Special Free Report From The Motley Fool

Fellow Fools,

Let’s not beat around the bush – energy companies performed miserably in 2015.

Yet, even though the carnage was widespread, not all energy related entities are created equally. This is an important consideration, and top of mind for those of us that are keen to exploit the market’s broad strokes.

You’re about to meet a company that fits this mold perfectly, in our opinion. This is a company that is largely tied to the renewable energy industry. Impressively, it boasts an international portfolio of over 200 power facilities in seven countries.

Given the increasing movement towards clean energy that’s underway, this company’s collection of hydropower and wind power facilities hold tremendous long-term promise. We’re of the mind that this is a company square in the cross-hairs of rising, long-term secular demand for the services and products it provides. It’s impressive dividend yield doesn’t hurt, either.

Admittedly, our focus for this company is on the “- and Beyond” portion of the title as a 1-year move out of any stock is entirely unpredictable. We do however think that by purchasing this company while it’s been washed out with the rest of the energy industry, you could be setting yourself up for potentially sizeable long-term gains.

It’s these kinds of energy companies that we’ve focused on within Stock Advisor Canada, and I’ll encourage you, after getting up to speed on this front, to see our other recommendations along similar lines.

Fool on!
Iain Butler, CFA
Chief Investment Adviser, Stock Advisor Canada

A well-established business that has over 100 years of experience in power generation, and has started investing in hydropower 20 years ago.

Why Buy:

  • There’s a megatrend in renewable energy as the global energy consumption grows. In 2014, about 58% of net additions to global power capacity were renewables, and investments in green energy around the globe was US$270 billion.
  • With about 90% of contracted cash flows, Brookfield Renewable’s distributions are stable and predictably growing.

Sometimes investors chase the hot stocks and only end up losing money. We believe a balance is required and that achieving that includes investing in companies with quality assets that generate steady returns for you over time.

So instead of reaching for the next hot stock, investors can choose to buy this established utility that’s well positioned to ride on the megatrend of the growing use of renewable energy. Brookfield Renewable Energy Partners (TSX:BEP.UN) (NYSE:BEP) is a steady performer and starts you off with a 6.7% yield thanks to the strong US dollar.

About the Company

Currently, Brookfield Renewable Energy has US$20 billion of power assets and has the capacity to generate up to 7,400 Megawatts of power with its 252 power facilities scattered across 14 markets in seven countries. In total, 50% of its portfolio is in the United States, 25% is in Canada, 20% is in Brazil, and 5% is in Europe.

Its assets consist primarily of hydropower which generates 80% of its capacity. Secondarily, it owns wind farms that generate 18% of its capacity. Brookfield Renewable Energy tends to focus on value investments in high quality renewable assets.

For example, it invested US$2 billion into hydro at a cyclical bottom after the financial crisis. Further, it slowed M&A activities in Brazil to wait for a more attractive entry point that appears to have arrived recently.

Thesis and Opportunity

Quite simply, as the world increases the use of green energy, Brookfield Renewable Energy is set to benefit.

From 2004 to 2014, new investment in global renewable power grew from US$45 billion to US$270 billion, a compound annual growth rate (CAGR) of 19.6%.

Breaking that down further, global hydropower capacity grew at a CAGR of 7.9%, wind power capacity grew at a CAGR of 22.7%, and solar PV capacity grew at a CAGR of 52.5%.

Brookfield Renewable already has a strong footing in hydropower generation which constitutes 80% of its portfolio. These hydropower facilities are long-life assets with a stable cost base and growing margins.

Its 18% wind power portfolio should deliver higher growth potential than its hydroelectric facilities. At the same time, Brookfield Renewable is building internal expertise in solar-power generation.

Brookfield Renewable has demonstrated a track record of outstanding execution. From 2011 to 2015:

  • Its installed capacity grew from 4,500 MW to 7,400 MW, a CAGR of 13%;
  • Its distributions increased from US$1.35 to US$1.63 per share, a CAGR of 4.8%;
  • And, it delivered total returns of 12%

The utility’s roughly 90% contracted revenue has a 17-year average contract term with inflation-linked escalation. These stable cash flows provide downside protection to the stock and stability to its distributions.

Currently, in three European countries, Brookfield Renewable has US$1 billion of power assets with 600 MW of capacity. The hope here is to replicate this success in other areas in Europe. To help make that a reality, there is currently 1,400MW worth of projects in the European development pipeline, of which 140 MW of it is in advanced stages. So, there’s growth potential in this business.

All of this doesn’t even take into account the remaining 2,000MW of projects in development elsewhere.

Utilizing all of these resources, Brookfield Renewable anticipates delivering total returns of 12-15%, and distribution growth at a CAGR of 5-9%. At the end of 2014, the total returns for Brookfield Renewable over one-, three-, five-, and 15-year periods have all been at least 15%. So the business’ estimation of total returns of 12-15% going forward does not appear all that farfetched.

Financials and Valuation

Brookfield Renewable currently has US$1 billion of available liquidity, and an investment-grade balance sheet. Its S&P credit rating is BBB. Additionally, its debt/cap is 42%.

Management believes the business has an intrinsic value of $42.50 per share. With organic growth coming from rising power prices, and its development pipeline, the utility believes the shares could trade even higher. It should be noted that these assumptions do not include M&A considerations.

Based on the intrinsic value of $42.50, the shares are discounted by 23.9% today.

Risks and When to Sell

Of course, no investment is void of risk. So, here are some things we’d recommend investors keep an eye on moving forward.

Because Brookfield Renewable’s portfolio is dependent on Mother Nature, any changes in the hydrology at its hydroelectric stations, changes in wind conditions at its wind facilities, or changes in weather conditions at its biomass facilities could affect its generation capabilities. These changes would appear to be difficult to predict but exist nonetheless.

Although about 90% of Brookfield Renewable’s cash flows are contracted, there’s always the possibility that the counterparties to its contracts won’t fulfill their obligations. Additionally, when contracts expire, there’s no guarantee that Brookfield Renewable can replace those agreements on similar terms.

Brookfield Renewable’s operations also tend to be highly regulated. Now, this can be a good thing when creating barriers to entry. However, increased regulation is also possible, at which time, it could result in additional cost to the utility or a meaningful change in the industry.

For example, water rights are typically controlled by governments that reserve the right to control water levels. So, there is a risk that water rental costs could increase or that the changes to water supply regulation may impose additional costs on Brookfield Renewable.

In addition, Brookfield Renewable’s geographic diversity provides complexity in terms of regional or country-specific regulations. Failure to adapt accordingly could lead to setbacks for maintenance or growth at existing facilities or the establishment of new projects.

One area that we Fools tend to believe evens out over the long-term, but should be noted nonetheless, is exposure to foreign currency risk. Currently, Brookfield Renewable is exposed to the Canadian dollar, Brazil real and Euro through its foreign operations. The fluctuations of the U.S. dollar against these currencies can increase the volatility of the utility’s income over individual short-term timeframes.

As always, when risks materialize, we encourage investors to examine the scale of the impact and its expected lifespan. While setbacks could certainly occur, Brookfield Renewable appears to be on the right side of a growing trend.

The Foolish Bottom Line

Brookfield Renewable Energy is the type of business that investors should consider for the long-term because it is a business that acquires perpetual assets that generate stable cash flows. These stable cash flows, in turn, generate stable distributions for shareholders.

That is why the company is able to anticipate growing distributions at a CAGR of 5-9%. At around $34, Canadian investors start off with a 6.7% yield which is an above average yield, and growing. Additionally, the shares appear to be priced at a fairly significant discount. So, we believe it is an opportunity to buy.

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All figures as of December 2015. 

Disclosure: As of November 20, 2015, Kay Ng owns shares of Brookfield Renewable Energy Partners.

This report is: (a) for general information purposes only and not intended as investing advice; and (b) not to be used or construed as an offer to sell, a solicitation of an offer to buy, or an endorsement, recommendation, or sponsorship of any entity or security by The Motley Fool Canada, ULC, its employees and affiliates (collectively, “TMF”). This report represents the opinion of the individual author and does not attempt to give you professional financial advice or advice that relates to your personal circumstances.