Brookfield Renewable Partners LP Offers Considerable Income Upside

Brookfield Renewable Partners LP  (TSX:BEP.UN)(NYSE:BEP) is one of my favourite energy companies in the market predominantly because it pays such a lucrative dividend and all of its revenue is derived from renewable sources versus carbon-based sources. And, in many respects, it offers considerable income upside.

It has 10,700 MW of capacity spread across 260 facilities, and 88% of its portfolio is in hydroelectric with an additional 11% in wind energy generation. Brookfield has 1% in assorted small investments, such as biomass energy production.

The benefit of these types of assets is quite simple: they’re long-term energy generators that allow for relatively predictable cash flow. Nearly 90% of Brookfield’s cash flow comes from contracts that have, on average, over 15 years remaining and come built with inflation escalations. In other words, the contract costs increase if inflation does, so Brookfield is always generating a consistent amount.

You’ll notice that for a renewable company, it doesn’t generate any solar energy. Brookfield takes after its parent company and only looks to invest in value assets and, for a while, there simply were none in the solar business. But that’s changed. With its parent company and syndicate of investors, Brookfield has agreed to acquire TerraForm Global Inc.  (NASDAQ:GLBL) and 51% of TerraForm Power Inc.  (NASDAQ:TERP).

In total, the deal is going to cost US$1.41 billion, and Brookfield will be responsible for about US$500 million. The assets are fantastic. TerraForm Global, with solar and wind projects around the world, has 919 MW of generation. And TerraForm Power, based in Canada and the United States, has 2,983 MW of capacity. With Brookfield acquiring a little under a third of the business, it’ll be adding the equivalent of about 1,365 MW to its network.

The real reason this deal is so significant is because TerraForm has awful margins because it outsources the maintenance and operations of its portfolio. This is an easy fix for Brookfield. “We can run the assets, we can do the O&M in-house, we can reduce the cost structure of this business, and we can ultimately reposition it for growth in the future,” said Sachin Shah, CEO of Brookfield. In other words, by bringing it all in-house, costs will drop and funds from operations will increase.

This all factors into the company’s plan to increase the annual distribution by anywhere from 5% to 9%. Brookfield’s already increased the dividend in February by 5%, so I anticipate the next raise won’t come until the end of the year or in early 2018. Nevertheless, with acquisitions like this, that dividend should keep rising.

But not everything is perfect for Brookfield.

When analyzing the 2016 full-year report, one thing jumped out. In 2016, Brookfield brought in US$1.45 in funds from operations per LP unit; however, it paid US$1.78 in dividends per unit. If that looks a little bizarre to you, that’s because it paid out more than it brought in. That wasn’t the case in 2015, so this could have been just a fluke.

I’m not too concerned about it, primarily because Brookfield’s portfolio continues to get larger, so it will be adding more cash flow to the business. And it’s not just growing through acquisitions; in 2017, 300 MW of power generation from its development portfolio will come online, which will boost funds from operations even more.

Here’s where I stand: I believe Brookfield provides considerable income upside. And although it paid out more in 2016 than it brought in, with the acquisitions and growth the company has, I’m confident that the dividend will remain secure and grow.

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Fool contributor Jacob Donnelly has no position in any stocks mentioned.

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