CPN Calpine Corp.

We have downgraded our recommendation on NRG Energy Inc. (NRG) to Underperform from Neutral.

NRG Energy to a large extent depends on its coal-fired baseload power plants to derive a significant part of its domestic revenues. As a consequence, we believe NRG Energy remains exposed to various risks on the environmental front.

Further, carbon legislation remains uncertain. The regulators are coming out with new and more stringent rules, adherence to which would result in higher operational costs for energy companies like NRG Energy.

NRG Energy's decision in July to pre-sell 100% of its August output from the natural gas-fired assets backfired due to some operational issues. This resulted in a financial loss for the company as it had to procure power from the spot market.

For the future, the company plans to keep a good percentage of its gas-fired portfolio available for sale in real time or day-ahead markets, to avoid such financial losses, but we believe the company has to work really hard to recover the financial losses it has already suffered.

The company has entered into fixed price power sales contracts through 2014. However, as these contracts are not contingent upon availability of power from its generating units, they may prove to be a problem in the event of an unexpected plant outage, fuel supply disruption or reduction in the available capacity of a unit. We believe this might increase the financial burden of the company.

The positive catalysts for the company are its diverse generation assets, competitive business and the ability to generate strong free cash flow. However, weak results from Reliant and NRG's Texas gas-fired assets along with other negative deterrents overshadow the positives. Hence, the Underperform recommendation on NRG.

NRG Energy currently retains a Zacks #5 Rank, which translates into a short-term Strong Sell rating which seamlessly coincides with our current Underperform recommendation on the stock. The company competes with AES Corporation (AES) and Calpine Corp. (CPN).

Based in Princeton, New Jersey, NRG Energy Inc. operates as a wholesale power generation company. The company is also involved in the trading of fuel and transportation services, energy trading, and related products in the United States and internationally.

 
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