Nanalyze

A Wind Energy Stock for Offshore Wind Power

In our recent article titled “Wind Power Quietly Leads Solar Power,” we talked about how wind power is undeservedly being overlooked in favor of solar in the media. Most people may not know that wind – with subsidies removed – is one of the cheapest sources of electricity at the moment. Maybe that’s why the biggest electrical utility company in the world is producing 69% of their clean energy using land-based wind power. As for offshore wind power, it’s more expensive than land wind power, but that’s changing. Offshore wind capacity has grown by 32% over the course of 2017 with record investments into new offshore wind power. The industry expects further cost reductions of 30-50% over the medium term, thanks to increased competition, larger turbines, and economies of scale, all of which should serve to accelerate adoption. One company that’s capitalizing on offshore wind like no other is a Danish firm called Ørsted.

Who is Ørsted?

The biggest power company in Denmark is a $33 billion renewable energy firm called Ørsted (ORSTED) that built – and now operates – the largest offshore wind farm in the world. Formerly known as DONG Energy (an abbreviation of Danish Oil and Natural Gas), the company was renamed Ørsted after divesting its upstream oil and gas business in 2017 and making the decision to halt the use of coal. Management has pledged to cut 96% of carbon emissions from operations by 2023 compared to emissions in 2006, and has confirmed the company is dedicated to green energy going forward. The reasons are not only altruistic. According to Ørsted, green energy is now cheaper than black energy based on the costs of newly built power plants:

Prices of newly built green power generation technologies were cheaper than non-renewables the first time in 2016

2016 prices – Credit: Ørsted

Green energy is also profitable. Orsted is a pure-play on offshore wind and “green energy” with over 90% of Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) coming from the company’s offshore wind farms. They’re a world leader in the field with 5.6 GW or one quarter of the total global offshore capacity of 22GW at the end of 2018.

By the end of 2018, Ørsted’s portfolio consisted of 12 GW of offshore and onshore wind farms and biomass-fired power plants that are either in production, under construction, or have obtained Final Investment Decision (FID). A further 4.8 GW of new capacity has been locked down in awarded construction concessions that are yet to make FID. This capacity will bring Ørsted’s portfolio to one third of the generation capacity of Next Era Energy (NEE), the biggest electric utility company in the world – and most of it comes from a single source, offshore wind.

Ørsted has a strong presence in Europe and is expanding towards the US and Taiwan

Credit: Ørsted

The company has a strong presence in Europe, particularly the U.K., a country that leads the globe in offshore wind power generation. International expansion towards the U.S. and Asia Pacific is also on the cards, and our readers from ‘Murica may be interested to see some of the planned offshore wind energy projects off the coasts of various states.

In the next section, we’re going to look at Ørsted’s financial performance to find out if the company’s leadership position and ambitious growth plans are tenable over the long run.

About EBITDA and ROCE

In every article we write, we assume the reader has no prior knowledge of financial concepts. Earlier, we used the term “EBITDA,” and now we’re going to explain why it’s useful – aside from the fact that positive earnings are always a good thing for any company.

In order to better understand Ørsted’s financial results, we can look at two financial metrics: Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) and Return On Capital Employed (ROCE). EBITDA, also called operating profit, is equal to a company’s profits before it pays interest on loans, pays taxes, or deducts the annual depreciation of high-value capital assets. It is used in sectors where large capital investments are required, because it shows a company’s pure operating performance without the cost of loans and capital expenses. ROCE is the annual return on the capital Ørsted has, and measures how successful the company’s projects are compared to the amount of money invested. As Ørsted operates in the capital-intensive sector of building and operating expensive and high-value wind farms, these two metrics help provide an unbiased picture of what the company’s operations look like.

2018 Financial Performance

In 2018, Ørsted’s power generation amounted to 17,300 GWh, about 0.07% of total global demand for electricity. If we look at a breakdown of where Ørsted’s electricity comes from, we can see that 42% comes from bioenergy.

Ørsted’s 2018 Power Generation
Offshore power generation 10,000 GWh
Onshore power generation 600 GWh
Bioenergy power generation 6,700 GWh

The above shows the power being generated, but says nothing about which sources are profitable. As we can see below, almost all of the positive earnings come from Ørsted’s offshore site operations.

2018 EBITDA Contribution
Offshore wind 92%
Onshore wind 0.1%
Bioenergy 1%
Customer solutions 7%

Offshore revenues are made up of two key components: power generation and construction agreements, with each contributing half of the division’s revenues. Offshore power generation posted a 23% revenue growth for 2018 while construction agreements grew by 90% thanks to strong construction progress in new wind projects. Ørsted also decided to divest some of its wind farm assets, and reallocate capital to project opportunities with better future returns. The one-off move, that boosted the 2018 bottom line according to international accounting principles, supports Ørsted’s goal of investing $30 billion in new renewables capacity in the period 2019-2025.

Ørsted's offshore division increased revenues by 50%, EBITDA by 35%, and free cash flow by 125% in 2018. The results are partly due to divestments in offshore assets.

Financial performance highlights for the offshore division – Credit: Ørsted

Offshore’s Return On Capital Employed (ROCE) has increased to 37.2% from 28.4% in 2017, which shows Ørsted has invested in new projects that provided better returns in 2018. The Onshore and Bioenergy divisions posted negative returns, and Customer Solutions reported a result in the high teens. The company’s ROCE target is set at an average 10% for the 2019-2025 period, still a strong return on capital in global markets, and way below current performance.

Return on capital employed amounted to 37.2% for the offshore division

Credit: Ørsted

To sum it up, Ørsted managed to almost double revenues from construction projects while investing the same amount of capital as last year, which boosted their bottom line significantly. By divesting from existing wind farms and re-allocating to new projects with better returns, management has shown the company is able to move and deploy capital where it’s needed with relative ease. Thanks to the strong performance of the offshore wind market and Ørsted as a company, bottom line net profit amounted to $2.9 billion (DKK 19.5 billion), a 47% increase over 2017.

Ørsted’s stock price shows a consistent upward trend in line with the company’s strong financial results. Stock performance for the past year was +27.8%, and ORSTED registered a +105.8% growth for the last five-year period. The company started paying dividends in March 2017, and dividend yields have ranged between 1.67% and 1.89% since then. In the last annual report, management confirmed their intention to increase annual dividends by a high single-digit percentage until 2025, subject to the company maintaining its target credit rating of BBB+/Baa1. This will be made easier by the fact that Ørsted had zero net debt by the end of 2018.

The company's rolling one-year stock performance is +27.8%

Credit: Bloomberg

Outlook

Ørsted plans to keep its focus on offshore wind, maintaining its leadership position in its core European markets, and expanding towards the US and Asia Pacific. According to the company, Europe is expected to grow at strong double-digit rates until 2030, while China and North America will become the targets for exponential growth. The other growth platform of Ørsted will become US-based onshore wind that the company considers a long-term growth potential. It is the cheapest among newly built power generation methods, and is only responsible for 6.6% of the country’s electricity generation at the moment. It is also supported by tax credits.

Last year, Ørsted made two acquisitions in the US: Lincoln Clean Energy, an onshore wind and solar company, and Deepwater Wind, a leading offshore wind platform. Both of them will serve as the basis of Ørsted’s North American expansion, where 1 GW of projects have already been awarded to the company, and 8 GW’s worth are under business development. Asia Pacific is represented by one massive Taiwanese offshore farm with a capacity of 1.8 GW.

The offshore wind market is projected to grow with a compound annual growth rate of 16.4% until 2030

Offshore market outlook until 2030 – Credit: Ørsted

Ørsted will sell to wholesale and corporate customers going forward and divest its electricity transmission, distribution, and residential sales channels to focus on its core business. Besides offshore and onshore wind, the company also plans to diversify towards solar, bioenergy, and energy storage if any of these offer growth opportunities on the back of cost reductions in the medium term.

Ørsted will invest in offshore and onshore wind, and explore the potential in solar and bioenergy in the next years

Future outlook for Ørsted divisions – Credit: Ørsted

Conclusion

Ørsted provides some pure exposure to offshore wind energy along with a small experimental presence in other green energy areas. The company’s revenues follow the growth of the offshore wind sector closely, and as institutional investors are looking towards offshore wind farms as investments, Ørsted will be able to manage its capital structure by divesting and financing new projects that offer better returns. This will allow the corporation to keep returns on its capital high. Earnings growth and stock performance have been exceptional in 2018 compared to the negative performance of the iShares Global Clean Energy ETF, a fund that is supposed to track the clean energy sector globally. With a portfolio of 16.8 GW capacity including project commitments, the company is on track to achieve its goal of 30 GW operational capacity by 2030. Investors looking for exposure to offshore wind utilities need to look no further.

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