This was supposed to be the year of renewable energy. However, even a cursory look at leading wind energy players such as General Electric (GE -0.30%), Vestas Wind Energy (VWDRY -3.96%), and Siemens Gamesa (SMEG.F -5.08%), reveals that 2021 has instead been a challenging year for that part of the industry.
But as we head toward 2022, that leaves two questions for investors: What's going on in the renewable energy sector -- and in particular, the wind segment -- and what are the best ways to get portfolio exposure to it from here?
A lousy year for wind energy
The following chart shows how badly the stocks of leading wind power companies fared in 2021's first 11 months. Included as well is contract wind blade manufacturer TPI Composites (TPIC 2.04%), which fell more than 65%. And the decline in the First Trust Global Wind Energy ETF (FAN -0.10%), which covers the sector, indicates that the problems weren't just a collection of individual company-specific issues.
Data by YCharts
What the leading players said
These stocks declined for understandable reasons. First, let's consider the larger players. Vestas and Siemens Gamesa both lowered their guidance through the year. Vestas started 2021 forecasting revenue in the range of 16 billion euros to 17 billion euros, with an earnings before interest and tax (EBIT) margin of 6% to 8%. Come summer, Vestas' management lowered its guidance to a range of 15.5 billion euros to 16.5 billion euros and cut its forecast EBIT margin to 5% to 7%. When it delivered its latest update in November, it dialed its expected EBIT margin back to 4%.
Image source: Getty Images.
Matters were similarly disappointing for Siemens Gamesa. Its fiscal 2021 ended in September; full-year revenue landed at the bottom of its original guidance range, and its EBIT margin was negative 0.9% when management had started the year expecting it to be in the 3% to 5% range. Moreover, management has set a medium-term target for EBIT margins in the 8% to 10% range that it previously expected to hit in 2023. Now, management doesn't expect to hit that goal until 2024 or 2025.
Wind turbine manufacturer Nordex recently lowered its 2021 guidance for earnings before interest, depreciation, and amortization (EBITDA) margin from a previous range of 4% to 5% down to a new forecast of 1%. And it has been a lousy year for composite wind blade manufacturer TPI Composites. Early in 2021, the company cited short-term overcapacity issues in the industry, and reduced its production in response. Then, come November, management told investors, "We have witnessed volume declines from our OEM customers."
Finally, GE's management has candidly talked of the risk around GE Renewable Energy's cash flow expectations for 2021. Moreover, that's the one segment that CEO Larry Culp hasn't definitely said will be profitable in 2023.
What went wrong?
It all comes down to a combination of factors.
First, this was always going to be a year of uncertainty for the industry, not least because global onshore wind power installations were already on course to be flat from 2021 through 2025. History suggests that when business in end markets slows down, some companies will get exposed as the proverbial tide goes out -- witness TPI Composites' warnings of overcapacity in the wind energy industry. Meanwhile, declining margins can be pinned, in part, on the highly competitive pricing environment.
Image source: Getty Images.
Second, Siemens Gamesa, Vestas, Nordex, TPI Composites, and -- to a lesser extent -- GE have all warned that soaring raw material costs, and higher supply-chain and logistics expenses would have negative impacts on both margins and production. Those are far from minor issues in an industry that needs to move massive components around the world.
Third, there's a lot of uncertainty around the possible extension of production tax credits (PTC) in the U.S., as well as how much of President Biden's plan to support renewable energy will make it through Congress. For example, extending the PTC would be helpful for the industry over the longer term, but it might encourage electricity producers to delay some wind power investments, which would be a headwind in the nearer term.
These factors have come together to lower near-term earnings expectations, and the sector has sold off in response.
Stocks to buy?
Nordex and TPI Composites are currently loss-making businesses. Vestas and Siemens Gamesa are priced at 27 times and 37 times what Wall Street analysts expect their free cash flows will be in 2023. Moreover, many of the issues discussed above are likely to extend through 2022 and 2023, at least.
Of the stocks discussed above, the most attractive buys now are GE and Siemens Energy (a company comprised of a 67% stake in Siemens Gamesa and the former power and gas business of Siemens). GE Renewable Energy and GE Power will be spun off as a single new public company in 2024.
Both the new GE "energy" business and Siemens Energy have power businesses that are set to generate significant earnings and cash flow in a couple of years. That will help balance the risk in their wind power segments as that industry prepares to return to growth in the post-2025 period. And Siemens Energy, which trades today at less than 13 times its forecast 2023 free cash flow, looks like a particularly good value right now.
