Eco Investor November 2017

Features

Renewable Energy and Environmentally Positive Investments on the ASX

By Victor Bivell

This is an edited text of a talk given at Ethical Investment Week in Brisbane on 10 October, 2017

Thanks to everyone for coming along tonight, and to Louise and Terry from Ethical Investment Advisers for the invitation speak. I'm very happy to do what I can for the ethical investment industry. My talk is on Renewable Energy and Environmentally Positive Investments on the ASX. Before I start, can I get a feel for your interest? How many people here are investors in managed share funds? A few. And how many hold share investments directly - in your own name? Most of you. Thanks. That's helpful.

I'm a small investor as well as a journalist and I've been interested in environmentally positive investments since about 1990. In 2005 I started a monthly magazine called Eco Investor and I've now published 110 editions. These are also in an online searchable Database which has over 5,000 stories and 2.6 million words, and the website has over 1,000 free stories. The people who read the magazine are retail and high net worth investors, financial advisers, small fund managers and the managing directors of cleantech companies. Those I've met are all very committed to environmental investment and would be at the deep green end of the spectrum.

What do we offer these people? The key things are independent journalism, a method to identify cleantech investments so they are getting the real thing, and a way to help manage risk because on the stock market it can be ridiculously easy to do your dough.

On independent journalism - I am not a financial adviser, so please don't take anything I say tonight as financial advice. It's not. I'm an independent journalist. I am not beholden to anyone. I do my own research, I make up my own mind, and I write what I think is right. Most people in the finance industry are trying to sell you something, a product or service. Yes, I have something to sell, which is a magazine subscription, but at $95 it's really not here or there. Most people in the finance industry are good people, but some are not. The only advice I would give tonight is that if you use financial products or services, make sure you understand enough about them to be able to give the final yes or no decision with confidence. Outsource the knowledge, outsource the research, outsource the experience, but never outsource the final yes or no decision.

My approach is to help investors to add and manage an environmental theme to their share or investment portfolio. Cleantech is a theme, like banks, like mining, like healthcare. For most people, the best approach is to see cleantech as part of a balanced portfolio. That means using asset allocation for income and capital gains. And it means diversification. So by all means invest in the shares that suit you and you are comfortable with - be they banks, property trusts, telecoms, ethical shares, etc, and, if you want, alongside those allocate a percentage to environmental shares. 10 or 20 per cent is a conservative start.

The next step is to identify environmental investments. There are over 2,200 companies on the ASX. How do you tell the cleantechs? To do that I devised a method, an environmentally positive screen. This has three criteria: the core business activity must be a solution to an environmental problem; the environmental activity should be at least 50 per cent of the company's business; and I like to see that the company and directors have a commitment to being an environmentally positive business.

The sort of business activities that pass this screen include: renewable energy and energy efficiency, waste management and recycling, sustainable food, sustainable housing, environmental engineering and many other clean technologies. I'll talk about these later.

How many of these 2,200 ASX companies meet these criteria? At present, about 95. That's nearly 5 per cent and it's not a bad number. We also follow four unlisted managed funds and one unlisted investment company which pass this screen. So in terms of unlisted financial products, there is a lot of room for improvement.

Having got our 95 stocks, the next step I apply is a Portfolio Status to help sort the shares based on their risk/ return profile. Core Securities are stocks that have a track record of profits and dividends. In my view, if a share doesn't pay a dividend, it is speculative. We sort the speculative into Pre-Dividend Securities: companies that are profitable but don't yet pay a dividend; Pre-Profit Securities where companies have revenue but are not yet profitable; and Pre-Revenue Securities which are early stage companies that are still developing their product or service and don't have sales. There are currently 26 environmental stocks that pay dividends. 11 are Pre-Dividend, 27 are Pre-Profit, and 31 are Pre-Revenue.

The Portfolio Status Strategy allows investors to identify the securities that match their risk and return profile. I don't give advice, but I am happy to caution that most investors should be focused on the Core Securities. I see the Core Securities as a mini universe of stocks that you can research and from which you can pick your investments. You can still make mistakes there, but if you do your losses are likely to be smaller than with the speculative stocks, especially the pre-revenue and pre-profit stocks, which are really venture capital. If you are not an experienced share market investor with money you can afford to lose, I would leave the speculative investments to those who are and can. From experience, I can say that have I often done my dough on pre-revenue and pre-profit shares, but with the core securities I do OK.

Having got our 95 stocks, I also analyze them by industry sectors. Cleantech is not a separate sector like insurance or gold mining or healthcare. Instead, cleantech can intersect with all other industry sectors as other industries have their environmental problems. It is closest to healthcare in the sense that it is about the health of the Earth, but because the Earth is so large there are a huge number of environmental problems. Some are at the global level like climate change. Others are very local like say a pollution spill at a river. In between, there are many countries, regions and industries with environmental problems that need solutions.

We need to be realistic about the solutions that investment can provide. Some environmental problems need political solutions. Some need financial help. Some need consumer action. Some need community organization and local elbow grease. Some need a product or a service, which may or may not exist; and if it does exist it may be provided by either a community organization or an unlisted business. If it is offered by a listed business, the business may be on an overseas stock exchange. So we have to be realistic. In the scheme of things the number of solutions offered by companies listed on the ASX is far from comprehensive. But despite this, it is still very impressive with a good range of activities including some critical issues and solutions. The number of renewable energy related stocks is growing strongly. Waste management and recycling are well established. Sustainable food is represented with aquaculture and organic food. Water management is growing. There is some eco-tourism, and recently we've seen the first listed company in the share economy. So the range of industries is good and growing.

Renewable Energy

Let's have a closer look at the renewable energy sector on the ASX. There are 56 companies which have some sort of clean energy angle to their business, including those for which it is not the main game.

The slide shows the renewable energy developers and generators. As you can see, there is a good range of technologies: solar energy technology developers and project developers, wind energy, geothermal, wave and hydro. Biofuels is not strong but I've put it there for completeness.

Solar is now slowly growing but it had a shaky start and is still not as strong as it is in the real world. Among the technology developers, Greatcell is the old Dyesol which is commercializing a world leading perovskite technology for built-in photovoltaics on windows and steel roofing. The rest are iffy. Quantum Energy developed solar hot water heat pumps about 30 years ago but that is now only a small part of its business, which is mostly healthcare. The other two companies are very minor.

The solar project developers are new to the area but they are growing and have good projects underway. Genex is building a solar farm in north Queensland, Carnegie is building a solar farm at Northam just outside of Perth, Tag Pacific has built several solar projects for clients, and ReNu Energy is building a portfolio of commercial solar projects on shopping centres and it already has one at a school. The sector is worth keeping an eye on. The exception is AFT Corporation which seems to be going nowhere.

Wind energy is strong with three big project developers. Geothermal and hydro power are strong thanks to the three big New Zealand utilities: Contact Energy, Mercury NZ and Meridian Energy. Genex plans to add hydro energy storage to its solar farm.

The standout in wave energy is Carnegie Clean Energy, which is currently the world's leading wave energy technology developer.

There are also energy efficiency, energy storage and waste to energy businesses. There are plenty of energy efficiency stocks with a good range of business activities. Beacon is a retailer of lighting, LEDs and fans. Gale Pacific has a big variety of modern sunshades. Metro Performance Glass makes double glazed windows and windows with insulating glass. BluGlass is commercializing a high-tech way to improve LEDs and semi-conductors. Altech Chemicals wants to produce high purity alumina for synthetic sapphires that are used in LEDs and semiconductors. Energy Action offers energy efficiency services to business. I won't go through all the companies, but the key point here is that there are a lot of interesting products and services in the market or under development.

There are a few wannabe battery makers but so far only one is actually making batteries. That's Redflow, which has developed a zinc bromide flow battery and is now at the stage of early mass production and trying to ramp up sales.

There is also some action in the waste to energy sector. The biggest is Cleanaway Waste Management, which many of us would know as the collector of council rubbish every week. It makes energy from landfill gas and food and organic waste. But it is a big company and these are a small part of its business.

The other area where the ASX is strong is in mining resources for batteries and energy efficiency. In recent years there has been a boom in companies that are exploring for and mining to produce rare earths, lithium, cobalt, graphite, vanadium, scandium and high purity alumina. Rare earths are used in rechargeable batteries and in magnets for electric cars and wind turbines. Lithium, graphite and cobalt are used in batteries for electric cars and energy storage systems, so demand for these is rising and is expected to keep rising for the foreseeable future. Vanadium can be used to make vanadium flow batteries. And scandium can be used in metal alloys to reduce their weight and increase their strength, so it is seen to have a future role improving energy efficiency in airplanes and cars.

Without going into detail about all the companies, I hope I've given you a feel for the great variety of renewable energy companies on the ASX and how promising the future looks. But there is a problem. Here are the 56 companies by their portfolio status. Who can see the problem?

31 of the companies, over half, are pre-revenue. They are still developing their products and have no sales. Another 14 are pre-profit, so they have some sales but don't make that all important profit. Only eight companies are profitable and pay a dividend, and of those only seven are majority energy businesses. Only four are energy generators and only one is an Australian generator. So the renewable energy sector on the ASX is still immature. The graph clearly shows that what investors need is more renewable energy companies that are profitable and pay a dividend.

The good news is that most of the eight companies are very good ones. So small retail investors who are looking at only a few investments in the sector can do well.

In contrast to renewable energy, the graph with the risk profile of all of the 95 environmental investments shows a much better spread with 26 companies paying dividends. This is what we want to see - plenty of small innovative companies coming in at the pre-revenue end, working their way up the commercialization curve, and plenty of larger, more mature dividend paying stocks at the top end. So the environmental investment sector, overall, is looking heathy.

I'll now focus on these core securities.

It's great to see nearly half the securities are in the top 100, top 200 or top 300 Indices. The other half are emerging companies that overall have good growth prospects and are traveling well. The ones in blue, Contact, Mercury and Meridian are the three New Zealand renewable energy generators which are actually large enough to be in the top 300 but are not included because they are dual listed and their main base is the New Zealand Stock Exchange. Quintis is in blue because its shares are currently suspended while it is in discussions about a recapitalization and possible change of control.

Industry Sectors

The core stocks cover a good range of industry sectors, with exposure to quite a few different parts of the economy. Waste management, as I've mentioned, is very well established. Cleanaway is Australia's biggest waste management company. Beside municipal waste it handles a huge variety and quantity of industrial and commercial wastes and is an active recycler. It has a lot of fingers in a lot of markets and it recently won a contract to handle waste from Coles' supermarkets and other shops around Australia, so it's getting bigger. Sims Metal Management is an even bigger success story as it is the world's biggest metals recycler and has a growing business recycling electronic waste. There is a huge percentage of ewaste in the world that is still not recycled. Toxfree Solutions is a fast growing company that handles mining and industrial waste and it recently bought a major medical waste business. Medical waste is a serious waste as it can involve disease, and the last thing you want is people walking down the street and finding an appendix hanging out of the bin.

Sustainable housing and ecotourism both have a lot of room to grow. Two companies offer what is the closest many people will get to nature tourism. These are the old caravan parks which today have been reinvented as modern holiday parks. They are often on a beach, river, in a forest or close to a national park. So people can get to enjoy nature and develop their love for it. The two companies here are Ingenia Communities Group and Aspen Group. The holiday parks also have permanent accommodation, and this is being transformed with what are called manufactured homes. These are houses made in a factory and transported onsite. They have several environmental advantages. They have a low carbon footprint compared to brick and concrete houses. They can be outfitted with the latest energy and water saving technologies. And being of light construction they can be moved around and more easily recycled. They also offer social advantages as affordable housing, and allow retirees to downsize to free up capital and to live in a supportive community.

Another sector with a lot happening is aquaculture. Growing enough sustainable food to feed the world is a huge problem. As you know, a lot of agriculture involves massive land clearing and chemical inputs. In the oceans it is easy to overfish and bring some species close to extinction. One answer for overfishing is aquaculture. Aquaculture has had a mixed history on the ASX but it now seems to be getting its act together. But there is a lot of room to grow. Tassal and Huon both grow Atlantic salmon, and New Zealand King Salmon grows king salmon. So it helps if you like salmon.

I wasn't going to mention chemical replacements, but it's now topical thanks to the ABC. Who saw the Four Corners program last night? It was excellent. It started at Tindal Airforce Base in the Northern Territory where for many years the airforce used a fire fighting foam that was carcinogenic and which seeped into the groundwater and river. The people have been drinking this water. It was very sad. One couple living on what looks like an idyllic rural property found out that they have been feeding their children with poison water for their entire lives. Another affected family on the program is at Oakey, which is near Brisbane. This issue now affects over 70 towns around Australia.

Very near where I live in Sydney there is a sign saying do not eat the fish. This is because two bays away on the river at Homebush they made agent orange during the Vietnam War. Another problem is that the pharmaceuticals we take can sometimes get into our waterways, and this is also happening at Sydney Harbour. So industrial, military, pharmaceutical and agricultural chemicals can significantly and seriously increase the chemical load in the environmental. The search is on for non toxic replacements for these.

Two companies that help are Blackmores and Kathmandu. Chemical replacement is not their main business, but both are very environmentally aware. They do good work in this area and they are the best we have so far on the ASX. Blackmores is a health company, but I include it because it offers a way to help reduce the use of some pharmaceuticals. Complementary medicine has its critics, but there are doctors who suggested some of their products. The point is that Blackmores offers a way that is worth exploring and may help with the problem. Kathmandu is very aware of this environmental issue. As an outdoor clothing maker and retailer, it is active in looking for and using alternatives to fabrics that require chemical and pesticide inputs.

Market Data

Looking at market capitalization, we can see that a good number of the core securities are large businesses. Most of these are large enough to attract institutional investors, which is good for everyone. If being in the S&P/ ASX 300 Index was on market cap alone, almost all of these companies would be in. You'll notice, as I mentioned earlier, the New Zealand utilities are among the large stocks, as are Sims Metal Management and Cleanaway Waste Management. Qube Holdings manages a number of the major import-export ports around Australia. Its main environmental activity is that it does a lot of freight movement by rail, and is building the Moorebank Intermodal Freight Terminal in Sydney. When it's finished this will rail freight to and from the Port of Sydney and they say will take about 3,000 heavy truck movements a day off the streets of Sydney and more between regional and interstate centres.

The chart on profitability gives a three year profit history on each stock. While there are some good steady performers, there are also some big movements both up and own. The chart shows that environmental stocks are just as volatile as other shares. For newer investors, it's a reminder that shares are nothing like term deposits. The value of your capital can jump around big time. If you want to invest, you really do need to do your homework. Sims for example, had a big rise because it is now finally recovering from a huge long slump around the time of the GFC. Likewise for Cleanaway, which has spent years sorting out and recovering from high debt. But, importantly, the chart shows that there are plenty of big profits to be made while helping the environment.

The chart on dividends shows that there is a good income to be had from environmental shares. The yields are very compatible with dividends in other sectors, both in their size and their volatility. There are plenty of franking credits for those who like them, and who doesn't? So if you want to use environmental investments to get an income stream or supplement your income, there are enough good companies and enough good dividends to do that.

The final chart is on share prices and how they have traveled over the past year. The main ASX index went sideways, and it looks like the same happened with environmental shares. About the same number of shares that went up went down. Most have moved in a narrow band - about half were in single digits. Another six were less than 20 per cent. The big movers were New Zealand King Salmon which beat its prospectus forecasts, Sims Metal Management which has reduced its cost base and is enjoying the recovery in iron ore prices, and Huon Aquaculture which paid a maiden dividend.

I'll finish there. I hope I've been able to share with you some of my interest and enthusiasm for what are a great bunch of companies doing some great things for investors and for the environment.