Liam Denning is a Bloomberg Gadfly columnist covering energy, mining and commodities. He previously was the editor of the Wall Street Journal's "Heard on the Street" column. Before that, he wrote for the Financial Times' Lex column. He has also worked as an investment banker and consultant.

If you're an investor in Dynegy Inc., this is what victory looks like:

Vistra's takeover offer for Dynegy is higher than expected, but still only gets the price back to where it was just over a year ago
Source: Bloomberg
Note: Offer price is implied by Vistra's proposed share-swap ratio using closing prices as at October 27, 2017.

Vistra Energy Corp.'s takeover of its fellow power generator was almost as well-telegraphed as that other thing that happened Monday morning. The price, however, was a bit surprising. Most analysts has penciled in 0.6 Vistra shares per Dynegy share, but the target's shareholders are actually getting 0.652, about 21 percent higher than the average ratio the two stocks have traded at over the past year.

Vistra can afford it: The incremental equity adds up to all of $187 million on a total equity check of $2.3 billion. That, and the fact that Dynegy is grasping eagerly at a take-out price that merely gets it back to where the stock traded just over a year ago, tells you how much strain the company was under. The vast majority of Dynegy's takeover price is the net debt Vistra will assume: $9.3 billion, based on June figures.

Indeed, like the take-out of Calpine Corp., announced in August, this deal shows just how much this business has changed.

The biggest risk for Vistra in buying Dynegy was diluting its relatively low-risk profile, with low leverage and a high proportion of profits from a stable retail electricity business (see this). Hence, Vistra was careful to address this head-on.

On a pro-forma basis, net debt to Ebitda at the end of this year would be about 4.6 times (the deal is expected to close in the second quarter of 2018). However, Vistra expects this to drop to 2.6 times by the end of 2019, roughly where it is now as a standalone company.

Vistra acknowledged that its retail business's share of total profits would drop relative to generation, which is more volatile. However, it also made sure to point out that a large chunk of Dynegy's gross margin consists of capacity payments -- essentially, being paid to have plants available to switch on if the grid needs them. These are set in regular auctions and aren't as attractive as retail dollars, but they do have the benefit of not being tied directly to wholesale power prices:

Semi-Solid State
While buying Dynegy dilutes retail power in Vistra's earnings mix, capacity payments mitigate some of the increased exposure to volatile generation margins
Source: Vistra Energy
Note: Gross margin contribution. Pro-forma data includes solar generation of less than 1 percent; figure doesn't sum to 100 percent due to rounding.

In exchange for taking on these risks, Vistra gets to diversify away from its single market, Texas, into Midwestern and Northeastern states. The chances of better pricing for generators in those areas due to regulatory changes have risen in light of energy secretary Rick Perry's push to subsidize coal-fired and nuclear plants. Indeed, the prospect of that, along with the likelihood of Dynegy unveiling further cost-cutting measures at its next quarterly earnings call -- scheduled for later this week -- may explain why Vistra pulled the trigger now and at a higher price.

The central pillar of Vistra's case, though, is synergies. At $350 million per year at the Ebitda level, or about 30 percent of Dynegy's combined operations and maintenance costs and overhead, the target is about $50 to $100 million higher than what many expected. This alone, put on a multiple of 8 times, would be worth $2.8 billion, more than the entire equity check for Dynegy. And there are further claimed synergies in terms of more optimal financing and capital expenditure, worth an extra $65 million a year, after tax, and the tax shield provided by Dynegy's carried losses.

All in, Vistra values the synergies at about $3.9 billion in today's money. Discount that by half to take account of the enthusiasm inherent in calculating synergies -- as well as the very real structural challenges in this industry -- and the implied multiple of Dynegy's 2018 Ebitda that Vistra is paying is still only 6.8 times, versus its own 8.8 times.

What Vistra is doing here, in keeping with CEO Curt Morgan's private-equity heritage, is using its higher-valued currency to take out a struggling competitor that has lost any natural constituency in the public equity market.

Dynegy, like Calpine, was a highly levered play on commodity power prices in a market that has simply tired of highly levered plays on commodity power prices. Opportunistic acquisitions were part of the old playbook, but they usually involved lots of borrowed cash. This one involves assuming debt and then paying it down, based on cost-cutting and Ebitda forecasts that don't really price in much of a recovery in prices. Vistra also held out the possibility of share buybacks after 2019, echoing the pitch of another competitor that has declared its old business model dead, NRG Energy Inc.

With Vistra giving Dynegy the opportunity to make as graceful an exit as its hobbled feet will allow, a new model for merchant power takes center stage.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Liam Denning in New York at

To contact the editor responsible for this story:
Mark Gongloff at