Pattern Energy Rides Wind To Fuel Cash For Dividends

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Wind power can be as volatile as wind itself, petering out in the dead heat of a sticky afternoon in central Texas or blowing up a storm from gusts off the Gulf of Mexico.

YetPattern Energy Group ( PEGI ), a wind-power outfit that went public in early October, prides itself on its stability and predictability.

"We positioned ourselves as a stable dividend-producing company with good growth," said CEO Mike Garland in a phone interview.


Analysts say Pattern's structure is similar to a master limited partnership used for natural gas pipelines and other assets meant to generate cash flow to be paid out to investors as dividends.

The company's six current wind-power projects in the U.S. and Canada operate under long-term fixed prices. Power generated is sold to "highly creditworthy" companies, Garland says, such asPacific Gas & Electric inCalifornia ( PCG ) and Manitoba Hydro in Canada.

Wind Power Pipeline

Two other projects now under construction are expected to become operational in the first half of next year, in Chile and Canada. Several others are in the works, including locations in Texas and Canada.

"All of our projects are in different wind regions," said Garland, who adds that geographic diversity offsets the ups and downs of wind patterns. "New projects will continue to dampen the volatility."

The six current projects and two to open next year were developed and "dropped down" to Pattern by its parent company PEG LP, majority owned by private equity firm Riverstone Holdings.

PEG owns a majority stake in Pattern. Analysts expect Riverstone to sell its interest over the next three to four years. Pattern was incorporated prior to its IPO to own, operate and construct power projects developed and transferred to it from its parent company. PEG was formed in 2009 as a development power company, much of it wind power, backed by Riverstone and employing executives with years of experience in renewable energy.

Members of Pattern's management team were part of PEG prior to Pattern's IPO.

"We're probably the fastest growing renewable-energy company," Garland said, referring to the more than 1,000 megawatts under its control from the eight projects transferred from PEG.

"Over the last four years very few companies, even in solar, have developed 1,000 megawatts," he said.

He figures Pattern is among the top 20 wind-generation companies in North America. Many have been around a lot longer.

RBC Capital analysts write thatNRG Yield ( NYLD ) andTransAlta 's ( TAC ) unit TransAlta Renewables (traded on the Toronto exchange) have similar business models. But NRG has more diversified power assets and TransAlta has a lower growth profile and older assets. Both companies recently completed IPOs.

Pattern's power contracts average 19 years. About 80% of the company's cash flow will be used to pay dividends.

"Our operating cost, or margin, is fairly stable, with only material variability in our production, which is wind- and equipment-related," Garland said.

Improvements in wind-turbine technology since 2009 have made turbines 50% to 100% more productive, he says.

"We see the cost of wind continuing to fall over the next several years," Garland said.

The company's biggest expense, 60% of costs, goes to servicing its $1.3 billion in long-term debt.

Dividend Strategy

Pattern will initially pay $1.25 a share on an annualized basis, with the first quarterly dividend set for Jan. 20 to shareholders holding stock at the end of the fourth quarter, Dec. 31. It expects to grow that dividend 8% to 10% annually over the next few years as six projects come online.

"If we only do four then we'll probably be at 8% growth, five would be 10% and if we do all six it'll be above 10%," Garland said.

Analysts expect the company's dividend to grow at a higher rate than management's forecast.

Morgan Stanley forecasts 11% a year on average through 2016. RBC Capital Markets forecasts 10% to 12% growth through 2017. BMO Capital Markets sees a 10.8% dividend growth rate the next three years but said third-party deals could "offer upside" to its forecast.

Analysts' projections are based on Pattern's ability to grow "by adding accretive projects," as RBC Capital analyst Nelson Ng put it in a recent research note.

Once Pattern's market capitalization, now around $1 billion, reaches $2.5 billion, its parent will transfer its employees to Pattern and Pattern will take on its own development projects.

Meanwhile, PEG will continue to transfer development projects to Pattern to operate. And Pattern will also try to acquire assets in order to grow its cash available for distribution -- what the firm "lives and dies" by, as Garland says.

In the nine months through Sept. 30, it had $37 million in such cash, with $6.3 million from the third quarter.

Electricity sales from its wind-power assets in the third quarter rose 32% over a year earlier to 464.8 gigawatt-hours. Revenue jumped 239% to $57.3 million while net income totaled $4.2 million vs. a net loss of $16.9 million a year earlier.

"We're looking (at acquisitions) primarily in the U.S. and Canada," Garland said, adding that they are interested in both wind and solar projects.

"We think solar is a nice complement to our wind projects," he said. Take Texas, where in inland areas wind tends to die down periodically. "Texas is a pretty sunny place," he said.

According to a company filing citing the U.S. Department of Energy, wind power was the second-largest source of new electricity generating capacity in the U.S. after natural gas in six of seven years from 2005 and 2011.

And wind-power trade group the American Wind Energy Association says wind power became a leading source of new electricity in the U.S. for the first time in 2012. Investments up until then totaled more than $120 billion.

The U.S. boasts the second-largest wind market after China. Federal tax credits to develop new wind projects expire at the end of this year, though qualified projects not yet begun can start after the deadline and still use the credit.

The end of the tax credit could impact new development unless the credit is extended, as has periodically happened in the past.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas

Referenced Stocks: NYLD , PCG , PEGI , TAC

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