Dynegy sees robust cash generation – but no debt repayment plans

By Paul Deckelman

New York, June 25 – Dynegy Inc. – less than three years removed from bankruptcy - has sufficient liquidity to meet its debt obligations and other operating needs, and expects to ramp up its earnings and cash flow generation, eyeing an eventual “migration” to BB ratings status from its current position as a single-B credit.

But while its executives told analysts at the Houston-based power generating company’s annual Investor Day presentation on Thursday that they expect leverage measures such as Dynegy’s ratio of net debt as a multiple of its adjusted EBITDA and the ratio of its funds from operations as a percentage of debt to show continued improvement from current levels, no plans are in the works to tap into its cash to pay down its $7.2 billion of consolidated debt.

The company’s executive vice president and chief financial officer, Clint C. Freeland, predicted that Dynegy would generate “significant EBITDA and free cash flow over the next several years” – Dynegy projects that its adjusted EBITDA for the years 2016, 2017 and 2018 will total between $3.9 billion and $4.9 billion, with $2 billion of aggregate free cash flow once the company’s operational obligations such as capital expenditures, environmental costs attached to its power plants, interest expense and other operating costs are met. That would leave between $1.1 billion and $2 billion available during that time frame for discretionary allocation.

Freeland said that the company’s plants would always have “first call” on its capital in order to maintain safe and efficient operations, and “we also prioritize our balance sheet and liquidity to be sure that the financial foundations of the company remain strong.”

Once those spending needs are out of the way, the CFO said, “from a balance sheet standpoint, our longer-term goal, or medium-term goal, is to migrate to BB credit metrics over time, and we think that we’re well positioned to do that.”

Buying shares – but not debt

He said that as the company moves forward, “we may look to refine our leverage profile from time to time, but in general, we’re happy with where our balance sheet is and with where our liquidity is.”

What that means, he said, is that going forward, the “vast majority of the free cash flow that is generated by the company should be available for intrinsic and extrinsic investments, or returning capital to shareholders, and as we look to make those decisions, we intend to use share buybacks and the economics associated with share buybacks as the benchmark against which other uses or other investment opportunities are measured.”

During the question-and-answer portion of the investor day session following the formal presentations by Freeland, by company president and chief executive officer Robert C. Flexon and by other Dynegy senior executives, Freeland was specifically asked about Dynegy’s plans for its debt – and he answered point-blank: “I would say that we don’t have any specific plans to use any of the excess cash to pay down debt.”

Elaborating on his earlier remarks about “refining” the leverage profile, he said that this would really be “more of a function of our future view on earnings and whether or not we are growing into the right statistics. There are a couple of different ways that you can achieve that BB credit metric goal – and if we’re growing into the right statistics then I’m not sure that there’s anything to do as far as debt paydown.”

Freeland allowed that there was always the possibility that “we may want to pay down a little bit of debt over time” – but he reiterated: “Again, I think that we don’t have any specific plans to do that – it’s something we’re monitoring, but I think that’s something we’ll have to consider again when you think about the prioritization of our capital allocation program. We’d want to be sure that our balance sheet and our liquidity are in the right place, and we’ll take a look at that over time, but again, no specific plans.”

Debt measures seen improving

Dynegy’s consolidated capital structure consists of $6.39 billion of its own debt and $825 million of Ameren Energy Generating Co. debt that Dynegy assumed in a 2013 transaction with St. Louis-based power generator Ameren Corp. that also included the transfer of five coal-fired power plants in Illinois to Dynegy. Those Illinois assets were reorganized as a newly created non-recourse Dynegy subsidiary, Illinois Power Holdings.

The parent Dynegy debt includes $786 million of term loan debt due in 2020, with the remainder in (B3/B+) junk bonds, including $5.1 billion sold in in three tranches in October 2014 – $2.1 billion of 6¾% notes due 2019, $1.75 billion of 7 3/8% notes due 2022 and $1.25 billion of 7 5/8% notes due 2024. The proceeds from that offering were used to finance Dynegy’s acquisition of Midwest generation assets from Duke Energy Corp. and the concurrent acquisition of EquiPower Resources Corp. and Brayton Point Holdings, LLC from Energy Capital Partners.

The capital structure also includes $500 million of 5 7/8% notes due 2023 that the company sold in May 2013.

Dynegy’s leverage ratio of net debt versus adjusted EBITDA currently stands at 4.9 times. The company says that given its EBITDA projections it sees the leverage ratio coming down to 4.4 times under its base-case earnings scenario and falling as low as 3.3 times should a more optimistic earnings picture play out. Under the base-case scenario, the various asset acquisitions are expected to lift EBITDA to an annual level of at least $1.3 billion in 2016 to 2018 versus the $925 million projected for this year and last year’s reported $347 million. The more bullish forecast has EBITDA rising to as much as $1.63 billion.

Dynegy also sees the measure of funds from operations as a percentage of debt, currently 11.2%, declining to 10.3% in 2016-2018 under the base-case scenario but rising to 14.7% under the more bullish incremental case.

Freeland said that “while I wouldn’t expect to use a lot of our cash to delever the balance sheet to those levels, it does demonstrate the company’s ability to manage its balance sheet to its target metrics. By looking at the FFO-to-debt trajectory over the next several years, we may get to BB credit metrics over time naturally through increased earnings. That’s something we’re going to need to keep our eye on, but [investors can] be sure that we’re always moving in the right direction, from a balance sheet management standpoint.”

Dynegy meantime keeps the Illinois Power Holdings operations that it acquired from Ameren separate from its own; the three issues of Ameren/Illinois Power bonds (B3/CCC+) are $300 million of 7% notes due 2018 – the nearest debt maturity – $250 million of 6.30% notes due 2020 and $275 million of 7.95% bonds due 2032.

Illinois Power Holdings’ net debt-to-EBITDA leverage ratio currently stands at 8.8 times – but Dynegy said that by 2016-2018, that should come down to, at the most, 5.5 times and, depending on whether its bullish incremental-case projections play out, perhaps as low as 2.6 times.

The FFO-to-debt measure of the Illinois Power unit likewise should increase from the current feeble 2.2% to at least 9.5% by 2016-2018, and possibly to as much as 20.8% under the most optimistic scenario.

CEO Flexon said that for now, Illinois Power would operate as a separate unit, with separate debt from the main parent company.

He told a questioner that “we have no near-term plans to do anything different with IPH” pending the refinancing of the unit’s 2018 debt as well as some required environmental spending at one of its plants.

“We will be exceedingly cautious about doing anything that would risk the Dynegy balance sheet,” he promised.

Freeland said that “2018 and 2019 are critical years for Illinois Power, with a $300 million debt refinancing as well as a meaningful investment in back-end controls [at the company’s plant in Newton, Ill.] So we’re keeping a very close eye on IPH’s ability to meet these obligations – but so far, based on what we’ve seen today, we’re encouraged.”

Ample liquidity seen

Dynegy currently has about $1.5 billion of liquidity – around $600 million in cash on hand and about $900 million from other liquidity sources, including a $350 million incremental revolving credit tranche that the company entered into in April, on substantially the same terms as its existing revolver agreement.

Freeland said the company needs about $600 million to $800 million of liquidity annually to run its business.

Among the cash costs the company incurs is its semi-annual interest obligations. Freeland noted “the lumpiness of our interest expense,” with $185 million due each May 1 and Nov. 1 for the $5.1 billion of acquisition financing Dynegy did last fall to pay for the Duke Energy and EquiPower Resources purchases, as well as another $30 million due each June 1 and Dec. 1 on the company’s other legacy debt.

“What that means is that every year there are two 30-day windows during shoulder periods when $215 million in cash needs to go out of the company to service our debt,” he lamented.

However, the CFO stressed that “given our current liquidity position of $1.5 billion, $600 million of which is in cash, I think our liquidity position is sufficient for all of our current and future needs.”

© 2015 Prospect News.
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