While London’s renewable energy focus has been on suppliers in recent years, investment trusts focused on energy efficiency “will be taking centre stage in the global energy transition” in coming years, predicts one investment bank.
While renewable energy is a key driver of the global transition towards a carbon-neutral future, energy supply, distribution and consumption “must become radically more efficient if we are to meet global climate targets”, Berenberg analysts Max Haycock and Myrto Charamis said in a note to clients on Wednesday.
With up to 66% of all the world’s energy lost before it even reaches the consumer, with households then wasting a further 20-30% of the energy they receive, this shows the need for investment in energy efficiency and London’s investment trusts focused on this area “provide investors with a rising tide of opportunities with attractive target returns of between 7.0% and 9.5% per annum”.
SDCL Energy Efficiency Income Trust (SEIT) was the first London-listed energy efficiency investment company, raising GBP100mln in December 2018 and since growing to around GBP1.1bn FTSE 250 company, helped by frequent secondary capital raises.
Its shares trade on a 12.7% premium to NAV, which the Berenberg analysts said they “would justify” given its history of achieving the top end of target returns (7.0-8.0% pa) and the large potential for future growth.
The other two trusts are still in the “ramping up” phase, the analysts noted.
Triple Point Energy Efficiency Infrastructure (TEEC) raised GBP100mln in October last year and has so far invested only 30% of NAV to date.
Even with exclusivity on an estimated GBP45mln of projects expected to close by year end, “until more operating assets are acquired, the 5.5p 2022 dividend target will continue being paid out of capital (ie NAV)”.
TEEC is purely UK-focused and targets returns of 7.0-8.0% per annum.
“Based on our estimated c70% deployed by year end, we believe the 7% premium to NAV is somewhat inflated for now given the deployment delays, as it indicates a look-through premium of c10% to invested NAV.”
Aquila Energy Efficiency Trust (AEET) is the newest entrant to the sector that raised GBP100mln in May this year but has yet to deploy any capital as it is still in the ramp-up phase and so has the lowest 2022 dividend target in the sector (3.5p) and will not target 5.0p until 2023.
“Its early-stage nature and lack of deployment to date will inevitably increase risk relative to more mature vehicles – however, we feel this dynamic is priced into valuation as it currently trades at around NAV. We rate the manager’s pan-European footprint highly and as its target net IRR of 7.5-9.5% is the highest in the sector, there is greater potential for capital growth, in our view.”
The analysts estimate that global investment in the sector must grow at an 8.2% CAGR over the coming 20 years to meet global climate targets.
“This provides an attractive depth and duration of opportunities underpinned by global economic incentives and government policies.”
As the only fully-fledged energy efficiency investment company, SEIT is the current preferred pick, with a diversified GBP720mln portfolio of operating projects that comfortably cash-cover its progressive 5.62p 2022 dividend target
“Now SEIT has reached a critical mass, we highlight the manager’s ability to derive additional alpha from existing projects. Their critical mass also generates an attractive GBP200mln organic follow-on pipeline often at pre-agreed rates of return, thus creating a natural minimum return hurdle – we expect that the other investment companies are some years away from this.”
As both TEEC and AEET are still ramping up, the analysts it is too early to comment on their invested portfolio.
With TEEC behind schedule deploying its IPO proceeds, they said “we wonder whether its focus purely on the UK market places it at a disadvantage relative to its listed peers with access to larger opportunity sets in Europe (TEEC) and globally (SEIT).
“We expect any progress made by TEEC and AEET on capital deployment to be taken positively by the market and in turn could provide a catalyst for a re-rating, but in the meantime their dividends will continue being paid out of capital (ie NAV).”