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NextEnergy Solar Fund

Do UK solar funds offer a cloudless spot for income investors? (Part I of II)

NextEnergy Solar Fund, Bluefield Solar Income Fund Ltd and Foresight Solar Fund have been joined by US Solar Fund in what is an exciting time for this sub-sector

solar power
Construction is underway for a new wave of UK solar farms

London’s listed solar funds have become favourites with many investors since they floated half a decade ago and improvements in technology and lower costs are poised to drive a new wave of investment.

A further positive light was shone on this niche sub-sector when one of the trio, NextEnergy Solar Fund Ltd (LON:NESF), was promoted to the FTSE 250 in the recent UK index reshuffle, but there are some unknowns on the horizon that have clouded the picture for some more cautious investors.

Growing renewable energy demand

As a renewable energy, solar-generated electricity is enjoying growing demand in a world worried by climate change and the sector is expected to attract ever more investment now and in the future.

From a current 11% share of global electricity production, the proportion from renewable energy is seen doubling in less than a decade and providing half of the world’s energy in 30 years’ time, according to research from BloombergNEF. Wind and solar predicted to grow from 7% of today's energy generation to 48% by 2050.

The research predicts that wind or solar now represent the least expensive option for adding new power-generating capacity in roughly two-thirds of the world.

“The days when direct supports such as feed-in tariffs are needed are coming to an end,” say NEF analysts. “Still, to achieve this level of transition and de-carbonization, other policy changes will be required—namely, the reforming of power markets to ensure wind, solar, and batteries are remunerated properly for their contributions to the grid.”

There’s always the sun

Solar energy is much less volatile as a source of electricity from year to year than other renewable sources like wind, even in cloudy Britain, where the spectacularly hot summer of 2018 only generated marginally more solar power than previous years.

Moreover, the technology is also literally more stable, sitting low to the ground with virtually no moving parts and much less chance that it will need fixing than the tall, spinning wind turbine.

The technology is also highly efficient: the photovoltaic cells that make up the main face of a solar panel only need to convert around 10% of the sun’s rays hitting them to create electricity.

Continual improvements in technology mean harnessing this energy is being becoming cheaper every year.

Why invest in solar funds?

For investors, the lure of NextEnergy Solar, along with fellow sun-focused investment trusts Bluefield Solar Income Fund Ltd (LON:BSIF) and Foresight Solar Fund Ltd (LON:FSFL) is the reliability and strength of their dividends.

All solar farms currently operating in the UK are connected to 20-year subsidies from the previous state-back renewables obligation certificate (ROC) scheme.

Half of the companies’ income currently comes from government subsidies and the rest from selling electricity on the market.

As an asset, solar’s charms for income investors are strengthened by being strongly uncorrelated to other sources of income, such as stock markets and bonds.

READ: NextEnergy Solar Fund makes hay as sun shines

The comforting assurance of these dividends is so popular with investors that the shares of this trio of have been sizzling lately, all trading on meaningful premiums to net asset value (NAV).

Foresight Solar’s 54 solar assets were valued at £604mln at the end of March, or 110p per share, versus a share price of 121p.

With 87 assets, NextEnergy’s resulting NAV per share of 110.9p is more than 7% below the fund’s share price of 119.5p.

Bluefield Solar, which also own 87 PV projects across England and Wales, last reported a valuation of £423mln and an NAV of 114.41p per share, which compares to its recent 136.5p share price, the biggest premium of the lot.

Fans in the Square Mile

This should not put off serious income investors, experts insist.

“It’s important to know that you buy this sector not for NAV growth but for yield,” analyst Colette Ord at Numis told Proactive.

“Generating assets are highly cash generative, or they should be, and it should be less about that NAV and more about the cash flow that those assets generate.”

Fund manager Richard Curling, who owns shares in Bluefield in his Jupiter Monthly Alternative Income Fund, is a fan of this niche too: “Our view is that these assets are a fantastic source of income in a world where dividends are unreliable and bond yields are very low - we think being able to get these other sources of income is very attractive.”

He also is looking at newly floated US Solar Fund PLC (LON:USF), which raised US$200mln from its float in April, plus another fund that is currently at the pre-IPO stage.

“The metrics are slightly different in the US,” he says. “One of things they can do is get much longer power purchase agreements. If you can match it to the life of your asset that becomes a very stable, virtually utility-like, source of income.”

Throwing shade 

While in the UK the government tariffs helped get the UK industry off the ground and still provide gilt-backing for existing assets, some shade was thrown on the sector when the subsidies for new-build projects were cut off in 2017.

Since that time, asset prices have been driven up and none of the three UK trusts have backed the building of new domestic projects, with NextEnergy encouraged to invest in solar projects in Italy, while Foresight ventured as far away as Australia.

Two years later, however, and construction is underway in the UK of the first subsidy-free solar farms, which for some observers raises a small cumulus of doubt into the sector’s previously bright and cloudless sky.

“Subsidies were cut off when we got to the point where costs of technology had come down significantly such that we no longer require for large scale projects,” says Ord.

“In today’s market there has been further progress on cost to the point where we’re close to be able to build solar subsidy fee and make a decent return. That’s what this group of companies are talking about as the next area of growth.”

READ: Part Two of the feature

Quick facts: NextEnergy Solar Fund

Price: £1.20

Market: LSE
Market Cap: £576.44 m
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