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Wind is struggling and a big picture overview is not an inaccurate summary as to how wind is perceived and likely to perform in coming years. The above view is heavily influenced by IEA’s views, which in the renewables area tend to mostly miss the big trends. The IEA has trouble seeing how a needed (to address climate issues) wind power increase of 250 GW annually can happen in the light of wind installations in 2020 (113 GW) and 2021 (94GW) being less than half of that. Did they forget that 2020 and 2021 were the epicenter of the global COVID crisis, and also that offshore wind is only just getting started? Partly because of the lens used by the IEA (now a solar PV convert), the perception for the wind industry is one of unprofitability for wind turbine manufacturers and permitting for wind farms facing interminable delays resulting in modest growth globally. In the June quarter Vestas, GE (GE) and Xinjiang Goldwind (OTCPK:XJNGF) all had a decline in sales, but again this reflects a time of inflation and huge supply issues. The wind challenges are happening while solar PV and related industries (eg solar inverters and residential power management) are booming. There are other views about where the wind industry is headed, with a big picture from Wood MacKenzie suggesting 2,000 GW of wind capacity installed by 2031. The important point for this article is that the wind industry in general and the biggest wind turbine manufacturer, Vestas Wind Systems (OTCPK:VWDRY), are definitely out of favour. Here I present my contrarian case for suggesting that Vestas Winds Systems is due for a breakout as things calm down.
Falsehoods and energy investment
Fatih Birol, Executive Director IEA, has recently published an article addressing three narratives that mislead investors about the current energy situation and the role of renewables. These are:
i) Russia is winning the energy battle (it isn’t)
I’ve been concerned for a long time concerning Russia’s massive focus on fossil fuel production, which seemed to make achieving climate goals of exiting fossil fuel difficult if not impossible. Today, as a result of its invasion of Ukraine, Russia has lost international trust and it is relying on China and India to acquire a massive amount of oil and gas given that the rest of the world is sanctioning Russian fossil fuel supplies. I doubt that China and Russia will be long term customers because both countries are aggressively driving energy independence through renewables. Meanwhile Europe is doubling down on renewable investments.
ii) Today’s energy crisis is a clean energy crisis (it isn’t)
A faster transition from fossil fuels towards clean energy represents the best way out of the Russian crisis which is a direct result of sudden disappearance of a huge Russian gas contribution and not any defect with the renewable energy supply. The plans in Europe focus around dramatic expansion of renewables, especially offshore wind.
iii) The crisis is a big setback for climate action
This is not true. However, the Russian situation emphasises what reliance on fossil fuels means… energy insecurity. The European approach is to double down on renewables and also reinforce action on energy efficiency measures; both of these processes are being stimulated by the RePowerEU plan.
Risks: Big picture, why is wind so unloved?
My take is that wind is perceived as a major threat to existing fossil fuel use and this is a significant reason why it has been so demonised.
CEO Darren Woods calls Exxon Mobil (XOM) a company that knows how to manage, manipulate and develop hydrocarbon molecules. He sees fossil fuels as central to energy and so emissions management is all about carbon capture. I’ve written a number of articles showing that carbon capture is a slogan, but not a solution. The words below from Darren Woods about renewable energy and electrification of transport are dismissive … “just wind and solar and EVs”. This view ignores the fact that wind and solar PV are becoming the major source of new energy replacing fossil fuel use.
Here is what XOM’S Woods said about the US Inflation Reduction Act of 2022, which plans to provide $369 billion for energy security and climate change :
“We’re pleased with the broader recognition that a more comprehensive set of solutions are going to be needed to address the challenges of an energy transition… The discussions evolving from just wind and solar and EVs to carbon capture and storage and biofuels and hydrogen is really important.”
The reason that Woods is happy about the Inflation Reduction Act is that in order to get the program funded there were some concessions about oil and gas included.
XOM has no investment in renewables, nor does it plan to change direction from being a business focused on hydrocarbons, burning of which is causing the climate crisis. Wind power, especially offshore, is a massive threat to XOM’s business.
Company risks: Vestas quarterly reporting
The environment in which Vestas operates has both tangible and intangible issues caused by a combination of a world in crisis through COVID pandemic, inflation and severe supply issues due to lockdowns and constrained supplies. These problems are generic for equipment manufacturers with global markets, but the wind industry is also managing in an environment where its business is a major threat to existing fossil fuel companies like XOM. It isn’t surprising fossil fuel companies seek to delay transitions to a clean energy environment as they are threatened, although in general European oil & gas companies (eg BP (BP), Royal Dutch Shell (SHEL) and TotalEnergies (TTE)) have accepted the inevitable in a way that US companies Exxon Mobil and Chevron (CVX) have yet to do.
The Q2 2022 reporting made clear that the specific current problems for Vestas relate to a difficult pricing period and increasing shipment and material supply costs.
There has also been considerable uncertainty about policies for the clean energy transition in Europe and the US, although both of these regions are now embracing more friendly (and clear policies) to support the clean energy transition. Also on the positive side, in Q2 reporting, reference was made to an increasing focus on energy independence (especially in Europe and Asia) and accelerated ambitions to transition to renewables.
Vestas backlogs remain at $18.6 billion… which is comparable with the $19.2 billion market cap of VWDRY and not greatly less than 2022 earnings estimates ($14.90 billion sales). With focus on optimising operations, there is a big interest in maintenance contracts and Vestas has a $30.8 billion service order backlog, most of it for onshore turbines ($26.8 billion). With 138 GW of active service contracts and an average service duration more than 10 years, this makes for a huge legacy business that balances turbine sales. Note that Vestas business is roughly 50/50 turbine sales and maintenance contracts, which is a useful structure for the business.
Revenues were down 7.7% year on year but the detail shows that this was largely due to a single delayed offshore wind project. Apparently the reason for the delay in this project is not related to the turbines, but to shipping issues that are being worked through.
A big issue influencing the current challenged share price is gross margins down from 10.6% to 2.9% year on year, but the reasons for this are clear: cost inflation and supply chain disruptions. These issues also impacted the service business which increased revenue by 13% year on year on higher activity, but the inflationary environment meant that profitability was challenged. Warranty provisions were up due to increased costs and supply chain issues. While net debt is up the company is comfortable with its capital structure and liquidity position. The revenue guidance for 2022 didn’t change from Q1 to Q2, remaining at $14.3-$15.7 billion.
The pressure is showing: straws in the wind for fixing the wind pricing problems?
Vestas CEO Henrik Andersen had a none too subtle shout out to his peers when he said in the Q2 2022 earnings report commentary that the industry needs to be very disciplined about pricing or it quickly becomes a big problem. He is clear that Vestas prioritises pricing discipline because when they make mistakes it hurts. His comment was, “There is a big gap between what people have done and said in the last four to six quarters. And I don’t think we have to keep repeating that. We remain disciplined, and we encourage everyone else to be that otherwise, the industry set themselves out for troubles.”
The takeaway from this comment about mispricing is that the industry is waking up about how damaging mispricing is to these huge industrial businesses, and ignoring lots of red ink isn’t a solution. And Vestas is not shying away from not having a perfect record itself, having a 5.5% negative EBIT for Q2.
A couple of recent announcements concerning substantial job cuts by other top-ten turbine manufacturers Siemens Gamesa (OTCPK:GCTAF) (number 2) and GE (Number 4) perhaps suggest that Henrik Andersen’s comments about pricing discipline might be having consequences for some of Vestas competitors. As far as I can gather, Vestas has made more modest job cuts (~400) and these were around technology projects in Denmark as opposed to cuts in the turbine sales and marketing business.
Siemens Gamesa
Siemens Gamesa recently announced substantial job cuts (~2500), mostly in Europe. There are 10-15 loss-making onshore wind projects in Europe that won’t be worked through until 2024. Further job cuts are planned for other countries. Note that majority owner Siemens (OTCPK:SIEGY) launched a bid in May to take over the ~1/3 of Siemens Gamesa that it doesn’t own and take the company private.
GE renewables (to become part of GE Vernova)
Recently in an article on nuclear energy, I noted that GE will have to confront issues in its energy businesses as it prepares to separate those endeavours from its aerospace and healthcare businesses in a new vehicle, GE Vernova. Maybe this has produced a reassessment of GE’s wind businesses, with layoffs of 20% of its US onshore wind operations and also layoffs in its Latin American, Middle-East and African businesses. Cuts in onshore wind business operations in Europe and Asia seem likely to follow. Onshore wind is a dominant part of GE’s renewables business and it has been struggling due to material costs and supply chain issues. Ultimately this comes down to a pricing issue and as Vestas CEO indicated, being prepared to walk away from opportunities that won’t be profitable.
These recent announcements could be the beginning of wind industry rationalisation, which must benefit Vestas with its disciplined approach to deciding about which projects to bid for and when to pass up an opportunity that won’t be profitable.
The good news for Vestas
Notwithstanding a share price that shows no signs of recovery, there are some good signs. Firstly the situation in the US now has some clarity (as a result of the $369 billion for climate change and renewables in the Inflation Reduction Act of 2022) for the next decade; of course this must help planning. Likewise the situation in Europe seems to be becoming very positive towards offshore wind in particular.
The biggest wind turbine manufacturer gets ignored
To reinforce how out of favour Vestas stock is, only one Seeking Alpha author has covered the stock (hold) in the past 30 days, while there is just one Wall Street Rating (strong buy) in the past 90 days. If the world is to address climate change (stop emissions from making things worse), the key short-term solutions are solar PV, wind and batteries. These technologies are ready to be quickly scaled up, but investors are asleep at the wheel with regards to wind power.
Conclusion
There is no better contrarian flag than the red warning bar that Seeking Alpha places prominently in the summary page for stocks that require special consideration. Vestas has a spectacularly bad “F” Dividend Safety Grade and in the breakout involving seven metrics, Vestas scores “F” on four and “D” for the remaining three metrics. I rest my case that my enthusiasm for Vestas is out there in left field. However, when one looks at the world’s top 10 wind turbine manufacturers, Vestas continues in 2022 in the number 1 position. This makes clear that the negativity about Vestas is not due to its poor performance with respect to peers. It shows that the wind industry is very unloved currently. I suggest that the arguments I’ve advanced in this article show that this reflects the market misunderstanding the industry and where it is headed.
Note also that six of the top 10 wind turbine manufacturers are Chinese in 2022, indicating that China is on the way to doing for wind power what it has done for the solar PV industry. This might end up becoming relevant for Vestas as Europe and the US become more interested in the location of their industrial bases.
Investment in the wind industry, and Vestas in particular, is not a contrarian position from a technical position or strategic position in terms of addressing the climate crisis. It is clear that wind power (especially offshore) can make a major contribution to the exit from fossil fuel use and consequent worsening of climate effects. The parlous position of the major wind industry players currently is not a consequence of inability to deliver at scale. It is all about how the fossil fuel industry still has a major influence in how power is delivered and how it has helped to slow the development of renewables projects, especially offshore wind. I contend that the climate situation is so challenging, (think European heatwaves, floods in Pakistan, Florida hurricane for starters), that action is coming soon. The reality is that there are solutions available to at least contain the emerging climate disaster, but it can’t happen until technology solutions such as the Vestas products are encouraged rather than being stopped by not supporting their adoption. China has changed the game for solar PV, but a small number of major wind companies have been caught in a vicious pricing battle. The point is that the world needs offshore wind and the cost to deliver the solutions is competitive. Governments and industry need to pay attention to allowing the solution to become more generally available and profitable for the companies in the wind industry. My take is that this is going to come soon. My basis for this starts with the renewed US and European support for a major renewables push, but it also impacts energy security which is a big deal for emerging Asian economies.
I’m in the happy position of being an early investor in Vestas and my investment is up 35% even at today’s price of $6.15, which is down 49% over the past 12 months. Of course I should have sold when the share price was above $15 at the start of 2021. Hindsight gives 20:20 vision. Given what I’m seeing regarding offshore wind project projects everywhere, I’m firmly in the contrarian camp that Vestas Wind Systems is ready for a major change of fortune for the good. So I’m keeping my VWDRY shares for happier times. Investors paying attention to the massive changes underway in the transition from fossil fuels to renewable energy might consider whether this is a good time to consider investment in Vestas Wind Systems.
I am not a financial advisor, but I follow closely the massive transitions happening as the world begins to decarbonize. I hope that my comments on Vestas Wind Systems help you and your financial advisor as you consider your energy investments.
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