Vestas Hits Headwinds, But Good Times Are Coming (OTCMKTS:VWDRY) – Seeking Alpha

Posted: June 20, 2022 at 2:48 pm

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Recent years have provided lots of crises and there has been huge expenditure on recovery. For a while, during the COVID pandemic, it looked as if there might be a possibility for commitment to recover from COVID through progress on addressing climate change via a decarbonized world, which would mean massive investment in solar PV and wind power. Sadly this opportunity has been missed, but perhaps the Russian invasion of Ukraine might help Europe to have another go with the REPowerEU plan. There seem to be hopeful signs of an intention not to just swap out Russian oil and gas with these products from other suppliers, but instead to make Europe more self-sufficient with new renewables investments. This means major expansion of solar PV and wind projects. Of particular relevance to this article, a key feature of the REPowerEU plan is to increase the renewables target from 40% to 45% by 2030. This means, for example, a change of pace from decade-long offshore wind implementation, to faster and more targeted permitting procedures. This is the kind of change needed to get renewables projects on a different pace and it bodes well for revitalising the wind industry at a time when it's suffering from corporate malaise. Here I explore the situation for Vestas Wind Systems (OTCPK:VWDRY), the world's largest wind turbine manufacturer. I explore some unrecognized opportunities for wind power. I conclude that, notwithstanding current challenges, a turnaround in the fortunes of this company.

The numbers are revealing. Vestas designs, manufactures, installs and services wind turbines in 87 countries. They have installed 154GW of wind capacity, more than any other company. With 132GW (including 9GW non-Vestas) of turbines (53,000+) under service contracts in 72 countries, Vestas has more "data to interpret, forecast and exploit wind resources and deliver best-in-class wind power solutions." The company offers maintenance, parts and service and fleet optimization services, with an average service contract duration in excess of 10 years. The company has 29,000 employees and 40 years of experience in the wind industry. In January 2022 Vestas was identified as the most sustainable company in the world in Corporate Knights ranking.

The company is an industry leader in onshore wind and service, and a major participant in the development of offshore wind. The company has 7+GW of offshore wind, involving 1,500+ turbines across 45 projects. It now has a leading 15MW offshore wind turbine.

In the May 4 Q1 2022 earnings call CEO Henrik Andersen reported a wind turbine order backlog of Euro 18.9 billion. There was a lot of talk about all kinds of problems, but reality is that the order backlog is pretty much where it has been previously. However, 2022 is one of the toughest years in operating terms that the company has experienced. They have addressed COVID and now the Russian chaos is creating great uncertainty. Nevertheless, GlobalData ranked Vestas the No. 1 global wind turbine manufacturer in 2020 and 2021, with a 19% market share in 2021.

The point is that Vestas is ready to work with governments who want to speed up the renewables transition and there seems to be plenty of finance available.

If there's to be a future for the wind industry, then it's hard to imagine it without Vestas being a major player. The business is split roughly 50% turbine manufacture and 50% service of wind farms. The service business has long-term contracts which provide solid cash flows. The turbine manufacturing business has both scale and massive experience of the industry.

Innovation and energy transitions happen when better and cheaper solutions arise and replace the status quo. The drivers for change are invariably cost advantage, better solutions (e.g., environmental improvement) and the battle between a legacy industry that doesn't want to change versus the upstarts. These factors mean resistance to change, especially if there's a big sunk cost to existing systems, and the legacy industry has political clout. So change takes time.

All of the above are in play as the world begins to replace fossil fuels with renewable energy, but there's another key component in the current revolution that's accelerating change. This is the urgency brought into the picture by climate change and the need to reduce emissions fast. Impending disaster is in the background if action isn't taken. The legacy fossil fuel industries are alert to the problem of their survival and there's a lot of political battling.

Solar PV and wind power now provide the technological means as the energy capture industries to enable exit from fossil fuel exploitation. The wind industry is complex and concentrated, with China a huge player. In 2021 there were 104GW of global onshore turbines installed, with China contributing 56GW, the rest of the world installed 47GW of onshore turbines. Vestas market share for onshore turbine installations in 2021 was 15.7% globally or 34.6% excluding China. A key point when considering investment in the wind industry is that just 4 OEMs represent 85% of global installations outside of China.

I'm on the record as being a sceptic of the current mania for hydrogen. Frankly, I don't "get" why you would divert renewable electricity to form hydrogen, with huge loss of energy in the process, to turn it back into electricity. DNV has just released a comprehensive report "Hydrogen Forecast to 2050." This report is closer to reality than almost anything I've seen concerning hydrogen because it acknowledges that "Hydrogen is expensive and inefficient compared with direct electrification. In many ways, it should be thought of as the low-carbon energy source of last resort." Nevertheless, the report accepts that hydrogen is crucial for decarbonization and this is likely to be the case for some areas (e.g. maybe long-distance air transport and heavy shipping), while for others (e.g. high temperature heating in heavy industry) I'm not so sure. The report emphasises that there is a lot of interest among a range of stakeholders (gas industry), governments and the media. Hydrogen is definitely a hot topic.

There's a lot to digest in the DNV report, but the takeaway for me as an investor in wind and solar PV is the following statement "it is inescapable that wind and solar PV are prerequisites for green hydrogen; the higher our ambitions, the greater the build-out of those sources must be."

My contrarian position is that at the end of the day the need for hydrogen may end up being much less than is being hyped at the moment, but the key issue for solar PV and wind investors is that hydrogen projects are starting to move beyond the pilot stage, with really big projects beginning to be entered into. I'm still not sure about the scale up to produce hydrogen, which still seems to be quite small scale, but it does seem that the renewables side of the projects is now starting to become concrete. Perhaps those entering into these projects are (like me) comfortable with the renewable side of the investments because if hydrogen proves to be a mirage, HVDC cabling can move the power over thousands of miles to where it will have a market. Look no further than the Sun Cable project which started as a hydrogen project, but now it's getting legs as a massive solar PV project in Northern Australia which will supply up to 15% of Singapore's electricity needs via HVDC cabling.

Very recent news concerns acquisition of a 40.5% stake by BP (BP) in a huge Western Australian renewable energy project that plans to build up to 26GW of solar PV and wind capacity which will have the potential to become one of the world's biggest green hydrogen suppliers. Note that 26GW of renewables represents about one-third of Australia's current electricity generation. This is an example of the kind of action that's happening in the hydrogen universe. It's worth thinking about what effect these kinds of projects (and there are a number) are going to have on wind turbine manufacturers!

McKinsey & Company has recently reported their estimates of likely growth in the global offshore wind industry from 40 GW in 2020 to 630 GW by 2050 and upside potential of 1000 GW if the world adopts a 1.5C pathway for addressing climate change. McKinsey & Co acknowledges that offshore wind is now recognized as a proven and reliable source of renewable energy.

Europe has been the driver of development of the offshore wind industry and has the largest base today (25GW). Predicted growth for Europe/Middle East/Africa is 100GW (outperformance 120GW) by 2030 and 190GW (outperformance 320GW) by 2050, but it's Asia-Pacific that has the biggest prospects for growth. The predicted capacity development in Asia-Pacific from 2021 (11GW) to 2030 is 80 GW (outperformance of 120GW) and 410GW (outperformance 820 GW) by 2050. While China is going to be huge, the interest in offshore wind is building across Asia/Pacific, including Taiwan, Japan, South Korea, Vietnam, Australia. The Americas, with just 3GW in 2020, is predicted by the McKinsey report to reach 27 GW by 2030 (although actually just the US goal is 30GW by 2030) and 34 GW (outperformance 100GW) by 2050. The McKinsey figures for the Americas seem low. The McKinsey report indicates many other countries are exploring offshore wind, including India. A quick search shows that India has plans for 30GW offshore wind by 2030.

As a new industry matures there are major cost advantages to scale up and also efficiencies are squeezed out of the industry.

In offshore wind, there's a lot of work going on with new technologies such as for anchoring floating turbines.

Extending the lifespan of turbines through use of advanced sensing tools to avoid failure and consequent downtime is a clear path to reduced costs. A recent report on the Australian wind industry indicates possible value increase of 12% through integrating turbine life extension into operations and maintenance strategy. And increasing lifespan of a turbine from 20 to 25 years has a huge financial impact.

Offshore wind power, from Orsted's (OTCPK:DNNGY) Riffgrund 1 wind farm, is beginning to be used for grid stabilisation in Germany. The stabilizing role is possible because of the accuracy of forecasting supply of wind.

With dramatic reductions in the cost of offshore wind and subsidy-free bids becoming more common, other factors are being considered in deciding who will win project proposals in Germany. The carbon footprint of projects and benefits to local producers are likely to become key factors in deciding successful bidders in future German renewable power auctions. This might revitalize the German wind industry after a period where local production facilities have become uncompetitive. No doubt the need for urgent and major renewables development to address the exit from Russian fossil fuel dependence is a significant factor.

The Biden Administration's inability to execute on its clean energy programs has had an impact on US renewable energy investment. Added to this is the crisis caused by the Russian invasion of Ukraine. Neither of these issues has changed the urgency to decarbonize due to climate change.

In the case of the Russian invasion, this has opened up a dichotomy in how Europe and the West should respond. The fossil fuel industry sees this development as an opportunity to revitalize the industry at a time when the switch to renewables has been gathering momentum. The renewables industry sees it as a time to double down on the exit from fossil fuels. Politically there's a short-term patch up happening, but the political will in Europe seems to be shifting toward using this as an opportunity to double down on the transition to renewables.

The Q1 2022 reporting made clear that these are uncertain times for management, which finds it difficult to look beyond the situation each quarter as things are so volatile with the Russian invasion of Ukraine. In general, things are looking more not less gloomy in the short term, and management is not able to give an indication as to when things will change for the better.

The issues driving Vestas share price lower seem temporary in an environment where the demand for wind projects continues to accelerate. Three areas have clearly been confronting for Vestas management in recent times.

These are:

i) Business environment involving lockdowns and restricted movements, supply chain disruption, etc. due to the COVID pandemic. This is a big deal for a company operating in 72 countries.

ii) The Russian invasion of Ukraine has meant disruption of the global business environment in many areas, with flow on effects that are challenging. Also, Vestas withdrawal from Russia and Ukraine is clearly challenging.

iii) Issues with managing offshore wind turbines that are now last-generation devices. This is the price of being a pioneer, but the new Blue Marlin V236-15MW turbine is the story going forward.

In this article, I've reviewed the prospects for Vestas and explained why I'm optimistic that this stock will turn around from its current doldrums. Vestas commenced 2021 on a high with the share price at $17.24. Since then it has been mostly downhill, with the share price now being down 39% year on year to $7.60, less than half of its start of 2021 price. Perhaps the most extraordinary thing about the world's most successful wind turbine manufacturer is that there are just two articles (both with a hold recommendation) from Seeking Alpha contributors in the past 30 days and even more amazing just one (strong buy) Wall Street Analyst recommendation in the past 90 days. Vestas is out of favor currently with Seeking Alpha which highlights the company as at high risk of performing badly. Is this the price of being a Danish company, or does it reflect a narrowly fossil fuel centric investment community focus? This is a great opportunity for investors looking at a company that will be a major player in a decarbonized world.

I've benefited from earlier investment at a little more than half of the current price, and I think that the share price of Vestas is misplaced. Clearly, there have been substantial negatives in recent times with supply delays and increased pricing due to cost inflation, but an interesting development is increased global focus on energy independence and accelerating the renewable energy transition.

To be the major manufacturer in the industry, with a robust business that generates half of its revenue from long-term maintenance contracts in an industry that has to expand dramatically if emissions are to be reduced quickly, the politics and pricing issues must and I suggest will be resolved. There has to be a dramatic expansion of the wind industry to meet climate goals, and the high fashion green hydrogen push plus interest in offshore wind are drivers. You need a solid base to expand from. Vestas employs 10,000 service technicians working across 72 countries. This places the company in a good position to expand its operations. Here I've looked at Vestas, a major wind turbine manufacturer. Other aspects of the wind industry have suffered similar setbacks. I shall explore the prospects for Orsted, the world's biggest offshore wind turbine project developer, another company that Seeking Alpha gives a red flag warning to, in a second article.

I'm not a financial advisor but I pay close attention to the massive changes occurring as the world begins to exit the exploitation of fossil fuels and adopts renewables to electrify everything. I hope that my perspective helps you and your financial advisor to consider the energy investment aspects of your portfolio and in particular to consider Vestas as a possible future investment.

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Vestas Hits Headwinds, But Good Times Are Coming (OTCMKTS:VWDRY) - Seeking Alpha

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