NextEra Energy Partners(NYSE: NEP) offers a very alluring dividend these days. It yields more than 14%, putting it over 10 times higher than the S&P 500's dividend yield. Even better, the renewable energy producer expects to continue increasing its payout for at least the next few years.
However, there's a reason NextEra Energy Partners offers a sky-high dividend yield. The company might need to cut its monster payout in the future. Here's a look at whether you should forget about investing in the company right now.
Analyzing the risk factors
NextEra Energy has had to revise its growth strategy in recent years due in part to the surge in interest rates. Higher rates have increased the company's cost of capital to the point where it can't refinance existing funding or secure growth capital at an attractive rate. That has forced the company to alter its plans.
The first alteration came in May 2023 when the company announced plans to become a pure play on renewable energy. It's selling its natural gas pipeline assets in stages to fund all the planned buyouts of its convertible equity portfolio financings for the next few years. The company completed the sale of STX Midstream to Kinder Morgan last year, raising $1.8 billion. That sale will help address a majority of the equity buyouts for its convertible equity portfolio financings due through 2026. Meanwhile, the company plans to sell Meade Pipeline next year to fund future buyouts and finance new renewable energy investments.
The second change came a few months later when the company revised its dividend growth expectations. It reduced its annual dividend growth target range from 12%-15% annually through 2026 to 5%-8% with a goal of 6% during that period. It also shifted its primary growth driver from acquisitions to investing in projects to repower wind farms by replacing older turbines with larger ones that can generate more power.
The concerns with the company's plans are twofold. First, it expects its dividend payout ratio to be in the mid-90s through 2026, which is very high and leaves no room for error. Meanwhile, the company will need growth equity capital in 2027 to continue expanding its portfolio and dividend. If its cost of capital doesn't decline, it might have to reduce its dividend to fund growth in a few years.
Considering the reward potential
NextEra Energy Partners is exploring various options to address its cost of capital issues and its remaining convertible equity portfolio financing buyouts. While the company currently expects to continue growing its dividend by around 6% annually, it might need to alter that plan at some point because it will need an equity infusion to help shore up its balance sheet and fund future growth.The company will likely need to reduce its dividend payment before 2027, probably by around 50%.
For some investors, a 50% pay cut is a bad outcome. However, they'd still earn a roughly 7% yield on an investment made today, which is well above average.
Meanwhile, there's the potential for meaningful stock price appreciation as the company shores up its balance sheet and funding situation. NextEra Energy Partners' stock price is down more than 70% since its troubles began a few years ago. That slump comes even though the company's dividend payment and earnings have continued to rise because it owns a large and growing portfolio of high-quality, long-term contracted clean energy assets. They're crucial to a lower-carbon economy. Further, the company can play a vital role in helping grow the country's renewable energy capacity in the future by acquiring income-producing renewable energy projects from developers like its parent, NextEra Energy. That would enable those companies to recycle that capital into new development projects.
If NextEra Energy Partners can get back onto a path of earnings and dividend growth backed by a more sustainable funding strategy, its stock price should begin to recover. Meanwhile, it has tremendous long-term growth potential, given the enormous need for more clean energy capacity in the future.
A high-risk, high-reward opportunity
Investors solely focused on generating sustainable income might want to forget about NextEra Energy Partners for now, given the likelihood of a dividend cut. However, the upside opportunity here is pretty compelling for those willing to accept a cut. Once it's on a more sustainable financial foundation, NextEra Energy Partners could generate powerful total returns in the coming years as its stock price recovers and its portfolio of income-generating renewable energy assets grows.
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Matt DiLallo has positions in Kinder Morgan, NextEra Energy, and NextEra Energy Partners. The Motley Fool has positions in and recommends Kinder Morgan and NextEra Energy. The Motley Fool has a disclosure policy.
