Source: 8Point3 Energy Partners
The market is off to its worst yearly start in history and I couldn't be happier. That's because Wall Street's fear and pessimism is presenting wonderful chances for long-term dividend investors to load up on high-quality companies at severely undervalued levels that historical data suggests could result in amazing total returns in the years to come.
One such opportunity lies in my favorite solar income stock, 8Point3 Energy Partners (CAFD). Find out three reasons why this 5.7% yielder deserves a spot on your watch list, but more importantly, why its poised to potentially become one of the top performing dividend growth stocks of the next five to 10 years.
Market undervaluing a great business model
Largely due to crashing energy prices (that Wall Street seems to think makes growth in solar energy doubtful in the long-term) 8Point3 Energy Partners has had a rough few months since its IPO.
However, as usual the market's short-term focus is blinding it to the immense long-term potential of this yieldco.
That's because 8Point3 Energy's business model is that of a pure solar utility. Its two sponsors, managers, and general partners First Solar Inc (NASDAQ: FSLR), and SunPower Corp. (NASDAQ SPWR), which are some of the largest and best capitalized solar companies in the world, drop down or sell it completed solar projects only after they have secured extremely long-term power purchase agreements with some of America's most credit worthy utilities.
In fact, 8Point3 Energy's initial 432 MW portfolio of solar projects has its cash flows secured by a weighted average contract length of 22 years, with some of its contracts extending out to 2043.
With its cash flows secured by such contracts, 8Point3 Energy Partners plans to pay out a generous and growing distribution to investors, one that has the potential to generate extremely attractive total returns over the coming years.
Payout profile signaling sustainability AND strong growth ahead
Dividend investors are attracted to electric utilities because of their generous (if slow growing) dividends backed by highly predictable cash flows. Yet, the average electric utility only yields 3.5%, far beneath 8Point3 Energy's 5.7% payout, indicating that Wall Street believes the distribution to be less secure.
Yet, this couldn't be further from the truth. In the third quarter 8Point3 Energy generated $6.7 million or $.34 per share in cash available for distribution or CAFD, which is what funds the quarterly distribution.
That gives the yieldco a distribution coverage ratio or DCR of 1.54, even taking into account its recently announced 3.5% distribution hike for the fourth quarter of 2015.
Keep in mind that 28% of the yieldco's solar projects were completed just recently and so the cash flow from these projects weren't represented in last quarter's financials. Thus 8Point3 Energy's DCR is likely to be even stronger in the upcoming quarter. This is what gives me such confidence in management's distribution growth guidance of 12%-15% CAGR into 2018.
Immense growth potential backed by sponsors' massive project backlog
Source: 8Point3 Energy Partners investor presentation.
This slide shows the immense growth potential that 8Point3 Energy Partners processes thanks to its sponsorship by First Solar and SunPower. Note that management's distribution growth guidance is based purely on the yieldco's backlog of right of first offer or ROFO projects which represents just 8.7% of First Solar and SunPower's total backlog of solar projects.
Given that Congress recently extended the full 30% investment tax credit through 2019, it's likely that this total backlog will only grow larger over the coming years and extend the length of time that 8Point3 Energy can continue growing its payout at impressive rates.
Risks to be aware of
There are two long-term risks current and potential investors in 8Point3 Energy need to keep in mind.
First, while a cheap share price may be great for investors from the perspective of locking in a higher yield, yieldcos rely on both debt and equity growth funding to grow via acquisitions of new projects from their sponsors. Thus, should oil prices stay low or even drop further 8Point3 Energy's share price may decline to a point where it can't tap equity markets to fully fund its massive growth potential, since taking on too much debt would make its balance sheet dangerously overleveraged.
A longer-term threat is that, as solar technology continues to improve and the cost of solar power falls in the decades to come, when the yieldco's existing PPA contracts expire the renegotiated power rates it negotiates with utilities (as well as rates for future contracts) may be lower than todays levels. This could potentially result in CAFD levels that force management to miss its payout growth targets
Bottom line:
I'll admit that 8Point3 Energy Partners' long-term business model has some risks, however in my opinion at today's undervalued levels I think long-term dividend investors are well compensated for these uncertainties. As part of a well diversified income portfolio I believe 8Point3 Energy investors stand to make a potential killing as the global solar boom continues over the next decade.
