Tom Konrad CFA
Sunpower and First Solar are indulging in nerd jokes.
Their YieldCo, called 8point3 Energy Partners had its initial public
offering on June 19th. The name is an astronomy nerd joke and a
reference to the time it takes the sun's rays to reach the Earth,
8.3 minutes. Last week, we found out that its ticker symbol is CAFD
" because it stands for "cash available for
CAFD is an important YieldCo metric, but it's not a perfect one. If
you're not a financial nerd but are interested in investing in
YieldCos, here's what you need to know to make sure the joke isn't
What is CAFD?
Cash available for distribution (CAFD) is a YieldCo's estimate
of how much of the cash from its assets is available after it has
paid the cash expenses necessary to keep the company running. Such
expenses mostly consist of interest and principal payments on debt
and maintenance of facilities. Cash spent on new investments is
also deducted, but this deduction is typically net of equity or
CAFD is a "non-GAAP" measure, meaning it is defined by generally
accepted accounting principles (GAAP), and so is not always
comparable between YieldCos, as their definitions may vary
slightly from the one above. Some YieldCos also use other names,
such as "adjusted earnings per share" by NextEra Energy Partners
(NEP) or "core earnings" used by Hannon Armstrong (HASI).
YieldCos are designed to return as much cash as they can to
investors without compromising the company's sustainability. Since
there is no GAAP measure of how much cash a company can return to
investors, they had to invent one. This is also a common practice
among other income-oriented classes of securities such as REITs
("adjusted funds from operations").
Strengths and weaknesses
Like any metric, CAFD has strengths and weaknesses. Its greatest
strength is observability. Unlike GAAP measures like earnings,
there is no need to estimate the likely life of an asset for
purposes of depreciation, and no need to accrue expected future
costs. Such estimates are intended to help earnings and other GAAP
measures to reflect the true economic results of a company, but
the very complexity of the rules often obscures as much as it
CAFD's greatest weakness is that it is short-term in nature.
While most YieldCo businesses are fairly stable, nothing is
forever. Most YieldCo assets are long-lived, but even solar panels
degrade slowly over time, and most wind turbines are designed to
last around 20 years. Further, many YieldCo assets had been
operating for some time before they were acquired.
Perhaps more important are the power-purchase agreements (PPAs)
under which YieldCos sell the power they generate. These
agreements typically have another 15 to 20 years to run, but many
to assume that they will be renewed on similar or even more
advantageous terms when they expire.
Rules of thumb
Investors who want to choose between YieldCos should pay
attention to CAFD per share and YieldCo
CAFD per share growth targets, because dividends closely
follow CAFD per share. But CAFD should not be the sole focus. They
also need to understand how CAFD's short-term nature will bias the
comparisons between YieldCos.
Beyond higher current and future CAFD, investors should prefer
- YieldCos with longer-term PPAs
- Longer-lived assets (hydropower lasts longer than solar,
which lasts longer than wind)
- Better-credit-quality power purchasers
- PPAs that sell power for close to the market price (because
these are more likely to be renewed on favorable terms)
- Technologies which are not getting cheaper rapidly, or unique
- Dispatchable generation technologies
- Technologies that require fewer inputs (fossil fuels, water,
biomass) that might cost more in the future
- Technologies that produce less pollution and are subject to
PPA pricing risk
The problem for YieldCos that own assets which are getting
rapidly cheaper lies in the prospects of PPA renewal. For example,
solar photovoltaic system prices are universally expected to
continue to decline (see chart below).
Today, a new utility-scale solar facility costs about $2,000 to
$2,500 per kilowatt. It will produce about 1.2 megawatt-hours to 2
megawatt-hours per year per kilowatt, depending mostly on the
local climate. Suppose we have a new solar facility that produces
1.5 megawatt-hours per year per kilowatt and which cost $2,250 per
kilowatt to build. If various incentives cover half the cost, the
facility would require a PPA at $67 per megawatt-hour to achieve a
9 percent CAFD yield.
Now consider what will happen in 15 years when the PPA expires.
The facility will have degraded somewhat, reducing its output by 5
percent, maybe a little more. A new solar facility next door will
be much cheaper, but will likely also qualify for far fewer
incentives. If we assume that the new facility will cost $1,000
per kilowatt after (much-reduced) incentives, it would need a PPA
at $59 per megawatt-hour to achieve the same to 9 percent CAFD
yield. $1,000 per kW is a very conservative estimate for installed
commercial solar costs in 2030 given that First Solar's (FSLR)
that his company can hit that target by 2017.
If the customer can sign a PPA with a new solar farm at $59 per
megawatt-hour, why would they sign a PPA with the old farm for
more? After the 5 percent degradation and slightly higher
maintenance costs for the older solar facility, a $59 per
megawatt-hour PPA will only result in a 7.5 percent CAFD yield
from a renewed PPA.
Hence, PPA prices for electricity from technologies like solar
with rapidly declining costs are likely to fall as well. Since
this effect may be partially offset by falling subsidies, YieldCos
which own subsidized facilities may have an advantage if those
subsidies are removed for future, competing facilities.
The weather-dependent nature of solar and wind is likely to
exacerbate this problem. It used to be that solar production was
well aligned with peak load on sunny summer afternoons. Now,
locations with high solar penetration are beginning to experience
curve,” with power prices dropping when solar production is
at its peak.
In 15 years, when solar and wind PPAs will need to be renewed,
it seems unlikely that utilities will be queuing up to purchase
power that arrives when they need it least. Parts of the grid with
high wind penetration already see zero or negative electricity
prices at times of high wind and low electric demand, although grid
expansion can alleviate this problem.
Such weather-related effects favor dispatchable technologies
like natural-gas generation, but this advantage is offset by
regulatory risk, because gas is a fossil fuel.
Technologies like hydroelectric and geothermal are likely to
have the most durable pricing power. Not only do hydroelectric
power plants usually last for 50 years, they typically have
longer-term PPAs. They also have very little competition from new
hydroelectric or geothermal plants nearby, because the best sites
are already taken. Both hydro and geothermal have some potential
for dispatchability, also reducing their long-term pricing risks,
although resource risks from geothermal reservoir depletion and
changing weather patterns should not be ignored for either.
Incentive distribution rights and dividend
Normally, a YieldCo's dividend is directly linked to its CAFD
because it will distribute all its cash available for
distribution. Incentive distribution rights (IDRs) change this,
because they allow for a larger share of CAFD to flow back to the
YieldCo sponsor. YieldCos with IDRs include NextEra Energy
Partners, TerraForm Power, Brookfield Renewable Energy Partners,
and now 8point3.
CAFD is a great metric in that it gives investors a quick guide
to what sort of dividend to expect in the short term. Given its
short-term nature, this may be all that short-term investors and
traders need. Income investors typically have a longer-term
outlook. For them, it makes sense to look at the many factors
detailed above which will affect a YieldCo's dividend over the
All clean energy technologies have risk, and we do not know
which will be most important over the long term. Hence, it makes
sense to diversify some of this risk away by including YieldCos
which own less common clean energy technologies, such as
geothermal, hydropower and energy efficiency.
There is not yet any publicly traded YieldCo which owns any
geothermal assets, but both U.S. Geothermal and Alterra Power own
geothermal assets, and could benefit if YieldCos seek to buy such
assets to diversify their portfolios. Unfortunately for income
investors, neither pays a dividend.
Both Brookfield Renewable Energy and Canadian power producer
Innergex Renewable Energy own mostly hydroelectric facilities and
pay healthy dividends. Alterra Power also owns hydroelectric
The unique sustainable infrastructure financier Hannon Armstrong
has the most diverse portfolio, and is currently the only YieldCo
with significant energy-efficiency investments.
Tom Konrad is a financial analyst, freelance writer, and
portfolio manager specializing in renewable energy and energy
efficiency. He's also an editor at AltEnergyStocks.com.
Disclosure: Long Hannon Armstrong, Brookfield Renewable
Energy Partners, Alterra Power, Innergex Renewable Energy, First
Note: The author of this article will be an instructor at
EUCI's "The Rise
of The YieldCo" workshop on July 30-31. This
first published on GreenTech Media and is reprinted with
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