Power ahead with Vestas

That’s a handy position given wind power will be key to the renewable energy transition. China aside, investment bank Pareto Securities predicts around 40GW of onshore wind capacity will be added annually over the next five years. This comes as larger, more powerful and more efficient turbines have lowered the cost of producing one megawatt hour (MWh) of electricity. There are also regulatory tailwinds as governments target green fiscal stimuli to tackle both climate change and the Covid-19-induced economic slump. Following the ‘Green Deal’ unveiled in December, the European Union has approved a €750bn (£671bn) recovery fund and €1.1 trillion budget through to 2027, of which 30 per cent must be spent on “supporting climate objectives”. In the US, Democratic presidential candidate Joe Biden is advocating a $2 trillion clean energy plan, promising “tens of thousands of wind turbines”.

These structural growth drivers should boost Vestas’ power solutions business, which designs, manufactures and delivers new wind turbines and accounts for more than 80 per cent of total sales. In recent years, the division’s profits have deteriorated despite volume growth. While the improving economics of wind power have made the technology more popular, competitive pricing pressures have squeezed margins. Vestas’ adjusted operating profit margin for power solutions has contracted since 2016 as average selling prices per MW declined from €0.95m to €0.78m at the end of June. The margin was negative in the first half of 2020, weighed down by pandemic-related costs and €175m of warranty provisions for blades impacted by “high-intensity lightning”. Chief executive Henrik Andersen says this one-off charge relates to previous installations and will not affect current or future blades.

Analysts believe the power solutions margin will bottom out this year at around 4.5 per cent, rebounding from 2021. Prices have stabilised – albeit at a lower level – and selling, general and administrative costs per GW are expected to fall. Meanwhile, momentum is building in higher-margin servicing.

After wind turbines are installed, they need to be maintained. Across the industry, customers typically choose the original equipment manufacturer (OEM) to service new turbines, taking advantage of warranty periods. They also stick with OEMs for around 80 per cent of renewals. Vestas has service contracts for 104GW of onshore turbines worldwide and with an average 19-year duration for new agreements, this offers predictable, long-term revenues. These aftermarket services also generate much higher margins – the adjusted operating margin was 27.4 per cent in the six months to 30 June, translating to €268m of profit. As earnings from services grow, the group margin should move closer to Vestas’ 10 per cent target, up from its 5-7 per cent guidance for 2020.

Vestas has been debt-free since 2013, ending the first half with over €1bn of net cash to hand. This is thanks to a consistent negative working capital balance as customers pay for some services in advance. If this working capital position were to unwind, Berenberg estimates Vestas would finish 2020 with €2.7bn of net debt. But the broker isn’t concerned this will happen, believing the order backlog and therefore prepayments will keep growing. The group exited the first half with a record €35bn backlog and has since secured a 443MW order from SSE (SSE) alongside a 30-year servicing agreement.