TerraForm Power Inc: This Turnaround Situation Pays 7%
September 4, 2018
This Stock Yields 7%
Americans love a good comeback story. And in the investing world, these stories can present lucrative opportunities.
Every so often, companies get into trouble. During these times, you can scoop up great assets paying double-digit yields. Big yields, of course, come with big risk, but successful turnarounds can have huge payoffs.
The case in point this time is TerraForm Power Inc (NASDAQ:TERP). Following a series of poor acquisitions, the company found itself over its head in debt. But with a new strategy in place, the renewable power generator could be back on the right track.
TerraForm has a new management team at the helm, with Brookfield Asset Management Inc (NYSE:BAM) having taken control last year when it closed its deal to buy a 51% stake in the business. The new owner quickly got to work on a plan to rightsize TerraForm, pushing to slash costs, reduce outstanding liabilities, and squeeze more revenue out of existing assets.
In 2018, for instance, Brookfield believes it can generate an extra $10.0 million in cash flow by streamlining processes. Over the next few years, executives want to save another $15.0 million by replacing high-cost maintenance contracts through insourcing or cheaper agreements. The company is estimating that those margin improvements should boost TerraForm’s cash flows at a mid-single-digit clip through 2020.
The next phase of the growth strategy will come from expanding current operations. Once Brookfield rightsizes the business, executives plan to reinvest the 15% to 20% of cash flows back into operations. TerraForm could boost its growth rate further through acquisitions, assuming it doesn’t overpay.
In theory, this could create a tidy income stream for investors. TerraForm Power Inc currently pays out a quarterly distribution of $0.19 per unit, which comes out to an annual yield of nearly seven percent. If Brookfield can boost the payout at by five to eight percent annually over the next few years, that would result in outstanding total returns for investors.
Of course, this turnaround story hinges on a number of big “ifs.” First, TerraForm Power Inc still has a junk credit rating and elevated debt level. While Brookfield wants to trim its outstanding debt, higher interest rates could really bite into profits.
TerraForm’s growth strategy also depends on acquisitions. You can only grow through cost cuts for so long. Executives will have to thread the needle between adding great new properties while simultaneously not overleveraging their balance sheet.
But if anyone can pull it off, it’s Brookfield. The company has a long track record of building wonderful infrastructure businesses, making its investors rich in the process. And if a turnaround plays out as expected, shareholders could lock in an impressive yield.
