Despite a multitude of macro challenges like deflationary worries in Europe, slowdown in China and Japan, along with the oil price carnage in the market, the long-term outlook for the alternative energy space has held up pretty well. The latest report from the U.S. Energy Information Administration (“EIA”) shows that renewable energy will be the fastest growing power source through 2040.
Solar and wind are gradually transforming the way we produce and consume energy, driving the ongoing global energy transition. Although some better-established sources of alternative energy -- hydro, wind, biomass and waste, not to mention solar photovoltaics (“PV”) -- are supported extensively, niche renewable energy sources such as geothermal and concentrated solar power (“CSP”) are also on the rise, natural conditions permitting.
Here we take a look at the alternative energy space and attempt to identify this nascent industry's strengths.
U.S. Administration’s Green Energy Drive: "Clean energy" has long been the focus of the current administration. President Obama’s "Climate Change Action Plan" and the favorable green energy trends have already done a lot in pushing the sector northward. Now, the budget proposal seeks an approximate 7.2% rise in funding for a clean energy space.
The proposal asks Congress for a permanent extension of tax credits for the solar and wind industry. The fiscal 2016 budget request includes a $7.4 billion fund for clean energy technologies, up 7.2% from the $6.9 billion proposal for fiscal 2015 and above the $6.5 billion enacted by Congress for fiscal 2015.
In addition, the U.S. administration’s efforts to restrict carbon emissions are a net positive for renewable energy stocks. On Aug 3, 2015, the White House revealed the final version of the ambitious climate policy. This Environmental Protection Agency (EPA) program seeks to cut CO2 emissions from the nation's power plants. The Obama administration has vowed for CO2 reduction of 28% by 2025 and 32% by 2030, from 2005 levels. This version turns out to be a little stronger than the draft proposal released last summer, wherein the EPA had proposed total CO2 reduction of 29% by 2025 and 30% by 2030.
The plan sets carbon pollution reduction goals for power plants and requires states to implement plans to meet these goals. States have until Sep 2016 to submit plans, but all must comply by 2022. Coal generates about 40% of U.S. electricity and coal plants are the largest source of carbon emissions in the country. Increasing regulatory mandates to safeguard the environment will be a catalyst for renewable stocks.
The proposed rule has influenced utility providers like NRG Energy Inc. (NRG), Sempra Energy (SRE) and Duke Energy Corp. (DUK) to gradually shift their mode of power generation to solar, wind and water.
The EIA projects that utility-scale solar capacity will expand by more than 100% between year-end 2014 and 2016 in the U.S., in tandem with considerable consumption growth in renewables for electricity and heat generation purpose. California, along with North Carolina and Nevada, will account for almost 70% of the projected utility-scale capacity additions for 2015 and 2016.
New Tariffs and Solar Trade War: Washington imposed import duties on solar panels and other related products from China and Taiwan. The new duties would further escalate trade tensions between the two countries at a time when they were planning to work together in the common fight against global warming and carbon emissions. The U.S. believes that Chinese manufacturers have benefited from unfair subsidies offered by their government.
The U.S. Department of Commerce (“DOC”), in Dec 2014, set anti-dumping duties at about 52% on most module imports from China and at 19.5% on most imports of Taiwanese cells. It has also slapped 39% anti-subsidy tariffs on most China-made panels.
The continued invasion of low-priced Chinese solar products had pushed many American manufacturers out of business. In retaliation, the DoC implemented anti-dumping duties in 2012. Tariffs were only applied on Chinese-made cells that were used to make panels. Many Chinese solar manufacturers were able to dodge the hefty levies by assembling panels from cells produced elsewhere, especially in Taiwan. Yet those cells were derived from components -- ingots and wafers -- from China.
Hence the move is intended to close a gap in which Chinese companies could use solar cells made in Taiwan to avoid paying higher tariffs.
Some U.S. solar stocks like SunPower Corp. (SPWR), First Solar Inc. (FSLR) and SunEdison Inc. (SUNE) are expected to make the most of the conflict.
Forming a YieldCo: A YieldCo can be defined as a dividend growth-oriented public company formed to hold operational assets, which produces an expected cash flow based on long-term power purchase contracts. The impact of YieldCo financing on solar developers and plant operators has been huge. It is basically the adaptation of the REIT program to renewable energy, by forming an independent power producing corporation to operate primarily renewable energy assets comprising water, wind and solar. The company is publicly traded, yields a predictable cash flow, and distributes its income to the shareholders.
"YieldCos raised $1.6 billion from the public markets worldwide in the second quarter of 2015, with about $800 million in debt, and accounted for almost a third of all large-scale project acquisitions," said Raj Prabhu, CEO of Mercom Capital Group, in the company’s weekly funding report on Sep 7, 2015.
In 2014, NRG Energy listed one of its subsidiaries, NRG Yield Inc. (NYLD), which contains some natural gas and renewable production assets. SunEdison recently filed an initial public offering for its own spun-off company TerraForm Power (TERP). First Solar and SunPower also took the plunge to form their own YieldCo − 8point3 Energy Partners (CAFD).
The Sun Is Everywhere: Solar power is generally located at a customer's site due to the universal availability of sunlight. As a result, solar power limits the expense and losses associated with transmission and distribution from large-scale electric plants to the end users. For most residential consumers seeking an environment-friendly power alternative, solar power is currently the only viable choice. Residential solar is undeniably gaining on utility-scale solar in the U.S. in a marked change in industry dynamics.
Among the renewable energy pack, we would advise investors to look for companies like rooftop solar energy systems provider SolarCity Corp. (SCTY) with an innovative game plan. This downstream solar company plays on its strength, providing renewable power lower than the grid price to residential and commercial markets in the U.S. California-based SolarCity’s MyPower loan plan allows its customers to own their solar systems and still pay less for electricity when compared to leasing them through power purchase agreements.
Residential solar in the U.S. has been one of the success stories in the alt-energy space. Per the Solar Energy Industries Association (“SEIA”), residential PV installation grew 70% year over year in the second quarter 2015.
Japan Looks Bright: We note that Japan has recently been a happy hunting ground for solar companies in search of new markets. The country is going to be a key energy market as the strategy document released by Japan’s Photovoltaic Energy Association (JPEA) in Apr 2015 outlined how Japan solar could reach 100 GW of installed PV generation capacity by 2030. Again, on Jul 2015, JPEA revealed that the country may achieve its 64 GW solar capacity target by 2020, a decade earlier than its initial plan.
Japan was the world's second largest market for solar PV growth in 2013 and 2014, adding a record 6.9 GW and 9.6 GW of capacity, respectively. In 2014, cumulative capacity reached 23.3 GW, ahead of Italy (18.5 GW) making the country the world's third largest power producer from solar PV, behind Germany (38.2 GW) and China (28.2 GW).
Japan's need for electricity is on the rise, particularly after the Fukushima nuclear power plant accident which triggered a complete phase-out of all nuclear reactors in the country. Presently, the Japanese government is looking for alternate resources to meet the growing need for power in this very industrialized nation.
Companies like First Solar are investing substantially to install emission-free renewable set-ups. The country is expected to become the second largest market for solar products after China. First Solar -- the largest U.S. solar company -- has been teaming up with Japanese counterparts to develop, build and operate solar power plants.
India Holds Promise: While the U.S. and China have been in the forefront in recent years in driving the industry, other nations are also pushing hard to have their home-grown solar generation capacity as a remedial measure to solve the electricity crisis. The latest to join this list is Asia's third largest economy, India.
India is striving to enhance its solar energy capacity to 100 GW by 2022. Moreover, India intends to increase its renewable energy share to at least 15% from the present 6% by 2020. Currently, India’s solar power capacity is above 4 GW. Between 2015–2016, India’s target is to add 2 GW of solar capacity. The pace of installation is projected to accelerate rapidly between 2016–2017 with an annual target of 12 GW. This has kindled the interest of the global solar players in the Indian market.
First Solar and SunEdison Inc. have ample businesses in India and, together with local firms, will invest $6 billion in the country for the fiscal year ending Mar 31, 2016.
Environmental Legislation: Alternative energy companies are increasingly benefiting from new legislation in the U.S., stipulating installation of renewable sources of electricity generation as mandated by Renewable Energy Standards (“RES”). As of now there are 29 states, the District of Columbia and two territories that have RES legislation in place. Another eight states and two territories also have goals for adopting renewable energy standards.
At the federal level, investment tax credit (“ITC”) is currently at 30%, which will remain in effect through Dec 31, 2016. Beginning 2017, the solar tax credit becomes 10%. The industry will likely see many companies taking advantage of the 30% ITC, and build more panels, storage capacity and other production items up to the end of 2016. Once the ITC drops to 10%, these companies can also utilize a higher rate of depreciation to protect their profits. So, the cut in ITC will not likely dent these companies' profitability.
The wind sector also benefited significantly from the production tax credit (“PTC”) over the last few years. It began as part of the Energy Policy Act of 1992. Subsequent to that it received life extensions of half a dozen times.
In the first decade of a renewable energy facility's lifespan, the PTC provided 2.3 cents/kilowatt-hour ITC benefit for wind turbines and 1.1 cents for some other renewable energy sources. In early 2013, the renewable electricity PTC was extended for one more year. However, it expired by the end of 2014 due to Congressional gridlock.
Impact of Fed Policy: The Fed’s loose monetary policy has been a boon for the entire market, but it has been particularly helpful for the capital intensive and young solar industry. The central bank’s recent decision to delay interest rate lift-off has therefore been very helpful to solar stocks. Low rates help make long-lasting solar projects more economical and encourage solar companies to make competitive bids for new projects. Higher short-term interest rates could also lift longer-term rates and have an adverse effect on solar companies.
Summing Up
It is evident that demand for renewables is strengthening at a rapid clip. Moreover, the gradual widening of the solar markets will bode well for all global players and instill confidence in the industry over the long term.
Check out our latest “Alternative Energy Outlook” here for more on the current state of affairs in this market from an earnings perspective, and how the trend is looking for this important sector of the economy now.
Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days.
Click to get this free report TERRAFORM POWER (TERP): Free Stock Analysis Report SUNEDISON INC (SUNE): Free Stock Analysis Report SEMPRA ENERGY (SRE): Free Stock Analysis Report SUNPOWER CORP-A (SPWR): Free Stock Analysis Report SOLARCITY CORP (SCTY): Free Stock Analysis Report NRG YIELD INC-C (NYLD): Free Stock Analysis Report NRG ENERGY INC (NRG): Free Stock Analysis Report FIRST SOLAR INC (FSLR): Free Stock Analysis Report DUKE ENERGY CP (DUK): Free Stock Analysis Report 8POINT3 ENERGY (CAFD): Free Stock Analysis Report To read this article on Zacks.com click here. Zacks Investment Research