This Dividend Cut Is Likely a Positive for Investors

Despite its dividend cut, Exelon is well-positioned for the future of energy
As the nation moves increasingly toward clean energy, Exelon is perfectly positioned to capitalize. Not only does the company have the largest nuclear fleet in North America, but its investing to grow its wind and solar portfolio. Combine this strength with EXC's recent merger with Constellation, and it places Exelon on a short list of top utilities. To determine if 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.


Well, at least the company can say you were warned. Exelon  finally ended months of speculation and announced that it will be cutting its dividend. Starting in the second quarter it'll be going from the current rate of $0.525 per share to $0.31 per share. 

As a soon-to-be investor in Exelon I'm not exactly thrilled by the cut; I was looking forward to that nice chunk of quarterly cash flow. What's important to understand, though, is the reason behind the cut and if it makes sense. For Exelon, the idea behind the 41% haircut is so that it can maintain its investment grade credit rating, and invest the cash in growth projects. I can certainly understand the company wanting to maintain its credit rating. My question is: How does the company plan to grow? 

As investors know well, Exelon owns the nation's largest fleet of nuclear power plants. However, given the shear cost involved to build a new plant, as well navigate the difficult regulatory environment, the company won't be building a new unit any time soon. Instead, the company is investing in nuclear uprates to grow its nuclear generation. This entails investing in the components necessary to increase the generating power of a reactor. 

These are lower-risk, higher-return investments for the company. When executed across its portfolio, the uprates will increase Exelon's generation capacity to an output equivalent of adding a new unit. Even better, the uprates will be accomplished at a substantially reduced cost. 

Exelon is not alone in using uprates to grow its nuclear capacity. Fellow clean energy generator, NextEra Energy is investing $1.5 billion on its own uprate program to add 400 MW of nuclear capacity. The company had filed to build two new 1,100-MW nuclear reactors, but no decision on the reactors is likely until 2014, for the $12 billion-$18 billion project is not likely to enter into service until at least 2022. As you can see, uprates have quite the return on investment. 

Looking past uprates, Exelon is also investing in renewable energy to generate even more nuclear generation growth. One example is the company's new 230-MW solar farm in California that First Solar  is building. The $1.36 billion dollar project will include more than 3 million solar panels and will be operated by First Solar. The power has been contracted out to PG&E under a long-term contract. 

These long-term power purchase agreements are important because they generate steady, predictable returns for the company. Not only that, but as Exelon CEO Christopher Crane noted: "[When] the balance sheet is tight like it is right now, you would want to make investments that have a short investment period ... wind and other smaller assets really do fit that profile. Within a year, you're getting a return."  

That's likely why the company will continue spending a bulk of its growth capital on these quick-turnaround growth projects at the expense of its dividend. Essentially, management is saying that it believes it can earn its investors a greater return on their money by investing in these high-return, quick-payback projects than they could earn if the company kept up the payout. So, while no one likes to see a pay cut, this one shouldn't scare you.

The article This Dividend Cut Is Likely a Positive for Investors originally appeared on Fool.com.

Matt DiLallo has the following options: Short Apr 2013 $35 Puts on Exelon. The Motley Fool recommends Exelon. Try any of our Foolish newsletter services free for 30 days. We Fools may not 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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