Cleaning Up Nuclear Waste — And Lining Shareholders’ Pockets
As the United States wrestles with the future of nuclear power, it faces a more prosaic concern: What to do with all of the existing nuclear power plants, many of which were built more than 30 years ago and have already exceeded their originally planned life spans. The choice is twofold: regulators can provide an extension if the power company replaces aging critical components, or they can shut them down and disassemble them. Either way, little-known Energy Solutions (NYSE: ES) stands to benefit. The $630 million Salt Lake City, Utah, company provides a range of de-commissioning, waste processing and logistics services to the nuclear power industry, primarily in the United States and United Kingdom.
In the United States alone, there are 104 operating nuclear reactors, and 13 more that have been shut down but not yet disassembled. Of the 104 in operation, 54 have already received life extensions, 20 have applied for extensions, and 24 more are expected to apply, meaning the remaining six will be shut down during the next three to four years. That figure is likely to build in subsequent years as many facilities will not be able to indefinitely extend their lives. Reactors that receive extensions need to replace critical components such as turbines, reactor heads and pressurizers, which is another high-margin service offered by Energy Solutions.
To be sure, this industry has been tricky for investors, as the United States has continually dithered on what it wants to do with nuclear waste, existing plants and new plant construction. Recent quarterly results for Energy Solutions have not reflected the growth that management had hoped, as projects were delayed and funds were slow to be disbursed.
But that appears set to change.
For starters, the massive U.S. stimulus package, which earmarked $6 billion to the Department of Energy for nuclear cleanup, was slow to get started but is now firmly underway. That should aid results in coming quarters and especially in 2011. Second, a long-term $7 billion deal to clean up the Hanford power plants should start to generate around $300 million in annual revenues for the company.
In addition, Energy Solutions is close to signing a deal with Exelon (NYSE: EXC) to assume stewardship of an aging nuclear site in Illinois. The eight to 10 year $900 million pact, which is expected to generate more than $200 million in operating profits for Energy Solutions, only awaits back-stop financing for insurance. The company hopes to pursue similar deals with other utilities in a program known as license stewardship. Each of those projects would generate $300 million to $600 million in funding, with profit margins of the same 20% magnitude as management expects from the Exelon deal.
Energy Solutions is also bidding on large plant remediation projects in Paducah, Ky., Portsmouth, N.H., and elsewhere, though analysts have not incorporated any potential wins into their earnings models.
Offsetting the bright longer-term prospects is a nearer-term drag: Energy Solutions derives more than half of its sales in the United Kingdom on a low-margin project that may expire by 2013. That would hurt the top-line, but the contract generates such weak cash flow that Energy Solutions’ profit margins would get a substantial boost. It’s too soon to handicap the long-term outcome of that U.K. contract.
Shares of Energy Solutions took a sharp hit in February, when Chairman and CEO Steve Creamer unexpectedly resigned. Investors quickly assumed that the exit signaled trouble at the company, but the departure appears now to be a function of differing visions for growth between Creamer and the board of directors. Shares have started to rebound in recent weeks, but remain well below levels seen late in 2009.
Investors had always expressed concern with the company’s high debt . After an acquisition spree, Net debt to total capital stood at 83% by the end of 2006. That metric fell to 45% at the end of 2009, and is expected to fall below 40% this year as the company plans to earmark cash flow toward debt pay-downs.
The falling debt load and expected stream of new contract wins should eventually help the stock shed its lowly earnings multiple. Right now, the stock trades for roughly 10 times projected 2011 profits, and less than seven times projected 2011 interest, tax, depreciation and amortization), on an enterprise value basis. As the new projects announcements roll in over the next few quarters, and visibility increases for the prospect of steadily improving results in 2011 and 2012, shares should start to trade back toward historical levels of around 10 to 11 times EBITDA, or some 40% to 50% above current levels.