ESG: Sunny side up
Investors in solar power are responding to changes in the markets and finding new ways of gaining exposure, says Nina Röhrbein
While many investors may look at solar investments in horror, there is no denying that the world’s solar markets are expanding.
At the end of 2011, installed solar photovoltaic (PV) capacity in Europe reached over 51 gigawatts, which represents about 75% of the world’s total PV cumulative capacity of 70 gigawatts. Italy and Germany accounted for nearly 60% of global market growth in 2011, according to the European Photovoltaic Industry Association (EPIA).
However, there may be a shift in the world’s solar powerhouses. Germany is expected to reach 4-5 gigawatts of solar energy production this year but is expected to slow down in 2013.
“We are seeing an end to the big European solar market, certainly in terms of growth,” says Lee Clements, investment manager at Impax Asset Management. “Germany will remain big, but together with Italy and Spain it is no longer the growth engine of the solar market, mainly due to the reduction in their subsidies. However, those countries are being replaced by the strongly growing US market, and Japan and China with their attractive feed-in tariffs.”
Growing demand from a range of smaller markets such as South Africa, Chile, Australia and India is in part offsetting what is happening in Europe. But although global demand is growing healthily and becoming more diverse, the existing oversupply in the market makes the outlook on solar manufacturing anything but sunny.
The sector experienced tremendous growth rates increasing tenfold over the last five years, according to Clements, but prices have fallen from $3-4(€2.4-3.1)/W to around $0.79/W per solar panel and from $300-400/kg polysilicon to $19/kg because the industry, in classic bubble fashion, massively over-expanded.
“The prices of PV modules have been falling rapidly, which is leading to a complete bloodbath among the manufacturers, and many of them are producing at close to cash costs, even those in China,” says Neil Perry, CFO at solar energy company Solarcentury, which develops and builds PV plants. “Apart from some polysilicon and inverter producers, no manufacturer – and most quoted companies are manufacturers – in the solar space is making money, which is why it is perceived as such an unpopular sector with most institutional investors.”
Seb Beloe, partner and head of sustainability research at WHEB Asset Management, says: “Investors want to see significant closures of module manufacturers. But the Chinese government, which is worried about jobs, will not allow that to happen and a lot of companies are supported by Chinese bank loans. Solar is so out of favour that it should become interesting again soon. However, we are not there quite yet.”
Clements adds: “Over the last two years, due to its volatility, the solar industry was dominated by short-term hedge fund-type investors. But now, as long-term investors we are looking for a signal to return to the industry, in other words that the industry is getting rid of overcapacity and that future winners are coming through. We are starting to see the early signs of this rationalisation.”
Clements estimates that the 15 gigawatts global oversupply at the beginning of 2012 has been reduced to five gigawatts.
“But we still hear some incredibly low prices being quoted for the sale of panels to our private equity business, which indicates that there is still some inventory to be flushed through the system, and some consolidation to do,” he says. “The survivors of the industry will be those that have some level of pricing power and some level of differentiation, for instance, polysilicon players, and those where there is a technology and scale advantage, such as the likes of the Chinese panel manufacturers.”
Nevertheless, from a macroeconomic perspective, the affordability and competitiveness of solar against conventional fossil fuels and other renewables has never looked better. In many parts of the world grid parity has already been reached.
“In countries such as Spain and Italy, projects are now viable without any subsidy, in other words we are at grid parity even at the wholesale market level,” says Colin Campbell, partner at clean technology investment firm Zouk Capital. “Italy is also going to move its larger scale units down to the smaller units on residential PV, such as roof-mounted. The unit costs are at below €1/W installed versus €5/W back in 2008. This massive value shift and reduction in the installed costs is reflected in what has happened to feed-in tariffs. However, small and sensible feed-in tariffs are still helpful in making the transition to the new models as smooth as possible.”
Beloe says: “Subsidies ultimately have been essential to the growth of the industry but they have also been a headache because that is what investors have focused on. Every time feed-in tariffs were cut, solar company models were trimmed. Therefore, the reduction of feed-in tariffs is extremely good news for the long-term health of the industry.”
But while the removal of subsidies is positive in the long run, and can stimulate more technological innovation and cost reduction, in the near term it reduces the incentive for solar installations. “Therefore, new business and financing models need to develop before we will see a more significant pick-up in demand,” says Bojana Bidovec, senior energy analyst at asset manager SAM.
But before solar reaches grid parity in other regions by 2015, Bidovec expects a period of transition when natural and subsidy-independent demand materialises and the operating environment stabilises.
“As more countries and regions reach grid parity, we expect to see continued growth worldwide, with annual growth rates of around 15% through 2020,” Bidovec says. “But even with these growth rates, the percentage of electricity generated from solar will still be less than 3% so there is still a lot of upside potential. The EPIA, for example, has a range of estimates, with solar PV generating up to 12% of electricity in Europe by 2020 in the most bullish scenario.”
One issue that remains is base load and how the grid copes with the variability of the power supply in large markets such as Germany.
In the past, base load has caused the price of electricity in Germany to jump around and has sometimes led to the need to sell power cheaply to the Czech Republic or to Austria for pump storage hydro.
“The solar sector tends to focus on the costs for the average consumer,” says Beloe. “The untold story is that in Germany peak electricity prices and the business model of the traditional coal and gas-fired generators have been destroyed because solar has completely undercut them. Now we are beginning to see this revolution in generation, distribution and consumption happening in other countries as well.”
The other neglected story is that while investments in listed equities may look awful, investments in solar infrastructure continue to gain in popularity.
Germany’s pension fund for auditors and chartered accountants, WPV, for example, owns a solar PV energy plant, while the country’s biggest pension fund, the €53.5bn Bayerische Versorgungskammer (BVK), has also made a foray into solar park investments.
“Pension funds and insurance companies like investing in solar infrastructure because they are low risk and have all the characteristics of a bond investment, with yields of around 6-8% and effectively a government guarantee,” says Campbell. “In the UK, for example, they are RPI indexed for 25 years by the UK government and ungeared give very stable returns. While a lot of money is now chasing operating assets, the interesting opportunity for investors at the moment is investing in the construction and late-stage development assets because there is little money chasing those.”
A large number of income-producing low-risk projects are available, says Campbell, particularly in Italy but also in Germany and Spain.
The change in subsidies has created a shift away from ground-mounted towards roof-mounted projects, which tends to be a slightly slower growth market.
Some mining companies in Australia and Chile are already buying solar projects to complement their existing power-generation equipment without connecting it to the grid.