Cash inflow may blow small wind firms away

Analysts say the big firms are unwilling to pay premiums for the "pipeline" projects at the smaller players — wind farms approved or awaiting construction — which are normally added to current operating assets to arrive at a valuation.

Along with the solar sector, wind companies have suffered from a financial bottleneck over the past 18 months, hampering efforts to build cash-intensive wind farms, while customers have also delayed projects until next year due to funding problems.

But recent activity in the sector, such as the takeover bid for Britain's Novera Energy from private equity-backed Infinis and Centrica's sale of a stake in three wind parks to U.S.-based TCW shows that interest has returned.

Analysts note that smaller players are still struggling for funds because they are seen as risky, giving bigger utilities the chance to snap up their assets cheap.

"Many small players in the wind sector find themselves being too small to go alone and although they often have big pipelines they lack the financing means to realize those. This brings them into a weak negotiation position," says Philippe de Weck, fund manager of Pictet's Clean Energy-P Cap-EUR fund.

The unwillingness of big players to pay premiums for pipelines they could end up funding is reflected in valuations of smaller wind companies, roughly categorized as those with operating assets of under 200 megawatts.

According to Thomson Reuters database StarMine, both Renewable Energy Generation (REG) and Renewable Energy Holding (REH) have a price-to-book ratio of 0.8 and 0.7, respectively, with a low ratio indicating undervaluation.

"What fund managers want from small renewable energy companies is a demonstrable ability to grow equity value," said Arbuthnot analyst David Cunningham.

Cunningham said that companies such as Novera, which has described a 62.5 pence per share bid from its major shareholder as significantly undervaluing the company, REH and REG will struggle to get a good valuation because they aren't making a profit.

Treasa Ni Chonghaile, fund manager of KBC's Eco Alternative Energy fund — which holds shares in Novera — said that German wind company PNE Wind could become a likely takeover candidate. The company's current price-to-book ratio stands at 1.3, compared with 2.3 of bigger German rival Nordex.

Britain's Clipper Windpower is another example. Last month it said it was in talks with potential investors that could lead to a "significant investment," not ruling out that the company could be taken over completely.

Like Novera it may struggle with valuation though.

"Management is negotiating from a position of weakness and against a deadline. In our view, only an auction can deliver upside, as a single buyer would surely see Clipper as a distressed seller," said Nomura Code analyst Ken Rumph.

Valuations are distorted, putting Clipper's price to earnings ratio for 2010 at 90.1, according to Thomson One Analytics, compared with 13.0 for the sector.

Clipper's net loss for the first half of 2009 was $120.2 million, while net income for 2010 is seen at $9.9 million.

Scepticism is mainly based on concerns that smaller companies present more risks when it comes to financing and thus discounts are logical in the current environment, KBC's Ni Chonghaile added.

Shares of larger wind energy companies such as Germany's Nordex, Danish market leader Vestas and India's Suzlon have on average outperformed smaller players such as PNE, Renewable Energy Generation and Renewable Energy Holding by about 7 percent year-to-date.

"It's very hard in the current climate to put a value on a pipeline of development opportunities," said Stephen Mahon, Chief Investment Officer at Low Carbon Investors UK, the fund manager for London-listed Low Carbon Accelerator.

"People have got much shorter time horizons than they used to have, so anything which hasn't got any real tangible value today is being heavily discounted," he added.