NextEra Energy Partners: Lower Solar Panel Prices May Offset Higher Borrowing Costs, Improving Growth Outlook

seekingalpha05-30

Investor appetite for clean energy stocks appears poor despite rapid growth in the sector following a broad decline in solar stocks.Solar and wind energy have lower costs per MWH than fossil fuel ...

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0}\n</style>\n</head>\n<body>\n<div class=\"wrapper\">\n<header>\n<h2 class=\"title\">\nNextEra Energy Partners: Lower Solar Panel Prices May Offset Higher Borrowing Costs, Improving Growth Outlook\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-05-30 04:35 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4696300-nextera-energy-partners-lower-solar-panel-prices-may-offset-higher-borrowing-costs-improving-growth-outlook><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Investor appetite for clean energy stocks appears poor despite rapid growth in the sector following a broad decline in solar stocks.Solar and wind energy have lower costs per MWH than fossil fuel ...</p>\n\n<a href=\"https://seekingalpha.com/article/4696300-nextera-energy-partners-lower-solar-panel-prices-may-offset-higher-borrowing-costs-improving-growth-outlook\">Source 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the sector following a broad decline in solar stocks.Solar and wind energy have lower costs per MWH than fossil fuel power plants but are more exposed to interest rates because they have higher upfront capital costs.NextEra Energy Partners is facing challenges due to high borrowing costs, but its business model remains profitable and offers a high dividend yield.The solar panel glut may be a positive catalyst for the firm, as it could offset higher borrowing costs with lower capital investment costs.The company's CFO may decline as it refinances its debt, but not so much that its dividend is at high risk of being cut.   pidjoeThe alternative energy market is rapidly changing as governments worldwide look to accelerate the transition to sustainable energy. During most of the 2010s, \"green energy\" stocks usually traded at a significant premium as investors looked to the growth opportunity or wanted to invest based on some social aim. Today, I'd argue the opposite is nearly true. Despite the rapid fundamental growth in the segment, investor appetite for clean energy stocks is seemingly poor. The Solar ETF (TAN) and the Wind ETF (FAN) are both down considerably since their 2021 peaks, while fossil fuel stocks like oil producers (XOP) and coal stocks have generally been up by triple-digits since then. While sentiment is difficult to judge, I tend to see a great deal more anti-green energy comments than pro-green energy, which is understandable given the relatively poor performance of those investments. Of course, we can differentiate the performance of a stock, which is driven by expectations, or the actual reality of green energy. Green energy stocks have poor performance because investors likely expected too much rapid growth. The sector's growth has been remarkable, but not as strong as valuations had previously priced. As many argue this fact, it is well-documented that wind and solar are among the cheapest sources of power in terms of dollars per MWH based on the levelized cost of energy. That will vary regionally, but wind and solar generally benefit from their naturally low overhead labor costs over fossil fuel power plants. Nuclear has a very high labor overhead and is among the least affordable. Further, as I've detailed this month regarding SolarEdge (SEDG), Canadian Solar (CSIQ), and Enphase (ENPH), poor performance in the sector is mainly attributable to too much growth. Namely, China's solar panel (and related) production is rising much faster than demand, leading to a sharp decline in prices and negative headwinds. The global cost of solar panels has crashed by a staggering 50%. Theoretically, that may increase the ROI for solar farm producers. One potential indirect beneficiary may be the downtrodden NextEra Energy Partners LP (NYSE:NEP). NextEra Energy Partner's Cash-flow Machine NextEra Energy Partners is an LP created by the utility giant NextEra Energy (NEE). From the end of 2022, my outlook on NEE was bearish until March of this year, when I upgraded my outlook to neutral. The stock has rocketed up ~40% since March, so I think it is overvalued again. However, my sentiment on NEE is shifting to bearish, but the opposite is generally true for NEP. NEP is down by around 43% YoY. The stock crashed last October after it cut its long-term growth prospects in half, as higher interest rates increased financing burdens for its growth projects. As I detailed regarding the solar companies, that is a massive issue in the solar market. For utilities and residential solar investors, borrowing costs are now around 2-3X higher than before 2022, directly lowering the ROI of all capital-intensive investments. Thus, rooftop solar demand is slipping, with utilities dramatically lowering renewable energy investments. Fundamentally, solar and wind have higher upfront costs and lower overhead, making them more sensitive to rates than fossil fuel plants, with low upfront costs and high overhead. NEP acquires, owns, and manages clean energy projects that sell power under long-term contracts. As such, it has high interest expenses and likely cannot afford to make significant investments with interest rates where they are now. See below: Data by YChartsSince it is so capital-intensive, NEP has a very high depreciation rate. Its operating income TTM was -$52M, though its CFO was $727M, the difference stemming from its high depreciation rate. Crucially, as noted on its annual report, many of its investments are subject to the Federal incentive program of accelerated depreciation, or the Modified Accelerated Cost Recovery System, which is five years for solar and also five years for wind. This is very important as it artificially skews its income, as this depreciation schedule is a tax incentive to encourage such investments. Based on studies, the degradation rate of solar is around 0.5% per year, meaning they're very efficient for 20-30 years, but should still produce a great deal of power for 40 years without significant damage. This is a non-issue for wind, though some maintenance is needed over time. Thus, investors should look to NEP's cash flow as the primary indication of its income, since the tax incentive heavily skews its depreciation. Despite its high-interest costs, NEP's business model is highly profitable. Just over 70% of its sales are converted into operating cash flow. Around 19% of its sales are going to CapEx. That figure has declined slightly as it reduces investments amid high borrowing costs. Still, after CapEx, half of its sales are going to distributable cash-flow. See below: Data by YChartsNEP's sustainable energy business model is very profitable. Yes, higher borrowing costs are an issue that will slow its growth, but that will change once rates fall. I believe rates may stay higher for longer than many expect due to what I believe to be chronic inflation. However, chronic inflation should increase utility labor costs and electricity prices proportionally. Thus, while it should take time, higher borrowing costs may not necessarily lower the long-term ROI of these investments. Further, high borrowing costs are lowering solar and wind demand, causing the prices of those capital products to decline. Canadian Solar (solar produces virtually nothing in Canada and most in China) is seeing its sales prices collapse. Yet, the company continues expanding its production base, worsening the solar panel glut. I expect solar panels (and inverters, etc.) to continue to fall in price until they reach parity with interest rates. Labor costs will not necessarily fall with lower demand. Still, I believe the falling prices for solar and wind will largely offset the increased interest rate cost, improving NEP's ROE potential. What is NEP Worth Today? I believe the market has dramatically overreacted to the temporary slowdown in its growth rate. Yes, the company cannot earn the same ROIC as before rates were higher, but the market is correcting as the costs for solar and wind products decline. Further, in the long run, rates will either decline or electricity prices will rise (sustained inflation). Thus, the long-term ROIC of solar and wind investments may not be changed to the degree the market assumes. Of course, investors today can earn a 10.5% dividend yield, which is over twice as high as its pre-crash level. See below: Data by YChartsFor now, its dividend is secured by its cash flow and is unlikely to be cut based on the company's substantial profits (based on CFO) and the robust demand for alternative power sources. The fact is that solar and wind are very competitive in terms of cost per MWH, and I don't believe the rise in interest rates will be dramatically lower than as we see solar products become cheaper. The most significant risk to NEP is the impact of refinancing on its cash flow. Last quarter, it had $1.35B in current LT debt with significant maturities from today through 2026. Its total minimum annual maturities on debt (including current 2024 maturities) were ~$4.1B for 2024 to 2026, or $1.35B for 2024, $704M for 2025, $2.05B for 2026 (10-K pg. 71). Assuming refinancing rates will be ~4% higher (since these debts were generally established before 2022), that equates to an estimated $164M increase in interest costs. Numerous other factors can change this, including changes to perceived credit risk, inflation, and interest rates. However, I believe this accounts for a $100M to $200M likely decrease in CFO associated with higher borrowing costs. With this in mind, we could see its ~$750M to $700M CFO drop to $500M to $650M by 2026. Still, even at $500M, its price-to-CFO would be a low ~6X, and the company's managers have stated they continue to look to expand its dividend through 2026.  To me, the company is heavily discounted and is among the few seemingly attractive high-dividend yield investments today. Undoubtedly, with its debt and capital-intensive business, a sharp rise in rates is a significant risk for the firm. However, a decline in rates would also be a benefit. Further, I believe the market will correct rates in the long run through a combination of higher electricity contract prices and/or lower capital investment prices. I don't expect NEP to soar in value anytime soon but instead offers a good long-term risk-reward trade-off that I believe will beat the market over the next five years.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":null,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"","news_tag":"","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.24.2","shortVersion":"4.24.2","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2439363659"}