Results analysis: US Solar Fund

• US Solar Fund (USF) has reported results for the first half year during which its portfolio of solar assets has been fully operational. The first quarterly dividend of 1.25p per share was paid in line with target and the second declared, also in line with the annual target.
• The board reaffirmed the full-year target of 5.5p per share, with the expectation being that the dividends for the third and fourth quarters will be higher, reflecting the seasonality of solar cash flows. The dividends declared are fully covered by operating cash flows, a key milestone for the strategy which was planned to be achieved once the portfolio was operational. Cash generated by the underlying projects, together with cashflow reserves carried forward, cover the dividends paid by 4.61x.
• The company raised $132m in May. This was used to refinance the debt on the Heelstone portfolio of 22 projects and lower the effective interest rate on that investment from 6.25% to below 3%. Fund-level gearing was reduced to 40%, below the long-term target of 50%.
• Prior to the raise, USF acquired a 25% stake in the MS2 Project in California, with an option to acquire 25% more by March 2022. This is the sixth acquisition, and the 50MW acquired brings the total operating portfolio to 493MW, spread across 42 projects.
• The NAV per share declined by 2.8% over the period. This was due to the decline in the power prices forecasts for the post-PPA period. USF’s projects all have PPAs which fix 100% of the income with an average remaining length of 14.9 years as of 30 June 2021. During this period, USF is not exposed to power price fluctuations. However, lower expected power prices do affect the value of the assets via estimates of the cash flows that will come after these PPAs conclude. The manager typically assumes a useful life of 35 years for new assets.
• The chair highlights the supportive environment for solar assets, noting the largest first quarter of installations to date. She comments: “Installations have been driven by the increase in decarbonisation targets from a variety of offtakers, a renewed focus on clean energy deployment at the federal level, and the continued expansion of state-level renewable energy targets. This is reflected by a strong opportunity pipeline offering numerous high-quality construction-ready and operational solar opportunities, as well as the potential to install energy storage at existing sites.”

Kepler View

USF is managed by solar specialist New Energy Solar Manager (NESM) and 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.

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.

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.

We think the size of the market should be an attraction for the UK investor, as it offers diversification from the UK and a greater chance of growth. The comments from the chair on the strong opportunity pipeline are encouraging in this regard. The diversity in geographical location across the US is also helpful in limiting exposure to the climate in any one region and supporting stable cash generation.

USF’s long-term contracted cash flows are another attractive feature. Cash flows are fixed for a weighted average period of 14.9 years as of 30 June, providing certainty over the income received – although we note this income is fixed in dollars, so there are currency fluctuations to consider. We also note USF has a dollar and a sterling share class, allowing investors to manage their own currency exposure.

The power price reductions are the key reason behind the decline in NAV over the period. While we accept this is uncomfortable in the short term, the rally in the near-term power prices since the end of the period, in both the US and Europe, underlines the volatility and uncertainty in these forecasts which are used to value the NAV. We would be inclined to look through short term movements in the power price curve, whether favourable or not to NAV. We note that since the period end, one of the merchants whose forecasts were used in valuing the NAV has published significantly raised forecasts, while another whose valuation will be used for the December 2021 valuations will also publish an updated forecast before then.

Particularly in this post-pandemic period, volatility in NAV seems likely to continue, and we accept this could work against the trust as well as for it. However, USF’s key offering is, in our view, long-term contracted cash flows from an asset class with strong political support and improving economics. It offers diversification to holdings in wind power, geographical diversification from UK-centred portfolios, and an opportunity to access a rapidly growing solar market in the US.

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