National Bank While acknowledging “negative sentiment rules,” National Bank Financial analyst Rupert Merer thinks valuations for Canadian renewable power infrastructure companies are now “compelling” with public markets at a discount to private markets and feels inflation won’t have as significant an impact as previously feared.
“Lower valuations across the sector have created a difficult equity financing environment, encouraging non-dilutive sources of financing to fund growth (including debt, asset recycling and sell-downs),” he said. “Results have generally been soft on abnormal weather conditions, also dampening enthusiasm for IPP [independent power producer] stocks. A change in weather could help, but the impact of inflation on the cost of new projects could be a more persistent concern. That said, we believe inflation is a positive for the sector, given the benefit of rising power prices on the value of existing assets. Typically, less than 10 per cent of the value of these companies is attributable to growth, so inflation just can’t hurt that much.”
In a research report released Friday, Mr. Merer said both geopolitical turbulence and bond volatility has caused further uncertainty in the sector, noting yields on both the Canada and U.S. 10-year government bonds have “resulted in choppy action” for IPP.
“The Canada 10-year yield is now at 3.2 per cent, up from lows of 2.8 per cent in early May,” he said. “This has put some pressure on the sector, which has been trying to rebound following a tough 2022. With NBF’s 12-month forecast at 2.7 per cent, we could see relief throughout the year on this front. Additionally, elevated geopolitical concerns have been top of mind, and in conjunction with a volatile bond market, are weighing on market sentiment.”
For investors, Mr. Merer thinks valuations have been “sentiment driven,” however value “should surface” over the long term.
“With negative sentiment weighing on the sector, the implied discount rate on cashflow across the larger IPPs has risen to 8.1 per cent and the beta for the group is 0.9 times (we believe that utility stocks typically trade with a beta less than 0.8 times),” he said. “We calculate an average forward EV/EBITDA multiple of 10 times across our coverage, below private market valuations on recent deals that we have seen at 13 times (range of 11-16 times). With market sentiment outweighing the long-term fundamentals, we believe there are some compelling investment opportunities in the sector. With potential upcoming catalysts from improving weather conditions and progress on investment, we could see the narrative change and the public/private valuation gap narrowing towards normalized levels.”
Pointing to “a slightly higher market risk premium and some changes to beta assumptions following Q1,” Mr. Merer made a pair of target change reductions:
- Innergex Renewable Energy Inc. ( “outperform”) to $20 from $21. The average on the Street is $18.23.
- Northland Power Inc. ( “outperform”) to $40 from $42. Average: $41.70.
His other stocks with “outperform” recommendations are: Atlantica Sustainable Infrastructure PLC (AY-Q), Altius Renewable Royalties Corp., Boralex Inc. , Brookfield Renewable Partners LP and Polaris Renewable Energy Inc.