Is the party over for renewable-energy yieldcos?
Earlier this summer, SunEdison (NYSE:SUNE) spun off a new yield company, or yieldco, TerraForm Global (NASDAQ:GLBL), in the hope of raising $1.1 billion at a flotation price of $19 to $21 per share. That sounded like a reasonable target: over the past two years, a flurry of yieldco IPOs have raised $12 billion for renewable energy companies, helping to fund a wave of new utility-scale construction. Only last year, investors flocked to buy into SunEdison’s first yieldco, TerraForm Power (NASDAQ: TERP), which saw its price jump by almost a third during bullish first-day trading.
However, SunEdison’s second bite at the yieldco apple proved a disappointment: the GLBL sale raised only $675 million at a price of $15, and the newly floated company now stands just above $9, down a full 40 percent from its IPO price. TerraForm Global’s bellyflop is a sign of a broader malaise in the previously booming market for yieldcos, argues SunEdison CEO Ahmad Chatila. “We tried to do transactions the market couldn’t absorb,” he says. “It started over a year ago but we got the brunt of it over the last two months.”
Indeed, other recent yieldco offerings have met with a similarly tepid reception: Saeta Yield (BME:SAY) slid steadily after a disappointing debut in February, and Sol-Wind (NYSE:SLWD) was forced to postpone a planned $100 million IPO after failing to attract investors. The sector as a whole has slumped to a market cap of around $23 billion, down from a peak of $30 billion in mid-2015, and the Global X YieldCo Index ETF (NASDAQ:YLCO) is down 25 percent since its inception in May. “We have rarely seen such extreme concern, bordering on panic, among investors in this sector,” warns Morgan Stanley analyst Stephen Byrd.
That’s potentially a big deal for the renewable energy sector. Yieldcos are to clean-energy companies roughly what MLPs are to oil giants, or REITs to real-estate developers — a way for firms to access cheap capital and fund expansion by “dropping down” mature, income-generating assets to newly formed subsidiaries. In exchange for plentiful IPO cash, parent companies hand the keys to established wind farms and solar plants over to yieldcos, which in turn distribute virtually all of the projects’ revenues from energy sales back to their investors. If yieldcos can no longer be relied upon to generate cheap cash, renewable energy companies could find themselves struggling to fund new projects. “Renewable energy is on the cusp of becoming a mainstream alternative to fossil fuels — getting there requires a mainstream financing tool,” writes Varun Sivaram, former energy advisor to N.Y. Gov. Andrew Cuomo.
The big question for energy investors is the extent to which jitters in the yieldco sector reflect a sentiment-driven pullback prompted by cheap oil, which doesn’t necessarily impact the fundamentals of the renewable energy business. Yieldco parent companies have themselves been buffeted by turmoil in the oil market: as the chart below shows, SunEdison (NYSE:SUNE) has essentially tracked the decline in Brent crude since June 2015, showing some initial resistance in July, but also failing to fully track the crude-oil recovery that started August 25th.
While oil prices have clearly taken a toll on yieldcos, however, some analysts believe the sector’s weakness is a sign of deeper-seated problems. One key concern: yieldcos are vulnerable to increasing interest rates, and could rapidly grow uncompetitive if interest rates climbed back to 2007 levels. “Higher interest rates would mean lower share prices for yieldcos, and this would make it a lot more difficult for them to raise new equity,” warns Michael Liebreich, founder of Bloomberg New Energy Finance.
Other analysts believe that renewable energy companies’ aggressive embrace of the yieldco model over the past three years has effectively flooded the market, sparking increased competition for renewable-energy assets and potentially lowering the prices that yieldco-operated plants can charge for electricity. There are also concerns that yieldcos could ultimately serve to mask the risks and costs associated with renewable energy development. “The key to the yieldco ‘game’ is to convince investors that a capital intensive business is not capital intensive,” argues Hedgeye’s Kevin Kaiser. That could lead to a series of corrections in the yieldco sector, especially as existing solar and wind farms age, or begin to be supplanted by newer, more efficient technologies.
Companies to watch
- NRG Energy (NYSE:NRG) is in the process of dropping down 814 megawatts of wind assets to its yieldco, NRG Yield (NYSE:NYLD), as part of a plan — dubbed “NRG Reset” — intended to raise $210 million and create distance between the company’s renewable energy operations and its traditional generation and electricity-retail operations.
- Chinese PV-manufacturing giant Trina Solar (NYSE:TSL) is forming an alternative “growthco” subsidiary, which will use power-plant cashflow to fuel acquisitions rather than to pay dividends. That makes sense in the Chinese market, where delayed subsidy payments and project oversupply make traditional yieldcos less practical, says BNEF analyst Nick Duan.
- Canadian Solar (NASDAQ:CSIQ) saw its share price surge earlier this year as it announced plans for a new yieldco — then drop sharply when officials admitted weakness in the yieldco sector might force them to reconsider the spinoff. The utility could opt instead for an outright sale of solar assets if the yieldco market fails to settle, says CFO Michael Potter.