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Clean, Cheap Power / A Bet Worth Making



August 14, 2008 – Comments (3) | RELATED TICKERS: CPN , MLCO

Calpine: Clean, Cheap Power

I have been writing about my new love for clean power companies over the past several months now (see post: Put a charge into your portfolio by playing this trend).  I have been investing in certain power companies in real-life and in CAPS for a variety of reasons, including a shortage in U.S. power generating capacity, the potential for an U.S. government that is increasingly dominated by the Democtats to inact new carbon tax laws, and the potential introduction of plug-in electric vehicles down the road.

In this sector, I have personally own Exelon (EXC) and FPL.  In response to many of my posts about these two companies, some have complained that they aren't cheap enough.  I see the point, but long term I strongly believe that they will be big winners, even though they have experienced some margin contraction since my initial investment in them.

Well my friends, if it's cheap you's cheap you'll get.  I'd like to introduce you to a special situation known as Calpine Corp. (CPN).  I call Calpine a special situation because the company recently emerged from bankruptcy.  Let's take a look at what Calpine has going for it:

-  62 relatively new, extremely efficient natural gas power plants as well as 750 megawatts of geothermal power generating capacity.  Did I mention that this company's plants are clean at a time when carbon taxes are becoming increasingly likely?

-  The majority of these plants are concentrated in Texas and California.  Analysts estimate that by as early as 2009, the demand for power will exceed the current supply in Texas, New England, and much of the Western U.S. (source).  Steadily increasing demand plus a flat supply equals higher rates for power companies.

- And best of all, CPN it trading for less than its book value...and not one of these investment bank fairy tale book values...of $17.60 per share.

As a little background, Calpine got itself into trouble by taking on massive debt to build tons of new, highly efficient natural gas power plants at a time when nat gas was trading at only $3.  It ran into big trouble as its margins eroded when nat gas prices exploded to $14 in the wake of all of the Gulf of Mexico hurricane activity in 2005 and 2006.  High debt and eroding margins don't mix well.  Ultimately, CPN was forced to file for bankruptcy.  This is where the opportunity comes in.  It is emerging in a much better environment with a much cleaner balance sheet.

Let's take a look at Calpine's current valuation.  I don't know where CAPS is getting its P/E ratio of 2 for the company, but it appears wrong.  CPN reported a loss of $0.44 in its first quarter.  That's actually an improvement on its loss of $0.96/share during Q1 2007.  For all of 2008, analysts are estimating that the company will earn $0.52.  That gives it a P/E ratio of just over 30 right now.  For 2009, analysts' consensus estimate is $0.82, which yields a forward P/E of a 19.5. 

I think that both of these earnings estimates are conservative.  When one combines the fact that this stock is trading for less than book value, its new cleaner balance sheet, and all of the trends that it has working in its favor Calpine looks like a buy to me.  I do not personally own this company, but I did add it to my CAPS portfolio this morning.

Calpine's "The Geysers" geothermal power plant


Melco Crown Entertainment: A Bet Worth Making 

Melco Crown Entertainment (MPEL) published its quarterly results this morning. My quick take is that they weren't great, but they weren't terrible either. There may be some seasonal variation that will cloud the picture, but year-over-year comparisons with MPEL are meaningless at this point so I am going to look at the numbers versus last quarter.

MPEL missed analysts' earnings estimate, posting a loss of $5.7 million, or $0.01 per share versus an estimate of a profit of $0.02. Last quarter, the company earned (not lost) $43.2 million, or $0.10 per share. So earnings are down.

Part of the drop in earnings certainly can be attributed to plain luck. The Crown Macau's hold rate was an unusually high 3.1% during Q1. It slid to 2.7% this quarter. Looking MPEL raised its estimated hold percentage from 2.7% to 2.85%, which is supposedly "inline with the third party consensus view." If so, we can expect a slight improvement on this aspect of its business on average going forward.

More troubling to me is the drop in revenue. MPEL reported $361.1 million for the quarter, again missing the consensus estimate of $390 million. Last quarter, revenue was much higher, $482.9 million. So revenue was down.

Its rolling chip volume was also down versus last quarter. It came at $18.5 billion in Q2, versus $19.4 billion in Q1. On this issue Lawrence Ho stated "Competition for rolling chip business in Macau during the second quarter became a lot more aggressive, with higher commission rates and a significant expansion in the facilities being offered by concessionaires to junket operators. Crown Macau, the first of our three property developments planned for Macau, is strategically skewed towards the rolling chip segment of the market and has successfully held its position as the highest volume rolling chip property in Macau during the second quarter of 2008." Increased competition is never a good thing, but the government's new caps on junket commissions may prevent competitors from steaming any additional business here.

On a more positive note, the company's non-gaming revenue looks strong, rising from $9.4 million in Q1 to $9.7 million in Q2. During the quarter, its room occupancy per available room was 97% at an average rate of $236 per night. The occupancy rate is up from 92% last quarter and 78% in Q4 and average room rate is up from $233/night in Q1 and $221/night in Q4.

There's also good news on the City of Dreams front. It is scheduled to open during the first half of 2009. I believe that this is similar to the time frame that we have seen in the past.

This brings us to the million dollar question. Was this drop in revenue, rolling chip count seasonal in nature, is it a reflection of increased competition in Macau that might have been fixed by the junket commission cap, or is it representative of an overall slowdown in Macau caused by either a slowing Chinese economy or by the government placing additional restrictions on visas?

Again, this is just my initial impressions of the results after looking at them quickly. I have not had an opportunity to listen to the conference call or look at anything in great detail. I personally still think that MPEL is so cheap at this point that it represents a great risk / reward proposition, but I definitely would not want this to be the largest position in my portfolio.

MPEL Announces Second Quarter 2008 Earnings

MPEL's soon to be opened City of Dreams casio

Long MPEL, No position in CPN

3 Comments – Post Your Own

#1) On August 14, 2008 at 2:30 PM, GNUBEE (< 20) wrote:

dexion10 was just sniffing Calpine out for us too on the Natural Gas front. Definitley worth looking into.

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#2) On August 14, 2008 at 3:41 PM, TMFDeej (97.61) wrote:

Thanks for the heads up, GNUBEE.  I'll definitely check his posts out.

BTW my post should have said "experienced some multiple contraction" not margin contraction.  Oops.


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#3) On August 14, 2008 at 7:37 PM, nuf2bdangrus (< 20) wrote:

Buy energy companies when no one wants them.

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