Is Hydro Draining Your Portfolio's Profits?

NextEra Energy announced this week that it officially sold off the last of its hydro assets. Once lauded as the clear and clean future of electricity generation, it has had its future recently called into question by economists and environmentalists alike. Let's take a look at where hydro stands, who's behind it, and whether hydro-heavy utilities know something NextEra doesn't.

All dried up
After announcing its intention to sell last December, NextEra emptied its electricity generation bucket of its remaining hydro assets this week. The utility handed off 19 facilities and eight storage reservoirs to Brookfield Renewable Energy Partners, a Canada-based pure-play renewable power platform.

NextEra CEO President and CEO Armando Pimentel called the assets an "attractive portfolio in many respects" but cited generation optimization and concentration of resources as primary reasons for his company's decision.

NextEra has an eye toward "greater growth potential," and hydro's heyday seems to be behind it. The majority of all facilities were built in the 1970s, and generation has remained fairly steady over the past 40 years. In contrast, other renewables, primarily wind and solar, have nearly quadrupled capacity since 1990.


But there's no discounting the continued importance of hydropower. It currently comprises 8.2% of total U.S. generation, and a whopping 63% of renewable power.


The future of renewables

Looking ahead, hydro is the slow and steady tortoise of renewable energy. From now through 2040, increases in non-hydro renewables are expected to account for 32% of total growth, while hydropower output should continue at current levels.


Despite hydropower's lackluster growth potential, there's good reason that capacity hasn't decreased. Most of the "best" sites in the U.S. have been filled, and hydropower offers a "clean" and "steady" source of electricity, with its major capital expenditure days behind it.

The quotation marks are necessary caveats, since some recent analyses of hydropower question the environmentalism of larger dams. A recent Sierra Club position paper supports existing run-of-river dams producing less than 10 MW, but large dams don't make the cut. If the EPA were to adopt similar views that hydroelectric plants cause ecological damage and significant greenhouse gas emissions from reservoirs, the helping hand of green energy policy might pull back from hydro.

Who's hanging on to hydro?
Many utilities have small but significant hydro assets that help to keep costs low and steady when water levels are high and other fuel prices take a turn for the worse.

Atlantic Power's stock recently plummeted on news of a slashed dividend and dismal quarter, and the company's counting on renewables to put it back in business. The utility currently generates 5% of its energy from four hydroelectric facilities and expects to keep assets steady as it focuses on solar and wind. Compared with hydro's limited expansion and capital intensiveness, wind's production tax credit and solar's investment tax credit provide low-cost renewable opportunities for this utility.

Source: Atlantic Power Deutsche Bank Leverage Financed Conference Presentation.

Exelon is best known for its nuclear power, a close cousin to hydropower. Nuclear is capital intensive and "clean" and produces relatively steady electricity generation over a long time period. Exelon relies on nuclear for 55% of total generating capacity, while hydro accounts for 6%.

Source: Exelon investor relations website.

The utility currently generates around 2,000 MW of hydropower from 24 facilities. Defying common conceptions that hydropower's given all she's got, a 2001 upgrade at a Maryland station improved output by 11.3%.

Debt-heavy FirstEnergy announced during its latest earnings report that it intends to sell off its competitive hydro assets to help raise $1.5 billion. The utility had previously planned to sell the nearly 1,180 MW fleet in early 2015 but will attempt to bump up the timeline as it balances its books and refocuses on transmission. The company currently relies on hydroelectric power for 9% of its total generation capacity.

In absolute terms, Duke Energy is the tsunami of hydroelectric power. The utility has its roots in hydropower, and the company generates around 3,525 MW from 18 different stations. In December, Duke acquired two hydro plants in Chile to add 140 MW to its international business.

However, the utility's recent earnings call also pointed to one of the darker sides of hydro: reduced rainfall. Reservoirs at its Brazil facilities remain low, increasing relative costs of production and significantly diluting hydro's value add. Any long-term dips could cause Duke to reduce its current reliance on hydro for 6% of total generating capacity.

Hydrate or die?
NextEra made a calculated decision to kick hydro out to focus funds elsewhere. Atlantic, Exelon, and Duke all have a small but significant stake in hydro and should benefit from its natural diversification and generally steady flow. FirstEnergy is using hydro sales to get quick cash and may not be making the best long-term decision by turning its back on this energy source. Hydro plays an important role in our nation's energy generation, but it's up to each utility to determine for itself if water works for them.

With hydro's growth days behind it, Exelon is perfectly positioned to capitalize on having the largest nuclear fleet in North America. Combine this strength with an increased focus on renewable energy, and Exelon's recent merger with Constellation places Exelon and its newly sustainable dividend on a short list of top utilities. To determine whether Exelon is a good long-term fit for your portfolio, you're invited to check out The Motley Fool's premium research report on the company. Simply click here now for instant access.

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Fool contributor Justin Loiseau has no position in any stocks mentioned, but he does use electricity. You can follow him on Twitter, @TMFJLo, and on Motley Fool CAPS, @TMFJLo.The Motley Fool recommends Exelon. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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