The current administration has placed a priority on developing renewable energy industry in the United States. As is the case with any substitution product, the adoption hinges on the ultimate cost to the consumers. For the producers, it is often a catch-22 situation. To be competitive in the market, they need to build up scale and invest in R&D and new technologies to reduce their own costs but this is hard to do unless the payoff starts materializing. Hence, US and countries in Europe have heavily subsidized the Solar and Wind energy industry through outright subsidies as well as tax benefits for the consumers.
Renewable Energy Quickly Approaching Grid Parity
Despite stories about failed investments in Solyndra and the like, it appears that we may be on the cusp of what is called the “grid parity”. Grid parity occurs when the price of the levelized cost is equal to or less than the cost to the electricity grid without the use of subsidies. This is the point when the alternative energy producers start being profitable without externalities and these energy sources can be widely adopted.
It is important to note that since the price of electricity at the grid varies by location as well as time of the day, grid parity is not a static number. Solar energy, for example, may be economical in some places and at certain times of the day but may not be at other times and at different locations.
National Renewable Energy Laboratory (NREL) estimates that renewable energy will be price competitive in the Western US by 2025 (pdf). As a result, even after the Renewable Portfolio Standard (RPS) mandates run out, the industry will be able to stand on its own economics. Until 2025, the RPS mandates require a proportion of the energy usage to be supplied through renewable sources.
This study accounts for removal of subsidies but does not take into account the usage of private solar panels which are fast becoming affordable as the cost of PV continues to decline.
A different study by Bloomberg New Energy Finance estimates that the Solar energy has already reached competitiveness with day time retail prices in many areas. They point out that the price of Photovoltaic cells have fallen over 75% in the last 3 years, a fact that is not adequately reflected in most of the studies that have come out. While this is not the same as grid parity, it is enough to sustain further expansion in the industry. A recent Deutsch Bank report concludes that Solar energy will be largely sustainable without any subsidies by the end of 2014. In fact, there are new solar projects in India and US that are unsubsidized and are price competitive.
Where to Invest?
I believe that Solar represents a great investment opportunity and we are likely to see significant growth in the coming years. Utilities stocks are not going to benefit much from all this as these companies are merely a conduit for electricity. It is possible that they may see their costs decline while retail prices may not change much as they are regulated. However, this is a few years off.
New solar energy generation plants are likely to be profitable and as the cost of production declines further with added scale and cheaper technologies, they will see their margins improve. Warren Buffett recently bought a few of these plants in California from SunPower so he is clearly betting on improving economics in this industry.
Or you can take a slightly different angle and invest in companies that provide the technologies and equipment to the solar power industry. Since solar energy panels require little maintenance to operate, the cost of power from these plants is heavily dependent on the capital investment that went into building the plant. Newer plants are more cost efficient as they use cheaper equipment and technologies. Our ASYS investment in the premium portfolio is predicated on “picks and shovels” investment philosophy and has already resulted in significant gains (not to mention the stock was significantly undervalued on a net-net basis when it was purchased). Other investment possibilities around this theme may exist as well.