Since our inception in 2009, Whitehorn has covered the energy services sector, including with our weekly newsletters and quarterly reports. We are excited to add to this coverage our new Renewable Index outlined below (Whitehorn also covers the Manufacturing, Food Processing, Engineering and Software & Technology sectors).
Our Renewable sector coverage focuses on North American headquartered businesses in the following subsectors: Solar Power and Manufacturing; Renewable Manufacturing and Services; Battery and Fuel Systems; and Renewable Utilities. All companies within our coverage have a market capitalization of over C$250 million (as of March 19, 2021).
Market Capitalization Exploded in 2020 – Dropping in 2021
Before July 2019, our Renewables index performed admirably – up 23.5%, but that was nothing compared to the booming growth that was to come. There is a disconnect between financial performance and market valuation, market momentum and sector sentiment drive valuations.
The Renewables space has been the focus of significant attention – from business to consumer to the Biden Presidency; environmental-friendly initiatives have garnered more attention and capital over the past 24 months, especially during the excellent market run in 2020.
However, how sustainable are these valuations with regards to traditional ”value” investing? Cash Flow? Profitability? With our index growing in market capitalization from $40 billion in early 2018 to over $400 billion by March 2021, we would expect to see significant improvements in revenue, earnings, and cash flow. Looking at the results, as much as there is improvement across almost all constituents, it still lags far behind share price performance.
A. Solar Power and Manufacturing (SPM) sub-Index:
Average 52-week total return: 200% (excluding Sunworks +3,776%)
*EV/EBITDA excluding two negative EBITDA Companies
*P/CF excluding three negative Cash Flow companies
The SPM sub-index thrived in the marketplace, making almost all constituents multi-billion-dollar market-cap companies in 2020. Valuation multiples are incredibly high (shared across the entire index), but we see some substantial growth numbers within the companies. EBITDA and Cash Flow compound annual growth rates of over 30% (2017-2021F) support some multiple and valuation expansion – but we believe the risk of maintaining these growth rates over the long-term (to justify current market prices) will be challenging.
B. Renewable Manufacturing and Services (RMS) Sub-Index:
Average 52-week total return: 297% (excluding GreenPower Motor Company +1,661%)
*P/Revenue excluding one negative revenue company
*EV/EBITDA based on three positive EBITDA companies
*P/CF based on three positive Cash Flow companies
The RMS subsector has seen even more aggressive growth in its share price performance within the last 12 months and since January 2018. A market cap 5-year CAGR of 209% is extreme in the best of circumstances. Despite a 52-week total return average of 297%, most constituents have negative cash flow and EBITDA, and even one with negative revenue…
The most potent sign of the extreme discount between market performance and financial performance may be Plug Power (PLUG), mired in accounting irregularities, which resulted in a delay in its Q4 filings and notice from the NASDAQ to get its financials restated by May 17, 2021. PLUG reported NEGATIVE revenue in Q4 and full-year 2020 (leading to NASDAQ issues). Why include PLUG in our index given negative revenue, negative EBITDA, and an impressively negative $703 million in LTM cash flow? A 52-week total return of over 885% and a market cap over $23 billion! Boggles a value-investor mind. But they do have $1.3 billion in cash on the balance sheet, so they can absorb at least two more years of similar massive cash flow losses if need be.
C. Battery and Fuel Systems (BFS) Sub-Index:
Average 52-week total return: 419% (excluding Cielo Waste Solutions: +2,050%)
*EV/EBITDA based on three positive EBITDA companies
*P/CF excluding three negative Cash Flow companies
Our BFS sub-index is showing the lowest revenue growth rates across our Renewable index. Its EBITDA and cash flow growth rates are equally modest, but market sentiment drives these company values higher (a common theme within our Renewable space). The largest company in the sub-index. Ballard Power Systems, highlights the variance between performance and value. With essentially flat revenue growth from 2017 - 2021F ($152.5 million to $151.4 million), negative EBITDA, and negative cash flow (expected to hit a cumulative 5-year cash flow of -$160 million, from 2017-2021F, we would expect an underperforming share performance. Wrong! Ballard Power Systems demonstrated a robust 89% CAGR (January 2018-March 2021) and a 52-week total return of 128%. The market momentum around renewable energy and electric vehicles has allowed the company to raise much-needed cash in the equity markets, completing over $664 million in share sales (via a $1.5 billion shelf prospectus). Ballard Power has shored up its balance sheet strength, but operationally it remains years away from positive cash flow.
D. Renewable Utilities
Average 52-week total return: 46%
Finally, our rather “dull” renewable utilities sub-index demonstrated relatively modest share returns (ONLY a 46% 52-week total return) favorable growth rates across revenue, EBITDA, and Cash Flow. With all eight constituents showing positive cash flow over the last twelve months and with by far the lowest valuation multiples, this sub-index trades at levels more consistent with what we would think for cash flow positive businesses and seems to be less impacted by the hype surrounding our other sub-indexes. As a result, we expect to see this slow & steady sub-index outperform the other indices if the sector as a whole reverts to more traditional financial metrics or sees reduced sector sentiment or access to the capital markets fundraising.
Final Observations
Our Renewable Index has 32 Companies Across Four Sub-Indexes.
11 have negative trailing EBITDA and cash flow.
11 also have significantly more cash than debt.
5 of the 21 companies with net debt have negative EBITDA.
Access to capital will remain critical for many companies in our index – with most having to rely on solid equity markets to sustain ongoing financing needs. Of the 11 companies with negative cash flow, seven have significant cash balances, and we would expect most of them to continue seeking capital from the equity markets.
Overall, we believe many of these companies are overvalued based upon past and near future financial performance. With three of our four indices having Price/Revenue multiples greater than 10x and EV/EBITDA multiple with either no meaning (negative EBITDA) or extreme multiples, there is a high probability of a significant pull back in share values, which may impact their ability to raise capital in the markets.
Our Renewable Utility sub-index has the lowest valuation multiples, the strongest financial performance (among our index), and has shown the least share price appreciation. However, it also has the highest net debt levels, with an average net debt EBITDA multiple of 5.9x.
Overall, while investment and growth in the renewable energy sectors will (and should) continue over the decades to come, that investment (by governments, businesses and consumers), has yet to translate into meaningful, profitable operations as witnessed in our Renewable Index.
