Value creation in the European renewables market
Market evolution and technology revolutions are shaping a new power and energy landscape. In this time of upheaval, many actors face the disruption of legacy business models.
As policy and economic drivers challenge conventional generation, actors are increasingly looking to invest in new markets and technologies, giving rise to renewables opportunities for the financial community.
What is driving the investment rationale in renewables?
Economics and politics threaten a bleak future for traditional generation sources. Declining levelized costs of energy (LCOE) and tech-neutral (or tech-specific) auctions, amongst other factors, have helped build the renewables investment case.
For comparison, auction price driven wind and solar projects offer lower internal rate of return-weighted average cost of capital (IRR-WACC) spreads than traditional oil and gas projects, but also offer stable cash-flow profiles. These projects can also often be underpinned by a power purchase agreement or a form of price guarantee.
As we move towards 'merchant' renewables, we will see higher IRR levels but with greater volatility. Strategies to bear that merchant risk, including leveraging trading/hedging capabilities and using hybrid solutions of photovoltaics (PV), wind, and storage can play a part in supporting future returns.
Technology maturation and market consolidation
When looking at the key set of energy technologies driving the market evolution, it is apparent that these technologies are at very different stages of development and offer differing value creation potential.
As an example, when comparing electric vehicles (EVs) to utility-scale PV or offshore wind, we see quite different markets, technology characteristics, and growth drivers:
With technology maturity comes consolidation, but the level and speed of this consolidation is not the same across technology verticals.
We've identified several trends around consolidation in the renewables space:
- High price pressure due to the introduction of auctions has caused market players, and particularly the onshore wind supply chain, to consolidate over the past few years. High entry barriers such as technical expertise and CAPEX demands have kept the group of offshore wind suppliers tight, while these barriers are less characteristic for ownership.
- Solar PV is a lower margin industry, and manufacturers feel the most pressure to consolidate. Consumer ownership of solar PV, storage and EVs removes the need for consolidation among owners but drives cost, and potentially consolidation pressure, to the supply chain. Hybrid solution suppliers, such as PV and storage solution suppliers, have EBIT margins in the low to high teens.
- As EV consolidates further, EV equipment suppliers are likely to see positive EBIT margins post 2025.
Asking a wider set of questions
The high level of change and competition in this space means that value creation as an investor will require an innovative approach. When we assess different companies, assets and technologies, there are several additional areas we consider:
- Scope: In areas of high consolidation, such as the European wind turbine supply chain, is there room for scope rather than just scale-driven growth?
- Digitization: What is the potential role and impact of digitization, the internet of things (IoT), industry 4.0, and remote monitoring?
- Commercial excellence: What is the value creation potential through commercial excellence instead of financing and cost cutting measures?
- Commoditization: What is the likelihood of products being modularized and shipped from a low labour and energy cost country?
- Disruption: What threats and opportunities are posed by technologies such as 3D printing, blockchain, deep learning models et cetera?
- Pricing excellence: What is the importance of value pricing and willingness-to-pay?
The rise of new technologies and decline of legacy generation poses challenges for market players as well as compelling opportunities for growth. Close attention to the risks and opportunities associated with PV, wind, storage and EVs can help inform a winning strategy in this evolving space.
For more information on the renewables opportunity in Europe, download the free paper using the form at the top of this page.