Recognizing paradigm shifts can be quite lucrative. Simply ask investors who, long ago, recognized the potential in e-commerce and jumped on the Amazon.com bandwagon. Currently, we are in the midst of another shift: the global transition to renewable energy.
Of course there are the usual clean-energy suspects, but probe a little deeper and you'll find that fuel cells represent another consideration. But before investors ponder hitching their wagons to a hydrogen-powered future, propelled by industry leaders like Plug Power (PLUG -0.73%), Ballard Power Systems (BLDP -1.10%), and FuelCell Energy (FCEL -6.93%), it's imperative to become better acquainted with the sector.
Image source: Getty Images.
Brush up on the basics
Touted as a clean-energy solution, fuel cells, through an electrochemical reaction, convert chemical energy from a fuel source -- usually hydrogen -- into electricity, producing only water and heat as byproducts.
Whereas the majority of people most likely associate fuel cells with vehicles, like the Honda Clarity and Toyota Mirai, there's a large range of applications for the alternative energy solution. Plug Power and Ballard Power Systems, for example, provide fuel-cell solutions on the smaller scale for forklifts and drones, respectively. FuelCell Energy, on the other hand, has developed utility-scale fuel cell solutions and is currently developing a carbon capture offerring for use at large natural gas-fueled power plants.
The various shades of green
Although it may seem tempting to lump fuel-cell stocks in with other alternative-energy stocks, this would be unwise. For one, fuel-cell companies do not bear a resemblance to their renewable-energy brethren in one striking way: profitability. Solar, wind, and geothermal companies have all proven the ability to report a bottom line in the black. Fuel-cell companies, not so much.
For example, consider the performances of First Solar (FSLR -2.09%), a leader in solar panel manufacturing; Pattern Energy Group Inc. (PEGI), an independent power producer whose portfolio includes 20 wind power facilities; and Ormat Technologies (ORA 1.30%), a vertically integrated geothermal company, in comparison to the leading fuel-cell companies over the past five years.
| Company | 5-Year Average Revenue | 5-Year Average Gross Profit | 5-Year Average EBITDA | 5-Year Average Net Income |
|---|---|---|---|---|
| First Solar | $3.32 billion | $833.2 million | $419.2 million | $168.4 million |
| Pattern Energy Group | $253.2 million | $59.6 million | $149 million | ($14 million) |
| Ormat Technologies | $573 million | $197.4 million | $205.6 million | $20.6 million |
| Plug Power | $61.2 million | ($7.2 million) | ($53.6 million) | ($59.2 million) |
| Ballard Power Systems | $63 million | $13.6 million | ($18 million) | ($23.4 million) |
| FuelCell Energy | $152 million | $6.8 million | ($29.6 million) | ($37.4 million) |
Date source: Morningstar.
A closer look at the three hydrogen-focused businesses reveals that Ballard is the closest to achieving profitability. It has generated a gross profit in each of the past five fiscal years. Plug Power has only generated a gross profit in one fiscal year out of the past five, and FuelCell Energy, which failed to generate a gross profit in fiscal 2016, will most likely not generate one in fiscal 2017. Ballard, furthermore, may achieve breakeven (or come near it) on an EBITDA basis for fiscal 2017: Over the trailing-12-month period, the company has reported $3 million in adjusted EBITDA. Neither Plug Power nor FuelCell Energy have ever reported breakeven on an EBITDA basis in any fiscal year.
Of course, profitability isn't the most important factor when considering an investment, but it certainly helps in assessing risk. And for investors interested in adding renewable energy to their portfolios, it's worth noting that fuel-cell stocks, arguably, entail the most risk.
Don't lose your head over the headlines
One common occurrence for those following the fuel-cell sector is the "big announcement" -- the news item which reveals an industry leader's adoption of the hydrogen-based solution and often sends the market into a frenzy. For example, when Plug Power announced a major deal with Wal-Mart in February 2014, shares of Plug Power soared nearly 20%. Most recently, this was demonstrated last April when Plug Power announced its blockbuster deal with Amazon.com -- a deal which Plug Power's management stated in its press release could be worth as much as $70 million in revenue for fiscal 2017 and $600 million overall. True to form, the market drove shares of Plug Power up more than 60%.
Investors may also recall FuelCell Energy's name appearing in the headlines along well-known businesses. Earlier this month, for example, FuelCell Energy announced a partnership with Toyota to develop hydrogen fuel infrastructure at the Port of Long Beach in California. This follows an announcement from May 2016 in which FuelCell Energy revealed its partnership with ExxonMobil to develop carbon capture solutions at a natural gas-fired power plant.
So what's the harm in a little name-dropping? There is none, per se. But it's crucial for investors to remember that the announcement of a major deal should not be interpreted as proof that the company's success is imminent. Instead, it should be a reminder to exercise patience and wait to see how the deal affects the company's fundamentals.
Investor takeaway
When it comes to businesses operating in the renewable energy sector, it appears that the ability to generate a profit is more the exception than the rule -- especially when it comes to fuel-cell companies. This doesn't mean that investors should forsake all investments in fuel-cell companies, but it does suggest that taking a chance on this niche of the energy industry is only for investors with a high risk tolerance.
