Greencoat UK Wind 07 February 2023
Disclosure – Non-Independent Marketing Communication
This is a non-independent marketing communication commissioned by Greencoat UK Wind. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.
Greencoat UK Wind (LON:UKW) has had a very strong year of operating performance, highlighted by the recent NAV and dividend announcement for 31/12/2022. Underpinning UKW’s success last year has been its ability to operate without hedging electricity exposure. This is a function of the basic model with which it was launched ten years ago, in which the majority of assets are purchased unlevered, allowing the trust itself the option to gear up, but also to budget for high free cashflow and a dividend cover of c. 1.7x in a standard year.
As a result of high wholesale electricity prices, but also of inflation contributing to revenues derived from inflation-linked subsidies, UKW has announced dividend cover of 3.2x for 2022. This will allow a significant reinvestment of surplus cash (see Portfolio section), thereby boosting the chances that the board will be able to maintain the trust’s sector-leading dividend growth, which has so far been pegged to UK RPI each year since launch. At the target dividend of 8.76p for 2023, the shares offer a prospective yield of 5.4%.
The blended portfolio discount rate (applied to each asset’s underlying cashflows) now stands at 8%, the same rate used to value UKW’s assets at launch ten years ago. The recent NAV announcement highlighted that on an NAV basis (i.e. regarding the geared cashflows available to the trust and the way most peers’ discount rates are reported) the discount rate is c. 10%. Taking off costs of c. 1% per annum, this results in an expected (not guaranteed) NAV total return for shareholders of 9% per annum, assuming UKW’s assumptions play out.
UKW’s managers comment that last year, they “fixed the roof whilst the sun was shining”. By this they mean that firstly, when electricity prices were rising at their fastest rate, they built plenty of conservatism into the NAV by assuming very significant haircuts to the wholesale electricity prices at which they would sell their energy output. Secondly, as interest rates started to increase, they raised the discount rate at which they value assets.
Having captured high prices during the last year, but having seen electricity prices come back significantly from their highs, UKW’s conservative approach looks to have paid off, given the NAV increased by 12.4p over Q4 (and 33.6p for the 12 months). We calculate that UKW’s NAV total return over 2022 was 30.95%. This strong performance is impressive, but in our view is even more so given the conservatism still baked into the NAV – especially with regard to inflation. We note the equity discount rate, after charges, would translate into a long-term NAV total return of 9%.
Perhaps of more immediate interest is the fact that the dividend has yet again been raised – this time by 13.4% – in line with UK RPI for December. As we illustrate in the Dividend section, dividend cover for 2022 was 3.2x, meaning surplus cash of £394m (by Kepler’s estimate) can be reinvested, which we believe further boosts the chances of UKW increasing future dividends in line with inflation. The current modest discount to NAV may in time prove an attractive entry point, given the historical premium that the shares have attracted.
- High dividend yield well covered by cash
- Continued commitment to RPI-linked dividend growth, yet trading on a discount to NAV
- Uncorrelated assets, and committed pipeline of investments
- Some fixed-rate gearing will need to be refinanced over the next few years, probably at higher interest rates
- Gearing exacerbates underlying asset valuation movements
- Valuations based on long-term assumptions which may (or may not) prove optimistic