Higher interest rates, bad weather and lingering inflation continue to be headwinds for renewable power infrastructure stocks, according to National Bank Financial analyst Rupert Merer.
“With the Canada 10-year now trading at an approximately 3.3-per-cent yield, some stocks are close to 52-week lows,” he said. “However, with contracted cash flows that are largely CPI-indexed, tailwinds to growth in the power sector and improved weather, the renewable power IPPs should perform better.”
In a research report released Tuesday, he lowered his target prices for the eight stocks in his coverage universe, despite emphasizing potential gains from inflation for independent power producers and predicting legislation both in Canada and Europe could act as “a material tailwind.”
“While inflation has created pressure on returns for near-term growth projects, most IPP’s see inflation to operational contract prices and growing spot exposure as contracted assets roll-off PPAs,” he said. “Growth contributes an average of only 10 per cent to our target prices, which is small compared to the 80-per-cent contribution from operating assets. With that, we are believe the benefit of inflation to operations should outweigh the risks to growth.”
“Canada is expected to announce a rival to the Inflation Reduction Act (IRA), alongside the 2023 Federal budget in March. This comes after the initial high-level proposal of Europe’s Green Deal Industrial Act in February. Despite a lack of clarity on the specifics, we believe similar policies to the IRA could be introduced, with both Canada and the EU emphasizing the need to remain competitive in the renewables race. A clear path forward on government incentives could lead to an acceleration of growth in Canada, where most companies have an established footprint. Although expectations of further support for renewable energy exist today, the market could react positively to new incentives.”
In response to rising bond yields and “a risking market risk premium,” Mr. Merer increased his discount rates for his IPP companies, leading to target reductions of 5-13 per cent. His changes are:
- Algonquin Power & Utilities Corp. (“sector perform”) to $10 from $11. The average on the Street is $12.
- Altius Renewable Royalties Corp. ( “outperform”) to $11.75 from $13.50. Average: $13.42.
- Boralex Inc. ( “outperform”) to $42 from $47. Average: $46.85.
- Brookfield Renewable Partners LP (
increase
, “outperform”) to $31 from $33. Average: $35.18. - Innergex Renewable Energy Inc. (“outperform”) to $20 from $23. Average: $19.42.
- Northland Power Inc. ( “outperform”) to $40 from $44. Average: $45.17.
- Polaris Renewable Energy Inc. ( “outperform”) to $20 from $21. Average: $27.29.
- TransAlta Renewables Inc. ( “sector perform”) to $12.75 from $14.25. Average: $13.31.
“With returns to target that range from 15 per cent to 52 per cent, we have not changed our ratings at this time,” said Mr. Merer. “Our highest return to target is for PIF, which trades at an implied discount rate of more than 14 per cent by our estimates, likely given its developing market exposure. This is followed by INE, at an implied discount rate of 8.9 per cent, following a soft Q4 with poor performance across its operating fleet. With good weather, we believe that INE could outperform its peers this year. Our target on BLX is 15 per cent, but we believe it could continue to perform well, given a strong execution track-record, growth tailwinds in France and the U.S and a strong balance sheet.