William Heathcoat Amory
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Updated 26 Sep 2022
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Disclaimer

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.

  • USF’s unaudited NAV at 30 June 2022 was $0.967 per Ordinary Share, very marginally higher than the 31 March NAV. A small uplift in electricity price forecasts, improved operating cost assumptions, and valuation date roll forward drove the increase in fair value of the portfolio’s underlying solar investments. As at 30/06/2022, the weighted average discount rate range used was 6.7% (December 2021: 6.3%) on a WACC basis, and 7.6% (December 2021: 7.8%) on a pre-tax cost of equity basis.
  • The company has continued to deliver and cash cover the target dividend, with an increase in the dividend of 1.5% in 2022 (USF’s second full year of operations) to 5.58 cents. The first payment was made in July (for the period ending 31/03/2022) and the second dividend, announced at the same time as the interims, will be paid on or around 21/10/2022.
  • USF’s NAV total return from inception to 30/06/2022 including dividends paid is 7.8% in dollar terms. In contrast, including dividends paid and reinvested, the share price total return (in dollars) from inception to 30/06/2022 is -4.06%, largely due to the discount widening since listing.  
  • The board recognize the share price performance has been disappointing compared to peers who have a greater exposure to merchant power prices than USF. Therefore, the board and the investment manager are exploring options to deliver value for the shareholders.
  • The board believe that USF’s steady cash flows from high-quality assets with investment-grade offtakers are a welcome source of stability in turbulent times. The board looks forward to updating shareholders on USF’s future plans as soon as practicable.

Kepler View

As at 30/06/2022, US Solar Fund (USF’s) portfolio consisted of 42 projects across four US states with a combined capacity of 543MWDC. These assets are fully operational, having generated 452 gigawatt-hours (GWh) over the six-month period to 30/06/2022. Power offtake agreements are in place for 100% of generation with creditworthy counterparties with a weighted average remaining life of 14.3 years, providing a resilient and uncorrelated income stream. This solid income stream underpins the dividend, and is the chief attraction of USF in our view. The current target dividend of 5.58 cents represents a yield at the current share price (US$ 0.87 as at 26/09/2022) of 6.4%, which is higher than the 5.7% simple average of peers who focus on solar assets (Source: JPMorgan Cazenove).

USF’s shares trade at a discount to NAV of 10%. In our view, this reflects current market sentiment, which currently favours those peers with exposure to power prices, and/or inflation linkage. USF’s near-term cashflows are insulated from volatility in wholesale power prices because of its long-term contracted cash flows with electricity sales 100% contracted through the PPA period. The longest PPA has approximately 23 years remaining, the shortest has five years remaining. As a result, USF’s exposure to power price fluctuation is only after the PPA period.

As the Investment Manager notes, in the US abundant natural gas has historically kept energy prices low on an absolute level and less volatile. While recent global events have pushed short-term electricity prices up almost double over the last year, this is off a much lower base than in the UK, and the impact is not as dramatic: independent forecasts of US merchant prices were generally revised upwards during the six months to 30/06/2022, resulting in a small positive impact ($0.002 cents per Ordinary Share) on the Fair Value of USF’s portfolio since December 2021. In terms of the impact from inflation on revenues, USF’s PPA’s do not contain direct inflation linkages (which are not common in the US), although it is worth noting that some of the contracts escalate at a specified percentage annually.

After the period end, USF announced that it had sold a purchase option over its 50% interest in its Mount Signal 2 (MS2) project in California to MN8, a renewable energy business formerly known as Goldman Sachs Renewable Power LLC. The other 50% of the asset is owned by New Energy Solar Limited (NEW) and is being sold to MN8 as part of a broader portfolio transaction. The total proceeds of $53.2 million that USF will receive if MN8 exercises the Option, imply a gross return of 11% per annum. In view of the IRR, it is fair to assume that if the transaction occurs it will be additive to the NAV, and provides reassurance to shareholders on the NAV. As such, the current discount to NAV could offer value in a sector where premiums are currently the norm. A catalyst for this discount to close, could come in the form of the forthcoming announcement on the board and the managers exploration of “options to continue to deliver value”.

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