Bluefield Solar Income Fund Limited (DRX) Earnings Call Transcript & Summary

Good morning to you all. This is James Armstrong and Neil Wood from Bluefield Partners, investment adviser to the Bluefield Solar Income Fund, and we're delighted to present the interim results for the period ended 31st December 2020. I'm in Wiltshire, and Neil is in London. And we will go through this in some sequence where we'll start just by way of introduction to the Bluefield Solar Income Fund, as there are now many, many different types of renewables funds listed in London market. And so we're a U.K.-focused sterling income fund with a mandate to invest primarily in solar, but also wind and storage assets. And we have delivered so far the highest total return since IPO and the highest earnings and highest dividend per share. And have over 600 megawatts of operational solar assets, and we have one of the lowest risk, but highest-performing [indiscernible] portfolios in the market. Turning over to Page 2 with the period highlights. So there's been a lot going on. It's been another solid set of results. Within the period, we've seen a mandate change. So we've broadened the mandate to invest into wind and storage. We've had a very oversubscribed equity placement of GBP 45 million and made close to GBP 200 million worth of acquisitions, and Neil will talk about that in a few moments. And we've also had the approval for our first 50-megawatt solar farm. So there's been a lot going on. What we're going to do, because of the consistent -- the nature of the results we've had consistently over the years is that Neil and I, we're going to go through the results at a fairly brisk pace in order that we have some time to be able to talk about why we have consistently had the success that we've had, and how we've managed to drive out the outperformance. And then to talk about how this will work for the next phase of growth of the company. But before we do that, we just want to make a comment about COVID and the pandemic. And really to say a very big thank you to all the Bluefield teams who've been working remotely now since March 21, 2020, and have managed the operational and financial performance of Bluefield so exceptionally well and have delivered exceptional results in very, very difficult circumstances. If you take the calendar year 2020 which obviously includes 9 months in the pandemic, we've delivered in excess of 11p per share, which is a really stunning performance. And we'd also like to thank the management teams for their tireless focus and effort, working really closely with all the teams in making sure that we look after their well-being at this really challenging time. So all we can say is, obviously, based on those earnings, there's been absolutely no disruption to the service provision, and we're delighted with how it's worked during this period. So moving over to Page 4, so what are the results? So for the half year, we've had solid underlying earnings of just over 4.5p per share. We've amortized as typical. We've amortized a good chunk, so 2p per share, and we had some, obviously, reserves put forward. So we've had over 4.5p available for distribution, and we've had dividends of 2p per share. This period, obviously, for the financial year, we're on target for an 8p per share in the full year dividend. So we've got good reserves carried forward into the current year. Net asset value has stood up very well as well. In terms of the operational highlights, the irradiation has been very stable. That should be no surprise to anyone who's heard Neil and I talk about solar before, it's the most stable of all the feedstocks, it's daylight hours-driven. So it's a very, very consistent energy source. And obviously, what's pleasing as well is we've had very solid energy generation as well. So that has worked extremely well. The interesting really sort of dynamic from the period is on the right-hand side with the revenue generation, where we've got higher-than-expected revenues, and there's a very positive trend coming down the pipe for the sector and also for Bluefield Solar. If you hop over to the next slide. We can see that if you look on the top half of Page 6, you can see that dynamic. If you look on the right-hand side of the graph, you can see the green line is the baseload, that's the U.K. baseload prices. And you can see from, obviously, 2020, the energy markets, as everyone knew, because of COVID, had a really -- really created a -- you can see them going down to sort of in the 20s per megawatt hour during that sort of from sort of lockdown onwards. And then from midyear onwards, there's been this fairly significant recovery, which has gone back up to, obviously, above obviously the pre-COVID levels. So it's a very interesting and very supportive dynamics. It's come off slightly sort of in the new year, in the current quarter, but it's still a very, very strong position. If you look on the bottom left, you can see obviously that the commentary we've had with our power strategy, we've been very, very protective, which has been backed out by the earnings that we've spoken about. And so our average weighted power price has come down a little bit from sort of the mid- 50s to the high 40s, but still it's been very solid. And obviously, one of the key elements to that is not only is it a very sort of solid performance but also we have had very high levels, as always, of fixed contracts, giving greater protection for our shareholders and for the income that we're looking to deliver to them. So with that, I will hand over to Neil on Page 7 to talk about the earnings and valuation. Neil?

Thank you, James. Now we've been showing Slide 7 for a number of reporting cycles. And so we're conscious that many shareholders are familiar with the content. But the reason we feel it's important to keep coming back to this slide is because it helps to remind us of why the risk premium attached to solar is lower than any other renewable technology. And as we've spoken about before, this is inherently due to the predictability of the irradiation levels and the robustness of operating equipment. However, while solar may be the most straightforward renewable technology, to achieve consistently high levels of operation, as the company has done since listing in July 2013, takes a highly specialized and dedicated team and one that performs well whatever the weather. And in fact, as James was outlining, this dedication has never been more evident than 8in the past 12 months, where despite unprecedented circumstances created by the COVID-19 pandemic, Bluefield's staff have continued to provide uninterrupted services to all aspects of the company's operations. And what were the results of that? Well, the results were lower-than-expected irradiation and generation have been converted into above-target revenues. Now if we turn over on to Slide 8, the consolidated portfolio earnings. Now we've outlined since first listing in 2013, the company's financial performance has been built on 3 central tenets: consistent portfolio operational performance, a power fixing strategy, as James has mentioned, that smooths out market volatility; and prudent management of operational costs. However, as a business that is [indiscernible] on its earnings, it's also imperative that financial performance of the portfolio is straightforward to be reconciled to the distributions available and made to shareholders. And that's evidenced on the slide by the interaction between the financial results table and the graph below detailing distributions to shareholders during the financial period. As has already been mentioned in the presentation, during the period, the company completed the material acquisition of a 64-megawatt portfolio with a bespoke GBP 110 million 3-year term loan from NatWest. And so it's crucial to note that financial figures for the 31st of December 2020 include the full benefits of this significant acquisition. So taking the component parts of the table in turn, portfolio income of GBP 33.1 million is slightly ahead of target, despite generation being fractionally behind as the company took advantage of rising power markets and secured EPA pricing ahead of expectations. Portfolio costs. So those are the operational costs within the underlying SPVs of [ GBP 8.6 million ] were in line with expectations, with the increase against December '19, driven principally by the addition of 64 megawatts of assets acquired in the period and the limited financing costs associated with this. Group operating costs of GBP 3.7 million have risen compared to December '19, driven principally by the company's GBP 45 million equity raise in November '20, a moderate increase in corporate tax estimates for the period until June '21. And deducting interest costs of GBP 2.1 million in relation to the company's 18-year, fully amortizing loan with Aviva and its 3-year RCF with RBSI results in underlying earnings for the period pre amortization of long-term debt of GBP 18.7 million or 4.59p per share. And finally, on the table, the slight drop in underlying earnings compared to December '19 is simply a product of the fact the period July '19 to December '19 benefited from irradiation levels, over 6% above expectations as well, as James was referencing, slightly higher weighted average PPA price. However, as the chart below the table illustrates, the strong financial performance over the first half of the year to December '20 means after debt repayments of 1.96p per share and a declared first interim dividend for the period to June '21 of 2p per share. The company has grown effective carried forward dividend reserves to 2.66p per share. Now if we turn over the page to valuation parameters on Slide 9. Now in the same way that earnings represent the most important figures for distributions, the director's valuation is the most important number in respect of the company's NAV; and as it is prepared on a willing buyer, willing seller basis, it's crucial it is a comparable reflection of transaction values for the reporting period. Now as the bar chart at the bottom of the slide on discount rates illustrates, since Bluefield Solar Income Fund listed in 2013, investor appetite, understanding and comfort with renewable assets has increased year-on-year. And as such, given increasing competition for non correlated income from sustainable sources, it is no surprise this has resulted in market participants continuing to apply ever-lower discount rates and extended asset life assumptions in transactions across the renewables sector. So by continuing to apply a levered equity discount rate of 6%, the latest power curves from the company's 3 leading forecasters and increased asset life assumptions of between 30 to 40 years across 306 megawatts, circa 56% of the company's portfolio as at 31st of December 2020, the Directors' Valuations of GBP 1.28 million per megawatt peak continues to sit prudently below the middle of the value range of GBP 1.2 million to GBP 1.4 million per megawatt for comparable subsidized U.K. solar assets. And furthermore, this range is supported by 2 recent examples of transactions of equivalent operating to the company's portfolio, the sale by EFG Hermes, shown by the largest green dot on the right of the chart, of a 365 megawatt PV portfolio to circa [ GBP 1.37 million ] per megawatt and the acquisition post period end by the company Bradenstoke, a 70 megawatt, 1.4 ROC asset for GBP 1.27 million per megawatt, and that's shown as the light blue circle beneath the dark blue-colored circle. And finally, in August 2020, the company completed the acquisition of a 64-megawatt ground mounted portfolio, which we've discussed earlier, and that's shown by the top right blue dot for potential consideration, excluding working capital, of up to GBP 104 million. This portfolio benefits for an average subsidy tariff of 1.8 ROC, and its high proportion of regulated revenue, being close to 66% at the time of acquisition until 2033, is a significant benefit to the earnings profile of the company's portfolio as a whole. And if we turn over on to Slide 10, and NAV movements. Now this slide illustrates the correlation between NAV movement, the top graph and the numerical impact on the portfolio valuation in the bottom graph as a result of the core valuation assumptions shown on a previous slide. Now as the NAV per share has remained constant between June '20 and December '20 at circa 117p per share, the NAV movement chart highlights that the absolute value change has effectively been driven by the GBP 44.5 million equity raise in November '20. However, whilst the NAV per share has remained at 117p per share between the period, there has been a fall of GBP 15.9 million within the Directors' Valuation itself. And as the portfolio valuation movement graph illustrates, the drivers behind this fall are inherently the combination of further reductions in long-term power forecast, lowering the valuation by GBP 6.2 million as well as a net GBP 2 million decrease, driven from transaction costs between the GBP 110 million NatWest loan and underlying value of the 64 megawatt acquisition of GBP 108 million as well as a cumulative drop of GBP 7.7 million between the negative movement of cash released from the portfolio of GBP 35.6 million, i.e., cash paid from the SPVs, the Bluefield SIF Investments and the positive contribution of GBP 27.9 million for the balance of portfolio return, essentially the impact of 6 months unwinding of the discount rate as well as small changes from capital structure and asset extensions outside of the 64 megawatt acquisition. And turning over the page to Slide 11 and concluding the section on valuation, is [indiscernible] chart of key assumptions and the impact [indiscernible] them has on the Directors' Valuation as at 31st of December 2020. And as expected, they highlight valuation returns are most impacted by long-term swings in overall energy yield with power price movements, plus or minus 10% and asset life changes of plus or minus 5 years, making up the second and third biggest value driver. And with that, I'll hand back to yourself, James.

Neil, thank you very much. Moving on to Page 12, we're talking about ESG considerations. Obviously, you can see that as a renewables investor, we've got a lot of obvious benefits being shown from the portfolio that we have under management currently. Moving on to Page 13, is probably the more important part of the consideration. We've been talking to shareholders and stakeholders about ESG considerations and the reporting of ESG from companies. And what has come -- sort of come back to us is that there is some level of confusion about the basis upon which companies are making ESG disclosures. And what it actually really means for a shareholder to understand what those considerations mean in terms of the risk or opportunity that ESG poses to a particular company. So with this in mind, we have agreed with the Board is that we are going to undertake a materiality assessment, which is akin to an audit for the company, for Bluefield Solar, but in relation through the prism of ESG considerations so that we can really evaluate what risks and opportunities there are for the company. And we're going to do this with a third-party consultancy. We're going to obviously work very closely with the Board and also engage shareholders in this process. And what will come out at the end will be, what's obviously a very robust materiality assessment that will then have certain actions that will enable us to put forward a very sensible and methodical approach to our ESG strategies and also reporting. So we look forward to talking to our shareholders more about that during our annual results. So moving forward just to sort of conclude, there's 2 sort of concluding parts we would like to discuss. And what we've sort of looked to try and evaluate is to try and give some examples to people of the reasons for the very consistent outperformance of the company since IPO in 2013. And in fact, if you look at the period between July 2017 and June '20, we've delivered over 11p per share on average annually in that period. And so -- and it's also coming from one of the -- as we've said, one of the lowest risk portfolios in the market. And indeed, we've mentioned, again, it was just over 11p per share that we've delivered in the calendar year 2020, which obviously has a period of very, very challenging period with obviously COVID, with lockdown and remote working. And we thought it would be helpful to try and understand one of the sort of contributing factors to how we've actually delivered so successfully and so consistently, and also why that's relevant to the next phase of growth, which I will conclude this presentation on. So if you go forward to Page 15, one of the key things about first part for us is our focus on the technologies we've selected. Now renewables and storage, if we bring that in storage solutions are not equal in terms of risk and complexity. But in a world of a very loose credit and low interest rates, it's quite difficult sometimes to see where appropriate valuation should be because discount rates are being lowered across the board. Neil showed that where there is a sort of general lowering of discount rates. But just to be clear, there is no comparison in terms of operational risk between, say, for example, an anaerobic digestion plant and a solar farm. And it means that investors should demand significantly higher return for, obviously, the riskier assets. But what we're actually finding and what we've demonstrated is, in fact, when you look at the lower risk assets such as solar, such as wind, is that actually there, the predictability, the simplicity, the proven nature of those technologies has meant that we have been able to deliver what we expected to and have been able to deliver very, very strong, consistent earnings. And this is linked to the second part, which is very key in terms of understanding that you can build on that point about having a focus on the simplest and the lowest risk technologies. And it's been our operational strategy. Now when you think about Bluefield, Bluefield is a group of companies with individuals who are each dealing with different aspects of both value protection and value enhancement for our shareholders. So we have expertise at every stage of the investment cycle. And it's sort of quite an old fashioned sort of industrial approach, where the vast majority of people who are employed by Bluefield are not in the investment team, but they're looking at the long-term performance of the portfolio, and they're looking at the nuts and bolts of the portfolio. So we have around about 60 individuals, 6-0 individuals covering all aspects of the value chain. And on Page 16, we just wanted to show you the fact that there's a very, very deep and broad set of expertise, which have enabled us -- have contributed very significantly to this consistent high performance. So you can look at it in different examples. But when you're looking at, say, the example of Neil, who's done -- led the transactions of Bradenstoke and [indiscernible], both of those deals had their areas of complexity. When Neil is going into a deal like that, you've got, not just the investment team. You have an engineering team, you've got a legal team, got a finance team all coming in at the same time. So it enables Neil to make evaluations on the viability of the investments in an efficient -- in a very educated way. Equally, when you're looking at sort of the post-acquisition phase, there are teams of people who are dealing with all aspects of the operational solar farms and energy plants. So looking at portfolio management, asset management, PPA sales strategies, operational maintenance. And so when you put it together, it's all about making incremental changes and incremental benefits to drive out higher returns. So putting those 2 things together with the selection of technology is very important. And then the final bit, which we've spoken about before, and it's been touched on a little bit earlier, is our power sales strategy. Now again, it's about incremental gains for people. And if you'll notice on Page 17 on the right-hand side is that you've got the green line there, which is obviously the day forward baseload power strategy. And it's -- you can see there's been very significant sort of gyrations, obviously, particularly with -- in the last sort of 12 months or so. And then the blue line is the average weighted power price that Bluefield has achieved. And you'll note that the interesting during this period is that we have outperformed the baseload, and we've actually made more money for our shareholders through adopting a defensive strategy of contract fixing than if we've been actually thinking of a floating power sales strategy. And the way that comes from are this -- it was built really since the IPO in 2013, where we had some very clear principles about how we wanted to put the company together, which each year and each sort of period of restriking of power contracts benefits our shareholders. So the first thing is that we -- where we can, we absolutely avoid having financing at the asset level. We've spoken about this a lot before. It's very key. It's a really simple principle that it means that you're not going to be forced into sub-optimal power contracts by a bank who wants to have long-term security of revenues. And then because we've created that flexibility of not having those financing contracts in place, it enables us to go out to the market and then get the best contracts and get the best revenues that we can from both our ROC and power sales. And that's really working the short end of the power market, that sort of 6- to 36-month contracts, typically. And that means we can maximize the returns. And the final bit is, obviously, that we've also means that we can create a very systematic contract structure where we have contracts rolling on and off periodically, which enables us to flatten these undulations you see in the sort of the day forward power market. And what it does is it basically maximizes revenue but at the same time, it's lowering risk. And as I said in my opening comments on this slide is that we've actually outperformed -- and this is the reverse of what should happen. We've actually outperformed what is more of a trading strategy during this period. So it's been very, very successful. When you look at those 3 things put together, they are very significant contributors to why we've outperformed. And it's very relevant if we go onto the next slide and sort of our final slide, which is that having that sort of backbone of approach is very important to us in terms of our next phase of growth. So we mentioned, obviously, we had the mandate change in July last year. Really, it was a mandate from the shareholders for growth, and they want to see the business grow, sensibly. And we've got 3 -- the key considerations for our -- us is how do we manage to marry our focus on continuing to deliver the most attractive income and dividend per share in the sector, but managing the risks of obviously a slightly broader mandate, but also the challenge of the change in the U.K. energy mix. And with that, we see sort of 3 very interesting opportunities for the company, which can play on those strengths and that focus that we've spoken about, which is this very industrial focus that we have. The first one is very obvious for us. Obviously, it is a focus on new build solar. So this is the -- solar is and solar development and construction funding is the DNA of Bluefield. It's what we -- it's how we've built the business. It's why it's driven huge success. And Neil has been working with third-party developers and in-house development team, and we've got a pipeline of over 450 megawatts with the first 50 megawatts consented. And not all of that will come through, obviously, but it gives you an idea of the sort of the opportunity we see. We think it's incredibly exciting because this approach enables us to control pipeline, pricing, quality and also to use our deep sort of talent pool where we've got our investment and operational expertise, which can come into play. The second area is wind. And obviously, we've got that mandate. We're not going to be too specific at this stage in terms of where we see the opportunity. But with Baiju Devani, who joined about a year ago, who's heading up the wind strategy, we have a very, very clear view of where we see value in this market. And also, there are sort of very specific segments, which we think are very, very interesting. And again, it's -- we've got this great benefit of having that, both the investment and technical expertise, which will enable us to make good valuations in the market. And we're very excited about that as a part of the overall portfolio. And last but not least, is battery storage. Now I -- we have moved, and I should probably say, I, particularly, have moved from being fairly skeptical about this market, certainly 2 or 3 years ago, to now being very excited about it and seeing it as a really good complementary minority part of the portfolio. And I think it's for reasons that what's become clear for us, from our analysis over the last year or so, is that we're seeing, first of all, the conditions for battery storage are improving in terms of the sort of the backdrop, both regulatory and support wise. It's becoming much clearer that there is a very, very good framework for battery operators. And also, what's becoming clear also is this -- the understanding of how the revenues really do work because obviously, that's been sort of moving around quite a whole lot. Certainly, the initial analysis we looked at, it wasn't as clear as possibly people were first representing. But it looks very interesting. We will say it's a very different market, and you need to be compensated for that. So therefore, commensurately, we expect the returns to be higher than you would find in sort of something like a defensive asset like solar, but we are very excited about it. Great. So with those 3 areas that we've discussed, so obviously, the solar, the wind, the battery storage, we're very excited about the next phase of growth for the company and we look forward to talking to you all about it soon. And with that, thank you for listening.