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

Good morning, and welcome to Bluefield Solar's interim results for the period ending December 2023. James Armstrong and Neil Wood here from Bluefield Partners Investment Adviser to the fund. And we're going to go to Page 6 for the introductory remarks. We're at the halfway point for the company in -- for the interims. And we're heading for another strong set of results based on the 5 pillars that we've spoken about before, defensive capital structure and debt strategy, highly effective power sales strategy, active management, providing an end-to-end solution, a proprietary pipeline and capital discipline, all contributing to the continued outperformance of the fund on a NAV earnings and covered dividend basis. However, the period under review and also beyond this period has been dominated by the discount to NAV and how a company like Bluefield Solar with such a high successful model can address the short-term challenge of the discount to net asset value, whilst ensuring that we keep in place the key strengths that have made it the highest performing fund of its kind. So we're going to start with capital allocation. So if we go over to Page 7. We're going to look at the priorities as far as we see them in this fairly unusual period. And we're very strongly of the view that for a company like Bluefield Solar where the market is shut for new capital raises and shares are materially undervalued, it requires a multilayered approach to address the short-term issues of the share price and the longer-term responsibilities we have of ensuring we protect and enhance shareholder value. And so having consulted the shareholders and worked very closely with the Board, we believe there are 3 key priorities at this time. One is being able to reduce the RCF. It's the only part of our capital stack that has been materially affected by rising interest rates due to having floating rates, the rest of our debt is fixed and amortizing. So we needed to find an appropriate strategy to be able to sell down some assets to be able to reduce the RCF. Second, keep momentum in the business. It's a duty to our shareholders to try and keep this momentum in the company, especially around the development pipeline that we have in order to maximize value for shareholders. And thirdly is management of the discount to NAV. So if we go to Page 8 on the capital allocation strategy. We have, and we're very pleased about it, we successfully managed to address these multiple challenges in the following ways. The first is that we announced in December a strategic partnership with GLIL, leading private markets infrastructure investor which enables Bluefield Solar to address 2 of the 3 priorities I just mentioned as we see them. First is the sale of 50% of a selected portfolio of assets currently 100% owned by Bluefield Solar in order to create liquidity. This is an ongoing process at the moment and the proceeds of which can be put to different uses, including paying down part of the RCF, which I just mentioned, and also putting it to other uses, but it's a way of creating liquidity in a very structured beneficial way for the shareholders. Secondly is the GLIL partnership includes a collaboration on the development pipeline. So it's actually a subsection of our current very large development pipeline with GLIL, which is, I mean, circa total is about 10% of our current pipeline and that will enable us to keep momentum going. And then post the period, we announced very recently that we are going to start a share buyback program in order to manage the discount to NAV. And that's something which will be commencing from today onwards being the 28th of February. So in terms of we viewed that as being our sort of our key challenges and priorities at this stage. And if we just go over to Page 9. A I think where it becomes very obvious is just looking at the chart, this chart sort of explains the situation we find ourselves in, where we have historically been very consistently at a premium to NAV, which has enabled the very strategic growth of the business. But obviously, since June '22, you can see that there's been a period of -- sort of a period of certainly a discount, but one which was sort of, I suppose, manageable in the range, which was not too concerning. You can see now that if we get -- as we get to the February '24 where we've gone to circa a 27% discount, which is curious in terms of where we are for the business because yet again we are demonstrating and producing very close to record numbers, but it's a function where there is a dislocation at the moment in the market, but it really reflects the reason that we have responded in the way we have with our priorities and share buybacks. Okay. So moving forward to the actual interim results, which start on Page 11. I mean the first thing to note is we've got a very simple defensive business case where we are generating revenues from the lowest risk portfolio and lowest volatility portfolio actually in our sector and generating very high levels of revenue still. And you'll see there in this period, we've got over 3x gross cash cover, which is pre debt amortization and also pre the payment down of the Electricity Generator Levy. So again, a very strong performance on a cash generation basis. Moving over to Page 12. The key highlights, again, no change in terms of the gross asset value in the period under review. So we are just shy of GBP 1.5 billion. NAV has remained very strong. And interestingly, we're seeing in the sector at the moment, we're also seeing -- we've seen some transactions and some very significant transactions, which would very comfortably support where the net asset value is at the moment, and Neil will talk about that in more detail in a few moments. And again, very good high levels of operational cash flow at GBP 44 million. Debt position, which has been one of the key strengths during a time of rising interest rates is we've got circa 40% of gearing and our average cost of debt hasn't moved because we are fixed amortizing and long duration. So we've now got just over 12 years, which is set to match the high levels of regulated revenues that we have and continuing to have one of the highest dividends in the sector. So over 2x dividend cover, which is similar to the last financial year. So again, a very strong performance and a dividend of at 8.8p per share, which is giving a dividend yield today on the share price of about 8.6%. And it should be said that we've got that very high dividend which is post debt amortization and also post the Electricity Generator Levy, which is, I think, a key thing to note. Okay. So moving on to the portfolio. Again, no change from last time because actually, the acquisition that was made with GLIL was actually concluded in January this year. So it doesn't actually register in these results. But again, very, very diversified portfolio, high levels of regulated revenues and the lowest risk technologies, I've just said, with a big focus on solar, which is the most predictable, most forecastable of all the renewable technologies and very diversified portfolio, which continues to perform extremely well. And then Page 14. Again, we did this in the annual results for the period ending June '23, but it's a very important part of just seeing the stability of the revenues. And again, the forecastability when you match the low volatility technologies that we're using with the focus on solar. And then you are matching it to high levels of regulated revenue. So if you look at the Page 14 on the sort of the top half where you've got the navy blue are the regulated revenues, which are running out to 2034, which are index-linked. And then the green is the merchant and obviously, the short term because we're fixing and Neil will talk about this, but we're fixing it at the short end of the power curve to maximize the value. We've got very high visibility and very stable revenue streams. And that striped line is if we introduced the revenues from the CfD projects that we have, which are the Contracts for Difference, which have fully indexed and contracted revenues, that's where you'll see that sort of dark blue line of contracted revenues shifting up slightly over time, but a very forecastable and stable set of revenues. And then my final comment before I hand over to Neil is on Page 15 where it gives a very good sort of picture of what we've achieved of having -- over the last decade or so, having the highest covered dividend in the sector and continuing to obviously be able to deliver that with an 8-point -- not less than 8.8p per share dividend and it's also delivered being part of that. So total return profile top left where -- which is one of the highest in our sector of 93% since IPO. So a good set of results, and I'll hand over to Neil to be able to drill into those with the valuation.

Thank you, James. So moving on to capital structure. Now since its IPO in 2013, the company has focused on a simple and deliberate debt strategy of ensuring leverage levels are maintained prudently below the company's overall limit of 15%. And that outside of the company's revolving credit facility, all debt within the structure is secured with fixed interest rates on fully amortizing terms. Now deliberately structuring the company's long-term debt across portfolios of assets rather than borrowing against individual projects, not only enables highly attractive long-term debt costs of circa 3.5%, but also ensures cash flow cover on debt ratio sit materially above lender levels, resulting in a reduction in risk of equity distributions being impacted. Crucially, though, it provides the company with the ability to apply a dynamic rolling power price strategy, securing terms from competitive tenders instead of being locked into periodic fixes on the single long-term offtake agreements. And finally, by consistently aiming to maintain overall leverage between 35% to 45% on a steady-state basis, the company ensures crucial headroom is available for the fund to maximize the use of its revolving credit facility should attractive investment opportunities arise where funding needs are more immediate. Turning over to the NAV movement slide. Now the valuation of the portfolio is premised on a willing buyer, willing seller methodology with precedent market transactions forming a critical benchmark in the determination of the director's valuation. With both inflation and interest rates widely predicted to have peaked, demand for U.K.-based renewable assets with high levels of regulated revenues has remained high. And so there has been limited movement in headline valuations over the period. And this has been particularly evidenced by the recent sale by [indiscernible] Council of its 513 megawatts operational solar portfolio to a private market buyer at pricing that is highly supportive of the company's December '23 valuation. Despite overall values of renewable assets remaining relatively constant, there have been a number of key changes underpinning the movement of the company's net asset value over the 6-month period to the 31st of December '23. Firstly, increases to the valuation of the company's portfolio have come from continued success from its development program as a further 147 megawatts of solar and 90 megawatts of storage achieved planning permission in the period. Whilst the consequences of high inflation in 2022 and the first half of 2023 has resulted in an increase in the valuation of the portfolio due to pricing for [ ROCs ] in April 2024 being increased by 9.8% and with a further benefits in the period coming from recognition that Renewable Energy Guarantees of Origin or REGOs as they are commonly referred to are expected to provide a small source of additional revenue for the period to 2030. Now these increases have been offset by small decreases from actual performance being ever so slightly below forecast, prudent amendments to predicted future operational costs and the payment of 2 quarterly dividends in the period. In conclusion, considering the highly regulated nature of the company's portfolio and its low level of leverage, the directors are satisfied the valuation for December '23 is squarely placed within the [ universal ] values seen across transactions over the past year for portfolios of comparable size and technology mix. So turning over to active management. Our active management can often be used to cover a myriad of generalized activities in the investment space. However, for Bluefield Solar, the purpose is clear. It means deploying the specialist knowledge of a dedicated workforce of over 110 individuals within Bluefield Partners and Bluefield Services, split across specialist teams covering construction, development, engineering, ESG, finance, investment, operations and maintenance portfolio and technical asset management across over 70 different core responsibilities. These specialist units have been created over the past decade, enabling a series of asset enhancing programs, which have consistently added value to the company's portfolio, both on a capital basis, such as work initiated over 5 years ago that has led to life extensions being secured and over 65% of the portfolio and on an earnings basis as cost-saving initiatives on core OpEx items like insurance, operations and maintenance and business rates are constantly [ run ]. Now specifically, in the past 2 years, these teams have combined to drive a GBP 20 million innovative repowering investment program on [ 17 ] small-scale wind turbines in Northern Ireland. They've secured CfDs on over 30% of the company's proprietary development pipeline and committed over GBP 65 million of investment into 2 new solar projects, which at 93 megawatts will increase the company's generating capacity by circa 11%. And there are further details on that particular exciting work stream that can be found within the appendices of this presentation. And finally, dedicated teams with Bluefield Group, provide round-the-clock monitoring, ensuring operational issues are highlighted in real time to the company's operations and maintenance providers in order to minimize downtime from any given incident. Turning over to PPA strategy and the last slide before I hand over to James. Now Bluefield Solar focuses on fixing power price agreement contracts at the short end of the power curve that's between 6 to 30 months and actively monitors power market conditions to ensure that contract renewals are spread evenly across periods. A crucial tenet of the company's PPA strategy is flexibility within the company's capital structure that enables PPA counterparties to be selected on a competitive basis and not influenced by lenders requiring long-term contracts with one single [ offtaker ]. And by rolling PPA fixes during the year and targeting the most liquid area of the power market, the company is able to take advantage of rising power prices as well as providing significant insulation from periods of declining pricing. And as such, whilst day-ahead pricing has trended downwards across 2023 from over GBP 180 per megawatt hour in December '22 to GBP 86 per megawatt hour in June '23 to GBP 66 per megawatt hour in December '23, and that's due to essentially the combination of high gas storage in a milder than expected winter. The BCF average seasonal weighted power price has actually risen from GBP 85 per megawatt hour in December '22 to GBP 141 per megawatt hour in June '23 and close to GBP 170 per megawatt hour in December 2023, not only delivering record earnings for the 12-month period to June '23, but also underpinning expectations. Dividend cover for the 12-month period to June '24 will be approximately 2x covered and as James mentioned, that's net of debt amortization and EGL. Equally importantly though is that this fixing strategy in combination with the company's highly regulated revenue base means the company has close to 90% revenue certainty for 2024 and nearly 75% during 2025 at power prices that are, on average, greater than GBP 50 per megawatt higher than the current forecasted power curves over the same period. The result as the Investment Adviser believes its PPA policy is the best strategy for shareholders who are looking for stable revenues and forecastable sustainable dividends with high visibility of revenues on a rolling multiyear basis. James?

Thank you, Neil. So moving on to Page 22 and the development part. It's one of the key pillars of the strategy of the business and one of the reasons for outperformance. And we've got in excess of 1.5 gigawatts of development pipeline, which is incredibly valuable for the business going forward and one of those areas which we need to keep moving forward. Looking on the left-hand side of the page, where we're looking at those bars, the top there, the construction, we're about to grid connect a couple of assets, one in Yelvertoft -- called Yelvertoft in Northamptonshire and another called Mauxhall Farm in Lincolnshire, and that makes up the 93. And then sitting below that is almost 800 megawatts of consented sites and they are a mixture of CfDs and also merchant, which I'll come back to in just a moment. And then the green and the light blue going through that, In planning and Development, we've got another close to 700 megawatts of assets, which are at various stages of development pre being consented. And then looking at the donut on the right-hand side, is an incredibly interesting time for a company like Bluefield Solar to be able to access developments. It's a strategy we started 5 years ago and that we're in a position where if you look at this donut where there's a big opportunity to be able to compete and build on the existing CfD assets that we have, and with future potential auction processes, AR6, particularly, a large chunk of the assets, which are the consented, but not yet with CfDs are available. So there's a really strong position for the business to be able to build on that very attractive pipeline. And I think it's something, again, which we've spoken about before, is that the development pipeline for our shareholders is hugely valuable. If we've got the capital to build it ourselves or with a partner like GLIL, then that would be great, but it also gives very, very high option value if they were to be sold to a third party. So it's a very strong position for the business to be in. On to Page 23, ESG strategy, again, as always, an enormous amount of work going in from the ESG team in the growing ESG team within Bluefield who are dealing with a number of different growing activities and also challenges as companies look to try and deal with the ESG challenges that we face ourselves as we put those into sort of 3 key areas, which is we've got a sort of mitigation strategy where we're looking at how climate change -- in essence, how climate change is going to affect the company going forward and what are the risks and opportunities it's going to create. We've got -- in the middle there, we've got this very strong activities around community engagement and local impact, which is documented in some detail in the interim results. And then a very big bit of work is looking at what are the practices throughout the supply chain. So we have circa 500 suppliers from the fund through to all the service providers and how do we make sure that those supply chains fit within the ESG standards that we have as a fund and also for Bluefield Partners and Bluefield Services. So again, a very good period. And obviously, there's a lot of information in the interim results around all of these activities. So moving to Page 24, the regulatory environment. So there are a [ few ] questions around the environment -- the regulatory environment that we work in, mainly because there is never ending. It seems a series of consultations that are being undertaken in the energy markets and also the renewables market, but the fundamental point, and we've listed a few where you've got some really sort of interesting potential changes to the contracts with difference scheme where it's the consultation around whether the CfDs can be extended for legacy assets, so they will be existing portfolios will have -- could actually qualify to get further regulated revenues. There's a fixed price certificates consultation, which is thinking about whether there is a way of, again, creating sort of a moving the renewable obligation certificates through to fixed price certificates. And then you've also got the Electricity Generator Levy, which is something which obviously we're very actively paying into because of the level of revenues that we're generating. But the fundamental point is that all of these consultations are looking to see how renewables and the path to net zero can be improved. There is no indication at all of anything which would be negative retroactively, but there's obviously a lot of consultation that needs to be done to make sure the markets are operating well. And I would just say as one final point on this is the EGL -- is a really interesting marker for how well a fund in the renewable sector is performing because it's -- if a fund like Bluefield Solar is paying into the Electricity Generator Levy, it means that we are generating revenues above GBP 75 per megawatt hour, which is a sign that we've got a very successful power sales strategy. If funds aren't, it means that the revenues are going to be materially lower. So it's quite a good sort of, as I say, quite a good marker in terms of how the fund is performing. And to conclude on Page 26. It just is an interim sort of result. We're halfway through the year. There is -- it's always -- in terms of the overall picture, it is always much easier to do a 12-month period for a renewables fund. However, all the indications so far for the company are ones that are very, very strong performance again. And the reason being, I'll go back to my opening remarks is because of these 5 pillars that we've created of a good capital structure, power sales, active management that Neil spoke about, very strong proprietary pipeline and then very strong capital discipline. All those 5 pillars have been in place for a number of years. They have been the reason that we have delivered the highest performing fund of its kind over the past decade, and it's why we believe we will continue to outperform the market with this very, very strong platform. And it's also why we think that the market where the share price is today relative to NAV, that it is a fundamental misread and disconnection from reality in terms of the fundamentals of this fund. And we look forward to seeing the share price improve in the short term, so we can get back to a premium where we can continue to grow the business as we have done so successfully over the past few years.