Elliott Calls for New CEO and Strategic Review at NRG Energy
Recommends Urgent Changes in Management and Board Oversight
Continues to See $5 Billion Value Creation Opportunity
Materials Available at RepowerNRG.com
WEST PALM BEACH, Fla. , June 27, 2023 /PRNewswire/ -- Elliott Investment Management L.P. ("Elliott"), which manages funds that have an investment of approximately $1 billion representing a more than 13% economic interest in NRG Energy, Inc. (NYSE: NRG) ("NRG" or the "Company"), released a public letter today calling for a process to select a new CEO and to make enhancements to the Board of Directors at NRG.
In the letter, Elliott said NRG's recent half-measures, including the Investor Day, were "wholly insufficient to remedy a deeply flawed strategy overseen by a leadership team unfit to execute." Elliott noted that NRG agreeing "to reduce growth investments to no more than 20% of NRG's excess free cash flow and to limit additional investment in Vivint" constituted "guardrails" for the CEO, a concession, "which never would have been made if Elliott had not published materials questioning the Company's direction." Elliott stated that these guardrails "limited continued investment in a bad strategy" but clearly do not solve the fundamental issue around leadership of the Company. Given "NRG's failure to uphold its promises to responsibly allocate capital in the past," Elliott wrote, investors do not find the Company's "latest capital allocation commitments to be credible or the new capital allocation framework to be durable without management change and enhanced Board oversight."
The Company's recent actions, Elliott asserted, "have served to make clear the true cause of the Company's underperformance: NRG's CEO has lost the confidence of the core investor base, and the Board lacks the will to make the right decision for the Company."
In its letter, Elliott urged the Board to take the necessary steps to address the crisis of confidence in NRG's leadership, which include:
1. Immediately announcing and commencing a search for a CEO from externally sourced candidates who have the relevant operating experience to drive high-performance operations;
2. Working with Elliott to add highly qualified directors to the Board who possess relevant experience in the power and energy sectors and can credibly guide the Company toward becoming a best-in-class operator; and
3. Initiating a comprehensive business review, as outlined in Elliott's May 15 presentation. Elliott believes a significant opportunity exists to improve the Company's cost performance, refocus on its core businesses and increase capital return to shareholders.
Elliott concluded its letter stating that it "believes there is a readily actionable path to create more than $5 billion of value at NRG; however, it is clear that the realization of this value will require management and Board changes. We look forward to seeing through the implementation of these steps."
The full letter and other materials are available at RepowerNRG.com.
The full text of the letter follows:
June 27, 2023
NRG Energy, Inc.
910 Louisiana Street
Houston, TX 77002
Attn: Dr. Lawrence Coben, Chairman of the Board
Dear Dr. Coben and Members of the Board,
We write to you again on behalf of Elliott Associates, L.P. and Elliott International, L.P. (together, with their affiliates, "Elliott" or "we") to share our perspectives and our proposed path forward for NRG Energy, Inc. ("NRG" or the "Company").
We are investors in NRG because of our belief in the Company's potential to become a best-in-class integrated power company and create substantial shareholder value. As we have indicated, Elliott believes there is a readily achievable path to create more than $5 billion of value at NRG. Following the publication of the Repower NRG Plan on May 15, we had hoped to find common ground with you on the causes for NRG's profound undervaluation and the actions needed to unlock the immense value-creation opportunity that we see at the Company. Unfortunately, the Company has instead chosen to announce a series of defensive half-measures – actions wholly insufficient to remedy a deeply flawed strategy overseen by a leadership team unfit to execute.
These recent actions have served to make clear the true cause of the Company's underperformance: NRG's CEO has lost the confidence of the core investor base, and the Board lacks the will to make the right decision for the Company. All of the steps taken in the past few weeks – limiting the Company's ability to deploy capital wastefully, changing capital-allocation policy, and making non-specific promises to bring in more Board oversight – have confirmed that the Board is trying to put guardrails around a deficient leader. While the Board has been unwilling to acknowledge the Company's suboptimal leadership, its series of "solutions" will prove insufficient over time. Shareholders see it for what it is: a desperate attempt to prop up an underperforming CEO.
We did not come to this conclusion lightly, but as we have relayed to you in our discussions, the right solution for what ails NRG must begin with the Board commencing a process to select a new CEO. This new CEO should be sourced from external candidates and possess the right qualifications and experience to enable the Company to reach its full potential. The balance of this letter lays out our significant concerns about the current CEO and the Board's oversight of management, concluding with our recommendation that the Board must act today to address the leadership problem at NRG.
NRG's Recent Half-Measures Have Not Assuaged Investor Concerns
Since sending our presentation and letter to the Board on May 15, we have received feedback from dozens of former, current and prospective NRG investors, and there appears to be broad consensus that new management is necessary at NRG. Investors are deeply frustrated by the Company's poor operational performance and are highly skeptical of the home services strategy that the current CEO has championed. This frustration is reflected in the stock's deep and sustained underperformance over multiple years.
This feedback has not been limited to Elliott's conversations with market participants. Following an extensive round of marketing meetings with investors, Bank of America published a note reflecting the same lack of confidence in NRG's management:
"In our extensive investor conversations, it is apparent to us that NRG management has lost the support of a large share of the investor base." – Bank of America, 6/7/2023[1]
This erosion of trust, we believe, is partly the result of years of inadequate Board-level oversight; investors now question whether the Board that has enabled Mr. Gutierrez in his demonstrated pattern of value destruction can provide effective oversight on behalf of the Company's shareholders going forward.
NRG's continuing undervaluation is a direct reflection of the market's continuing lack of confidence in management's ability to 1) prudently allocate capital over the long term and 2) execute operationally on a consistent basis. The Company's Investor Day presentation represented "more of the same," reaffirming the status quo that has come to dominate the market's perception of NRG.
- NRG management has consistently broken its capital-allocation promises
Management's articulation of the Company's ability to generate significant excess cash flow, and promises to return nearly its entire market value to shareholders in the form of share repurchases and dividends over the course of three-to-five years is not new and is a commitment that investors have consistently heard from management since the Transformation Plan was first introduced in 2017. Consider the following direct quotes from NRG management on this matter:
"After achieving our new target 3x net debt-to-EBITDA ratio, we expect the Transformation Plan to result in up to $6.3 billion in excess cash or capital available for allocation by 2020, with over 60% of this excess cash or approximately $4 billion expected in 2018." – 2017 Transformation Plan Presentation, 7/12/17
"The second scenario is around share buybacks. And if we were able to buy back our stock at the current share price, this would represent close to 80% of our market cap today, 80% in the next 5 years. I don't believe there are many businesses with the financial flexibility that we have. And we are absolutely committed to be excellent stewards of your capital." – 2018 Investor Day, 3/27/18
"Now if we were to put our $8 billion of excess cash into share buybacks, we would be buying back 80% of our market cap today. I don't believe there are many businesses with this sort of financial flexibility, and we are fully committed to being excellent stewards of your capital as we continue to evolve and execute our plan." – Q1 2018 earnings call, 5/3/18
"You can see in this scenario that over the next 5 years, we would generate over $8 billion of excess cash or 80% of our market cap, grow our annual free cash flow before growth by 50% and shrink our share count by 30%." – Q3 2019 earnings call, 11/7/19
"We expect to generate cash in excess of the financial needs of our business, almost equivalent to our current market capitalization over the next 4 years." – 2021 Investor Day, 6/17/21
NRG's promises at its recent Investor Day are no different:
"We expect to return close to 100% of our current market cap in the next 5 years."
– 2023 Investor Day, 6/22/23
If these statements were credible, NRG would have succeeded in retiring its entire market cap at some point in the six years since 2017, or in creating significant value for shareholders. But now, these promises ring hollow, and NRG shareholders' patience has not been rewarded: NRG's share price today is at the same level as it was five years ago.
The reason for this is clear: NRG's management is not a disciplined allocator of capital and has always prioritized growth and M&A over capital return. NRG's failure to uphold its promises to responsibly allocate capital in the past has caused investors to almost entirely dismiss its most recent commitments:
"In fact, NRG put almost roughly [the] exact same number out in their 2018 analyst day but they only ended up doing half [of] that…there has been a chronic inability to get credit in the IPPs for consistent return of capital. Some of that is they've never just done it; they always get distracted with something else. 5 years is a long time and so we hope in the case of NRG [and] Vistra here they stay committed to the return of capital. History is kind of against them though because they generally have not." – Wolfe "Fleish on Fridays," 6/23/23
NRG's previous capital allocation framework of 50% growth / 50% capital return has not served as an effective governor: Over the past three years, NRG has executed more than $9 billion of acquisitions (including Vivint) and repurchased less than $1 billion of stock. In light of the clear evidence to the contrary, investors will not find the latest capital allocation commitments to be credible or the new capital allocation framework to be durable without management change and enhanced Board oversight.
2. NRG management has not met financial commitments
NRG has also failed to meet its fundamental financial commitments, experiencing two consecutive years of meaningful earnings misses. In 2022, NRG missed its original EBITDA guidance by 16% whereas its closest peers each reported earnings in excess of original guidance. NRG's underperformance was driven by a number of company-specific operational issues, including outages at two of its key Texas power plants, which then called into question management's ability to manage the Company's core operations.
Similarly, investors view with extreme skepticism management's ability to execute the new $150 million cost savings program. These doubts are well founded – there is little evidence that alleged savings from previous cost reduction programs have resulted in sustainable and auditable reductions in operating expenses, or translated into real earnings uplift. Despite claims that it has realized $900 million of cost savings since 2016, NRG's total non-fuel cost structure as reported on its audited 2022 financial statements is the highest it has been since 2016 despite a 40% reduction in generation capacity and the alleged realization of nearly $300 million of Direct Energy synergies. While Elliott believes that there is a readily achievable opportunity for more than $500 million of EBITDA-accretive efficiencies at NRG, we have no confidence that current management will be able to execute on any cost savings program and drive sustainable incremental earnings.
Furthermore, over time, NRG has changed its financial disclosures in a way that reduces transparency around the key performance metrics of its generation and retail businesses, including segment cost performance and unit margin performance. There is growing concern that the Vivint acquisition will provide another opportunity for management to further obfuscate the performance of the Company's underlying business segments. This is symptomatic of a management team that holds little investor credibility; high-performing management teams welcome transparency and scrutiny, while underperforming management teams seek to limit investor insight into the business.
Our skepticism in management's ability to execute is shared widely among market participants. While the Investor Day highlights NRG's attractive financial profile, cash generation ability and discounted valuation, there is exceedingly low confidence that the current management team is capable of achieving the targets the Company has laid out:
"The stock still trades at a 35%+ FCF yield on the 2025 outlook, well above peers and the company's historical levels. This is indicative to us that investors have low confidence in the ability of the company to achieve these targets - We think the 'show-me' aspect of the story is focused on the Vivint Smart Home business given the more challenging competitive backdrop, currently low FCF conversion, and growth tied to as-of-yet unproven cross selling initiatives." – Morgan Stanley, 6/23/23
"The Analyst Day once again lacked any details on basic business drivers like margins, volumes, or business segment contributions. Mgmt. wasn't even sure if Vivint would be a new segment or intermingled. We think this reduces accountability and makes it harder to buy into a 5-year outlook, especially after hiccups in recent years." – Wolfe, 6/22/23
3. The "Gutierrez Guardrails" plan does not address the root cause of NRG's issues
Under the current CEO, NRG has engaged in value-destructive M&A and adopted a misguided home services strategy. Since announcing the Vivint transaction, NRG's stock has meaningfully declined every time management has made public statements that further emphasize its commitment to the home services strategy:
See NRG Stock Price image.
By contrast, at the Company's recent Investor Day, NRG agreed to reduce growth investments to no more than 20% of NRG's excess free cash flow and to limit additional investment in Vivint. This concession – which never would have been made if Elliott had not published materials questioning the Company's direction – received a mildly positive response from the market because it limited continued investment in a bad strategy. NRG's market value remains nearly $2 billion below levels prior to the Vivint transaction, and NRG's trading multiple remains lower than at any point in recent history.
To be clear, the Investor Day has not changed investors' perspectives on the Company's home services wager. The skepticism of the strategy was never borne out of a misunderstanding of Vivint or a lack of information, but rather a clear-eyed appreciation for the execution risk embedded within management's plan. The lack of further funding for the Vivint experiment, however, provided investors with some relief from management in its quest to commit ever-increasing amounts of capital to home services.
Overall, the response to the Investor Day was muted and failed to translate into robust enthusiasm for the NRG story, because most of the investors with whom we have spoken see the "Gutierrez Guardrails" plan for what it is: a means of buying time for an underperforming CEO in the hopes that these deeper investor concerns about strategy and credibility will somehow vanish. Based on our experience, these concerns will not fade, but instead will grow stronger. After engaging with scores of other companies facing the same or similar issues, our experience is that such measures almost never work. Investors too clearly see what NRG's current CEO wants to do (speculative M&A) versus what he has no passion for (operational excellence and capital return).
In addition, the Board should not underestimate the amount of management time and distraction the continued pursuit of the challenged Vivint strategy will entail. Investors understand where managers prioritize their time, and if management focus and attention is not directed toward optimizing the core business, the result will be more underperformance. Long-time followers of the NRG story saw this dynamic play out with NRG's previous CEO. Indeed, we have seen countless situations in our decades of active equity investing where companies and boards have allowed the inertia of a failed acquisition to create a drag on performance for years.
Eventually, however, the evidence becomes too overwhelming to ignore, and the boards of these companies must bring in new management to reset priorities and fix the mistake. There is no justification for the Board to let years go by before acting. NRG's current management has lost the confidence of the Company's shareholders, and the solution to the problem is clear, as we set forth below.
Next Steps
The Company is once again at an important crossroads – it can either knowingly choose to once again put investors' capital in the hands of the current CEO, who over the past seven years has failed to deliver on NRG's financial and capital-allocation commitments, or it can entrust the Company to a new management team with a track record of capital discipline and high-performance operations. For investors, the right choice could not be clearer.
To that end, we call on the Board to take the following measures to address the crisis of confidence in NRG's leadership:
1. Immediately announce and commence a search for a CEO from externally sourced candidates who have the relevant operating experience to drive high-performance operations.
2. Work with Elliott to add highly qualified directors to the Board who possess relevant experience in the power and energy sectors and can credibly guide the Company toward becoming a best-in-class operator.
3. Initiate a comprehensive business review. As outlined in our May 15 presentation, we believe a significant opportunity exists to improve the Company's cost performance, refocus on its core businesses and increase capital return to shareholders.
As we have indicated, Elliott believes there is a readily actionable path to create more than $5 billion of value at NRG; however, it is clear that the realization of this value will require management and Board changes. We look forward to seeing through the implementation of these steps.
Sincerely,
John Pike Bobby Xu
Partner Portfolio Manager
About Elliott
Elliott Investment Management L.P. manages approximately $55.2 billion of assets as of December 31, 2022. Founded in 1977, it is one of the oldest funds under continuous management. The Elliott funds' investors include pension plans, sovereign wealth funds, endowments, foundations, funds-of-funds, high net worth individuals and families, and employees of the firm.
[1] Emphasis added to quotes throughout.
Media Contact:
Casey Friedman
Elliott Investment Management
(212) 478-1780
cfriedman@elliottmgmt.com
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SOURCE Elliott Investment Management L.P.
