Elliott Management scored another big win in the utilities space last month, reaching a settlement with NRG Energy under which the company agreed to name four new board members and undergo a corporate review. The November 20 announcement also signaled the departure of CEO Mauricio Gutierrez, who Elliott argued had lost the confidence of the core investor base.

But a separate effort by Elliott* in June to gain approval from the Federal Energy Regulatory Commission (FERC) to increase its stake in NRG up to 20%, from 2.36% at that time, has so far failed to yield results.

Under current rules, investors typically require FERC authorization to raise their stakes in public utilities from 10% to 20%. In the past, Elliott has been successful in its requests to raise its stakes in such cases. But its current effort at NRG is being frustrated in part by opposition from consumer advocacy organization Public Citizen, which has filed a series of objection letters with the FERC, arguing the activist has already violated ownership rules by “conspiring with another investor to control more than 10% of NRG Energy for the purpose of controlling the public utility,” and by using derivatives to exceed the 10% control threshold. In its proxy fight materials, Elliott said it had an “economic exposure” to NRG equivalent to 13%, but much of its stake lacked voting rights.

Elliott has vehemently denied the allegations brought forward by Public Citizen. However, the wider debate on ownership does appear to have caught the attention of regulators.

At a Tuesday open meeting in Washington D.C. that touched on the issue, two of the four FERC commissioners speaking expressed concern about the ways in which investors have accumulated stakes in public utilities.

“There’s good reason to believe that in fact, this control question has not been perfectly adhered to or at least not adhered to in the way that the commission would have thought of when we originally implemented this program,” FERC Commissioner James Danly told the meeting. “And I don’t simply mean formal types of control, but even soft control in which the influence that investment companies can have over a public utility might violate the long-standing requirement that the Commission has to ensure that public utilities operate for the benefit of the ratepayers.”

Later on Tuesday, the FERC announced it was launching an inquiry into the role of investors at regulated utilities. The probe seeks views on a number of areas including whether the Commission “should consider the size of an investment company in evaluating a request for blanket authorization, and what factors to consider when evaluating an investment company’s control over public utilities as part of a request for blanket authorization.”

Fair game

In the year to December 13, companies in the utilities sector accounted for 3.3% of activist campaigns in the U.S. For dedicated activists, that number falls to 1.2% of campaigns. Yet for Elliott, targeting regulated utilities has become somewhat of a specialty, accounting for 12 investments overall, including Duke Energy, SSE PLC and EDP-Energias de Portugal. The strategy has proven profitable in most cases. According to DMI data, Elliott’s six-month campaign at NRG has generated a total follower return of almost 40%.

Carl Icahn is another activist with a taste for utilities, with the sector accounting for around six investments over the years, including those targeting Southwest Gas Holdings and FirstEnergy Corporation. More recently, Starboard Value and Ancora Advisors, neither of which has a track record in the sector, launched a campaign at Algonquin Power.

Such big, regulated utilities were once off-limits to shareholder activists, largely due to control rules dating back to the 1930s that would result in any significant shareholder coming under regulatory scrutiny as affiliates.

That began to change in the early 2000s as regulators began to recognize the need for greater private investment in the energy sector. A policy statement by the Federal Energy Regulatory Commission (FERC) in 2007 was considered especially impactful as it clarified that acquisitions of less than 10% of the voting securities of a public utility could proceed without FERC regulatory risk to the activists.

Meanwhile, since the 1980s, utilities have been allowed to diversify into nonregulated sectors, largely through mergers and acquisitions, becoming more like energy conglomerates and leading activists to pitch many arguments on an apparent lack of synergy.

“Any company that is a conglomerate that diversifies is going to do certain things better than it does other things,” said Tia Barancik, co-head of Sullivan & Cromwell’s Power and Utility Group. “And whenever that happens, there is the potential to realize value by shedding non-performing business lines and doing things more efficiently. Why wouldn’t an activist take advantage of that kind of a situation?”

Such a trend is evident with companies that have diversified into renewable energy. Elliott’s earlier campaign at NRG in 2017 resulted in the sale of its interest in NRG Yield and its renewables platform.

Starboard Value, which is currently targeting Algonquin Power, noted that the Canadian utility has grown its renewables business to about 20% of its earnings. “We believe Algonquin’s outsized exposure to unregulated renewables complicated the story for investors,” Starboard wrote in its proxy materials.

Backlash

But the ability of private investors to force such changes and profit from regulated utilities is fueling a wider backlash against the practice.

“They are actively circumventing a 90-year-old statute that was designed to limit the ability of activist investors to do this kind of thing,” stated Tyson Slocum, director of Public Citizen’s energy program and a longtime opponent of activism at regulated utilities.

The group has filed at least three motions opposing Elliott’s effort to raise its stake to 20%, alleging that Elliott “colluded” with another shareholder, Bluescape Energy Partners, in a bid to acquire extra leverage in pressuring NRG management. It also claimed the activist used derivatives to boost its economic impact beyond 10%, noting that the SEC considered taking steps to increase disclosure on such derivatives, although the regulator ultimately did not require disclosure of non-voting derivatives in its reform package.

Elliott declined DMI’s request to comment directly on the matter, instead referring to its filings with FERC, in which it vehemently denies the allegations. “Public Citizen argues that, because NRG recently agreed with certain proposals of the Elliott Applicants and ultimately agreed to replace its chief executive officer and refresh several board seats, the Elliott Applicants somehow must control NRG—and possess such control through their derivative instruments,” Elliott stated its most recent response. “But Public Citizen identifies no facts whatsoever that would support its claim that Elliott’s ownership of non-voting derivative instruments somehow has created such purported control.”

It is not the first time that Public Citizen has tried to block Elliott, and other activists, from gaining bigger stakes at regulated utilities. In 2020, it mounted a similar campaign against an equity transaction between CenterPoint Energy and Elliott. In that case, however, FERC sided with Elliott and allowed the deal to proceed after just four months of deliberation.

So far, FERC has declined to rule on the NRG Energy case or offer a timeline on when a decision will be made. But given statements made by another FERC commissioner, Mark Christie, it may prove longer and harder than in prior cases.

Public utilities are “not just another company in a competitive market where you buy stock to get maximum return,” he stated. “It’s great that we’re looking at whether or not we need to change the rules of the road in terms of how we do these authorizations under the Federal Power Act.”

*On FERC library, reference Docket No. EC23-112-000