One of my favourite companies as an investor is Berkshire Hathaway. Berkshire uses its insurance operations to generate cash that it goes on to invest elsewhere (including in renewable energy). In my portfolio, I have a renewable energy stock that has a similar structure. As the importance of renewable energy increases, I believe that it can be a huge winner.
The stock is NextEra Energy (NYSE:NEE). Let’s get it clear at the outset — the stock is expensive. It trades at a price-to-earnings (P/E) of around 45, which is high compared to the S&P 500 average and other utilities companies such as Dominion Energy and Sempra Energy. The high price represents a risk, but I think that the quality of its operations justifies its price tag.
The company has two parts to it. It has a regulated utilities business and a clean energy division. NextEra generates cash using its regulated operations, which it then invests using its renewables organisation. Its regulated utilities are among the best in the business and its renewables segment is the largest producer of wind and solar energy on the planet.
NextEra’s regulated utilities
Utilities like NextEra have protected, monopolistic status. In exchange, the amount that they can charge customers is regulated. The company’s asset base, multiplied by an allowed rate of return, plus its operational expenses, provides the amount the company can charge customers. The key is the allowed rate of return. This is determined by the regulator and it establishes the company’s net income.
Florida Power & Light (NextEra’s regulated utility) has an allowed rate of return of around 10.6%. This is unusually high, but there are two reasons for this. One is that the Florida authorities tend to be constructive in working with utilities companies. The second is that it’s one of the best utilities companies around.
NextEra’s regulated utilities business has consistently reduced costs to consumers and has an enviable record of providing power consistently, even during Florida’s hurricane season. As a result, it attracts favourable treatment from regulators and generates a steady stream of cash to invest in renewable energy projects.
The regulated side of NextEra’s business is a bit like Berkshire Hathaway’s insurance operations. Its function is to generate cash that the company’s renewables division — NextEra Energy Resources — can deploy elsewhere. NextEra Energy Resources develops renewable energy assets and sells the energy that it produces.
As an early adopter of renewable energy — especially from wind — it has established projects in some of the best geographic locations for both wind and solar generation. This gives the company a huge competitive advantage. The company sells the power it generates via contracts that last for decades, often with built-in price increases.
I think that NextEra Energy is an amazing investment opportunity. Structurally, I think the company resembles Berkshire Hathaway, which is clearly a successful model. Add to this the company’s outstanding operations and the enviable quality of its assets and I’m happy buying shares for my portfolio today. I see this as a company in excellent shape to provide substantial returns over a long period of time.
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Stephen Wright owns shares in Berkshire Hathaway (B Shares) and NextEra Energy. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.