value and opportunity

Background:

As some of my readers might have noticed, I have been looking deeper into the topic of renewable energy and connected topics such as Climate change, Net Zero targets etc.

My current conclusion is that we might have reached a real “Tipping point” towards a significant increase in “Electrification” which in my opinion is driven by a confluence of several factors:

• The cost of renewable energy (esp. Solar) has been dropping by -90% over the last 10 years and is still dropping further. Solar is (c.p.) now the cheapest available resource of electricity on the planet
• Battery technology is making leaps and prices are dropping as well quickly, very similar to solar energy
• A few major electric appliances are already better or almost equal compared to fossil alternatives (Electric heat pumps already now, EVs in very short time, DRI & Electric arc furnaces for steel, Green ammonia etc.) 
• Money is flowing into the sector like never before, driven by ESG considerations
• Governments are pushing into the same direction. Europe so far has been leading, but under Biden the US is pushing hard
• interest rates are low which makes creating new infrastructure cheaper than never before

There remain a lot of challenges, especially the “intermittency” of renewable energy and the current lack of solutions for longer term storage. However, especially in the battery space there is significant progress made. Plus, all the billions now flowing into “Green tech” will create a “Cambrian explosion” of new technologies in a few years time. 

Potential Consequences:

Trying to fully understand the impacts of this coming “Energy Transition” is not easy. A lot of organizations are building models to predict the future, but even “only” 10 years out, these models diverge significantly, especially regarding the use of fossil fuels. For example,  the role of Hydrogen varies by a multiple of 10x or more between different models.

Therefore I try to make it simple and focus on the most probable direct consequences which in my opinion are:

• Electrification will gain steam in the coming years /decades (Passenger cars, heating, industry)
• Demand for renewable electricity will therefore increase significantly for a long time
• Companies that are able to contribute significantly to the build up should benefit  

So in a first stop I will concentrate on companies that in my opinion will profit most from building this new infrastructure.

It is important to realize that just identifying a big trend is not enough, as new big trends usually attract a lot of competition and especially in the early days it is not so clear who will emerge as the winner. Those investors who invested in German Solar manufacturers in the 2000s now what I am talking about. I do think that “this time it is slightly different” but still it is important to be cautious.

That is why I start this topic with a “basket” where I try to collect a handful of companies with smaller weights in order to gain exposure and to learn more.

The new “Energy transition” basket

 1. Siemens Energy (2% of portfolio)

The first member of the basket is an existing stock: Siemens Energy. Unfortunately, the stock is not a “pure play”, however there is a lot of exposure via the Siemens Gamesa stake but also with regard to their grid infrastructure activities. The current weight is ~2% of the portfolio, I sold 1/3 of the position already some weeks ago. I think the stock has significant potential if they execute well.

2. Orsted (2% of portfolio)

Orsted is a Danish Energy company, which used to be called Dong Energy. They divested all their fossil activities and now focus exclusively on renewable energy project development and operating wind and solar farms. Orsted is the leading player world wide in developing and operating off shore wind farms. Developing an Off-shore wind farm in time and budget is not easy and Orsted is one of the very few players who has a long experience with off-shore wind. Their very first off-shore wind park was created in 1991, so they now have a nearly 30 year history which is unmatched by any competitor. 

Offshore wind has been pioneered in the Nordics because obviously there sun light is an issue. However, especially in Asia it looks like that off shore might also become the dominating form of renewable power due to the lack of land which is a big issue, both for solar and onshore wind.

Looking at the stock price, it is clear that Orsted is not a “hidden champion” as the stock price quadruplet over the last 4 years:

Valuation wise, the stock is not cheap. The P&L is hard to read as it is a mix of ongoing profits from generation and once in a wile big gains from “farm downs” plus a lot of development expenses for development projects. Based on the pure existing generation part, the stock trades at somewhere between 20-25x EV/EBITDA.

However the value of the company is dominated in my opinion from having first access to virtually every off-shore wind project in the world. I also expect that Off-shore wind will be a global growth sector for at least the next 20-30 years and Orsted will play a very important role.

Therefore I allocated 2% of the portfolio into Orsted. 

3. Aker Horizon (1% of the portfolio)

Aker Horizon is clearly the most risky position of the initial 3 positions. The company bundles all “Energy transition” assets of the Aker Group and has been IPOed on February 1st.

The main asset is a recently acquired global renewables developer called Mainstream Energy. Mainstream Energy is a developer with a focus on Asia which is clearly the most interesting area for renewables in the moment.

On top of that, Aker Horizon holds the majority stakes in the listed Aker “Greentech” subs Aker Offshore Wind, Aker Carbon Capture and Aker Clean Hydrogen.

The listed subs clearly have “venture character” and there is also a question how good the newly acquired developer is. On the other hand, there is the outstanding capital allocation and performance track record of Aker ASA majority holder Kjell Inge Rokke, who created a 26% p.a. return for shareholders (or 7x) since 2004. In my opinion, Rokke, a self made billionaire is one of the most underappreciated capital allocators around and this time he moves “big” into Energy Transition.

Looking at the chart one can see that the IPO was not such a big success but the share price follows other “Energy Transition” plays:

Nevertheless I do like Aker Horizon as a very dynamic player in the field with a great capital allocator behind them, but due to the underlying risk I only invest 1% of the portfolio.

Financing/Exit: Group SFPI

In order to be able sleep well, I usually prefer a cash allocation of around 10%. With these transactions, cash would decrease to around 7%. I therefore “sacrificed” my Groupe SFPI position at around 2,45 EUR per share (~3% of the portfolio).

Long term readers know that I never actually bought SFPI but became a shareholder when they took over their subsidiary DOM Security. Although I like the CEO, I never got comfortable with the overall portfolio of businesses. It might not be the best timing, but SFPI was the position I could sacrifice most easily at this point.

Basket outlook:

The three positions above (Siemens Energy, Aker Horizons, Orsted) is only a first step. i plan to increase the basket to at least 10%. it could also be that I exchange positions if I find better alternatives.

There is now guarantee that this basket will perform well in the short term, however I do think that the industry will provide more opportunities over the next decade or two.