In this clip from "The High Energy Show" on Motley Fool Live, recorded on Feb. 8, Motley Fool contributors Jason Hall and Travis Hoium talk about the structure of the renewable energy industry and how the companies best to invest in might differ between high-risk and low-risk investors.
Jason Hall: If you think about how the renewable energy industry is structured, it is pretty cyclical. You think about these large investments, the vast majority, I don't know what the exact number is, but I would guess if you look at the whole picture, probably 70% to 80% of the global spending, Travis, is probably large commercial or utility projects, right?
Travis Hoium: Yeah. That's fair.
Hall: It's massive. It's not like us going to the grocery store where you're going to go every week, and it's a predictable amount that you spend. The amount that gets invested from one year to the next can shift by double digits in either direction easily. That puts a lot of pressure on the manufacturers because scale, they have to take on a lot of debt to build out capacity. They have high fixed costs. That's something that affects them a lot. On the other end of the spectrum, on that project finance side, that's the least cyclical part where the cash flows are more predictable and steady because that's where the power being sold, the power that's being generated is the economic driver, not the value of the equipment itself that's being acquired and installed. From most cyclical and least predictable to most predictable and most steady. Think about that as an investor to help you understand the levers that affect it as an investor.
Hoium: Typically that's how I would look at, if your risk tolerance is high, you might be willing to look at a component manufacturer who has a ton of upside, if they're able to reach scale or costs, maybe expand their business horizontally. If you're a lower-risk investor, looking for steadiness, cash flows. When we read about these companies, Jason, we've done a number of round tables on these, and we'll just talk about, this company has 15 years of contracted cash flow. They paid this dividend. They can reasonably expect that it's going to grow 3% to 12% per year. Boom, you're done. It's really as simple as that. It's like owning a REIT in the energy space. I think it's the best analogy.
Hall: It's just you do a cash flow analysis and you understand the economics of the industry they're in, and it's pretty simple. I think we've also learned that you can have the best technology in the world as a manufacturer and not generate great returns, because of the cyclicality of the industry and the capital intensive nature and capital allocation and the executive suite is so important. As an investor, not investing at the peak of the cycle and expecting quick returns, because the market cycle can turn and the stock can fall 50%, 60%, 70% in a year, and the business is still a great business. It's just the cycle has turned, right?
