US Solar Fund 10 December 2020
Disclosure – Non-Independent Marketing Communication
This is a non-independent marketing communication commissioned by US Solar Fund. 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.
US Solar Fund (USF) invests in solar power assets across the United States, aiming to generate a progressive dividend of 5.5% of the IPO price now it is fully invested. All 41 assets bought with the IPO proceeds – totalling 443MW – are now operational, meaning USF is in a strong position to be able to deliver this dividend in 2021, covered by cash generated by the portfolio. The dividend is paid quarterly and would represent a yield of 5.2% on the current share price.
USF is managed by solar specialist New Energy Solar Manager (NESM). Although USF was launched in 2019, NESM has been managing solar assets for many years, launching its first fund in Australia in 2015. NESM’s strategy involves buying assets which are operational or under construction and bringing them into operation. NESM aims to use its internal asset management team to help generate a total return of at least 7.5% per annum over the life of the assets.
As we discuss in the Management section, NESM’s experience and connections are important advantages in the US, where tax equity investors typically partner with institutional investors to take advantage of the subsidy regime. The US solar market is c. 6.5x larger than the UK’s, and is expected to grow to multiples of its current size (see the Portfolio section).
As discussed in the Dividend section, a key element of the approach is signing long-term power purchase agreements (PPAs) with investment-grade counterparties. USF’s production is 100% contracted for a weighted average of 15 years (as of 30/09/2020), meaning that the income supporting the dividend is extremely stable (although it is in dollars, so UK investors take currency risk).
We think USF’s long-term contracted cash flows are an extremely attractive feature. Cash flows are fixed for a weighted average period of 15 years, longer than is typical for the other solar funds in the AIC Renewable Energy Infrastructure sector. This should help ensure the dividend, which would be 5.2% on the current share price, can be maintained and raised in line with USF’s target of 1.5% to 2% on average (although for sterling investors there will always be dollar exposure to take into consideration). We note that there is also potential for capital growth given USF uses a significantly higher discount rate than its peers. Some of this, but certainly not all, can be explained by higher interest rates in the US versus the UK. Were USF’s discount rate to fall closer towards the peer group average it could lead to capital gains.
Investing in the US solar market also seems attractive to us. The US market for solar is already c. 6.5x larger than the UK’s, and is forecast to grow extremely rapidly. This means USF should be able to develop a full pipeline of attractive assets rapidly. As the primary driver of renewables in the US is cost rather than climate-related aspects, solar penetration has lagged the UK. However, it is now one of the cheapest energy sources to construct and generates more jobs than fossil fuels. There is therefore a cross-party consensus in favour of expansion.
|High visibility on income due to long-term fixed power price agreements with investment-grade counterparties
|Income is paid in dollars, so will vary for sterling investors
|Diversification and scale possible thanks to size of US market and pipeline for growth
|The yield is currently lower than the solar fund peers
|Expertise of manager affords advantage in doing deals and profiting from all areas of the market
|Higher levels of gearing (target of 100% on a NAV basis) relative to UK peers means NAV sensitive to valuation assumptions