AMERESCO INC AMRC
August 29, 2019 - 3:02pm EST by
trev62
2019 2020
Price: 14.50 EPS .89 .96
Shares Out. (in M): 46 P/E 0 0
Market Cap (in $M): 668 P/FCF 0 0
Net Debt (in $M): 445 EBIT 0 0
TEV ($): 1,145 TEV/EBIT 0 0

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Description

 

Summary

 

Ameresco is a well-managed, owner-operated business that is likely to grow significantly over the next five years.  Ameresco is what is commonly referred to as an “ESCO” (energy service company), founded in 2000 by the current CEO George Sakellaris.  Sakellaris is a key piece of the thesis - he is a pioneer in the industry, owns 50.4% of the company, never sells shares and has added to his stake in the business numerous times. 

 

At a high level, Ameresco can be broken down into two main segments: services and owned assets.  Please note that in this report, we use adjusted numbers to estimate the financials of each segment, though the company reports in a different manner – we are happy to go into that detail in the Q&A.  A concerted effort to expand the company’s ownership of small-scale, renewable energy assets during the last five years has resulted in this business becoming a material proportion of the total value of the company. 

 

We expect the company to triple EBITDA from company-owned assets during the next five years.  Combined with a modestly growing services business, an equity owner ought to be able to achieve returns approaching 20% compounded during the period.  Given the substantial visibility in the services business from the company’s growing, higher-margin backlog and the long-term contracted nature of the owned assets, the return offered by Ameresco is particularly attractive on a risk-adjusted basis, and we believe it can continue to compound at attractive returns beyond the next five years. 

 

Summary Return Potential

 

Ameresco’s backlog of existing projects, owned asset pipeline, continued growth of the owned asset pipeline, and modest earnings growth in the company’s services business combine to provide attractive returns over a multi-year period. 

 

By 2023 we estimate that nearly 2/3 of the company’s value will reside in its owned asset portfolio.  As previously mentioned, base case returns approaching 20% appear attractive in relation to the predictability of the business:

 

 

Why Does Opportunity Exist?

 

  • While Ameresco is by no means a micro-cap, the high insider ownership limits the float to approximately $280 million.  There is limited analyst coverage and conference calls are usually brief. 
  • Ameresco doesn’t screen as immediately cheap.  On a P/E, P/B or EV/EBITDA basis, the company doesn’t immediately stand out.  The shares have also tripled from the 2016 lows.  It takes a deeper appreciation of the ongoing business transition (from pure energy efficiency contractor toward owning significant producing assets) and of the meaningful growth in pipeline assets yet to be delivered. 
  • It is easy to take a cursory glance at the business and assume that the company is highly levered to federal energy policy that, in the current climate, may be a poor place to be exposed.  And while Ameresco does have exposure to tax and regulatory policies at the national level, its exposures are more nuanced.  In particular, the company is highly exposed to state policies that, while a risk, appear quite supportive.
  • The accounting at Ameresco, admittedly, is complex.  The cash flow statement looks awful on the surface, and it is easy to take a quick pass on that basis alone.  On top of the accounting peculiarities, given the nature of the services business, earnings from quarter to quarter can be quite lumpy.  There are valid reasons for this complexity and the company has not raised equity capital since its 2010 IPO.  

 

 

Management and Incentives

 

  • Ameresco is led by founder and majority shareholder, George Sakellaris.  Sakellaris is 71 years old and founded the company in 2000.  He immigrated to the United States from Greece to attend college and ultimately built a distinguished career in the energy efficiency management space.  Sakellaris owns 50.4% of the equity, and, by virtue of super-voting B shares, controls 80.4% of the vote. 
  • Sakellaris began his career at New England Electric Corporation (“NEEC”) and in 1979 convinced the utility to launch an energy efficiency consulting business named NEES Energy.  He later pioneered the use of the energy savings performance contract (“ESPC”) model and bought NEES from NEEC in 1990.  Sakellaris renamed the company Noresco and built the company for several years before selling to Equitable Resources in 1997 for $77 million.  Noresco was later bought by United Technologies and remains a competitor today.  In 2000, he founded Ameresco.  The company made a number of acquisitions over the years, including several efficiency subsidiaries of major utilities at, reportedly, attractive prices.  Sakellaris has been instrumental in the development of two of the top energy efficiency firms in the industry.
  • Sakellaris was compensated with a $733,000 base salary and earned total compensation of approximately $1.17 million in 2018.  His equity stake of approximately $336 million at recent prices is 458 times his most recent base salary and 287 times his most recent total compensation.  Sakellaris is well-incentivized to focus on the long-term, per share equity value of the company.
  • We believe Sakellaris would be open to a sale of the business at the right price and, in the absence of a transaction, will continue to take steps to maximize shareholder value.  A few years ago, the company investigated the creation of a yield-co for the company-owned assets when favorable market conditions existed, and he previously sold a business in this very industry.  In an interview shortly after the company’s IPO, Sakellaris told a Forbes reporter that he kept voting control of the company to be able to negotiate the best possible price in case the company is sold. 
  • Sakellaris and the remainder of the team are incentivized on a variety of well-defined metrics versus targets.  Metrics include revenue, EBITDA, new contracts and new awards by business line, SG&A expenses, and growth.  The team is also incentivized on achieving total EBITDA above certain thresholds to an unlimited degree.  The thoroughness and specificity of the targets is laudable, though one might take issue with the significance of EBITDA in a business that is rapidly becoming more dependent on the efficient deployment of capital into owned assets.  Management, nonetheless, appears focused on making rational decisions in the asset business despite the reliance on EBITDA.
  • We utilized Tegus to speak with a former VP at Ameresco, who said the following about Sakellaris: “I guess the first thing I'll say is the CEO was, not only founded the companies, kind of almost founded of the industry. Just conceptually, I believe he was one of the first people to identify this potential with ESPC. And that is a business that he loves and wants to do as much of that as possible. I don't know what his current age is, 72 or 73. And I expect him to, my expectation is he is going to stay in that position for quite a while. He's very healthy, he's very mentally quick. Great with numbers, good financial mind.”

 

 

Business Overview

 

From a high level, Ameresco owns two different business, a services business and an owned assets business. 

 

In the services business, a client, like a university or DoD defense base, will solicit proposals seeking to reduce energy consumption and build redundancy into their energy network.  Ameresco will conduct audits, propose a series of improvements and guarantee certain performance outcomes.  If successful in its bid, Ameresco will implement the solution and, in some cases, provide long-term oversight, repairs and maintenance via the company’s operating and maintenance (“O&M”) business.  The investment in the efficiency project is financed either by the client with the assistance of Ameresco (in the case of non-federal clients) or by Ameresco selling its rights to payments from a federal entity to third parites (in the case of federal clients).

 

In the owned assets business, Ameresco seeks small-scale energy projects in solar and “green gas” (low carbon natural gas) to develop for its own balance sheet.  It must finance a project, design a solution and find a third party offtake customer for the energy production, while assuring itself an appropriate return on its equity.

 

Services Business Details

 

  • The services business has two components: an energy efficiency business and an operating and maintenance (“O&M”) business.
  • Ameresco’s energy efficiency business helps clients overhaul major building systems, including heating, ventilation, cooling and lighting.  Lighting, heating, and cooling represent approximately 50% of the addressable market.  Measures taken include water reclamation, installing LED lighting, smart metering, micro-grid and storage implementations, combined heat and power development, and installation of renewable energy production.
  • Ameresco also operates a business that provides operation and management services (“O&M”) to client projects under multi-year contracts.  These services are often associated with projects the company has completed in its energy efficiency business.  While Ameresco now discloses an O&M backlog, it does not segment these results.  In this report, the O&M business is included within the services business.
  • Competition in the company’s energy efficiency business is material.  The top five or six players represent approximately 50% of the industry, and there is a long-tail of perhaps 100 smaller players.  There are some modest barriers to entry to large ESPC contracts given the qualifications contractors must achieve and the financial investment required to continually bid and quote projects with varying odds of success on a per project basis.  Depending on the year, Ameresco is either the number one or two player in the industry and distinguishes itself from the other large players given its independence from any equipment manufacturer.  On the other hand, those manufacturers have large installed bases that, in certain circumstances, provide an advantage.  At approximately an 8.5% EBITDA margin (and modest D&A), margins are reflective of the competition.  Much to the company’s benefit, Ameresco is seeing the emergence of contracts requiring more integrated solutions that require deeper engineering expertise.  This may lead to further industry concentration and higher margins. 

 

 

 

Source: Internal and Ameresco Investor Presentation

 

  • The market for energy efficiency is more than $7 billion annually and has been growing for several years.  The potential for a long runway seems to exist.  The charts below illustrate some of the historical progression of the industry.  More recently, growth has slowed and industry revenues are likely flat during the last few years, but energy efficiency projects remain one of the cheapest forms of energy production, and Navigant Research sees the market compounding at about 7% through 2024.  In a landmark report in 2009, McKinsey estimated an incremental $50 billion of spending per year for ten years (25% of which would be in Ameresco’s commercial end market) would be required to close the gap on an estimated $1.2 trillion in savings that could be had in the United States from energy efficiency alone.

Source: The Edison Foundation

 

 

 

  • Backlog progress in the services business during the last three and a half years has been promising.  Below is a chart of “fully-contracted backlog” (where the progress is more pronounced) and “awarded backlog” (where the progress is more muted).  Fully contracted backlog has grown at an average of 22% annually since the start of 2016.  Disclosures on backlog duration (12 month versus post 12 month) suggest some extension of the duration of the fully contracted backlog over this period.  Also below is the recently disclosed backlog progress in the company’s O&M business.  While it has shown modest growth year-over-year, the backlog has declined marginally each of the last few quarters.  The company is confident that this is the underlying lumpiness and timing associated with adding to the backlog, as opposed to a worrying trend.

 

  

 

Source: Internal and Ameresco

 

  • Ameresco is optimistic about margin growth as a result of the improving quality of the services backlog.  It appears the market is moving toward, and Ameresco is capturing, more technical, engineering intensive solutions at higher margins.  Here is a selection of recent quotes:

 

 

“Importantly, we are seeing an increase in gross margins embedded in our backlog as lower-margin contracts progress and are replaced with higher-margin contracts. We believe the increasing complexity of both government and institutional projects will continue to lead to not only larger but higher-margin awards.”

 

- 2019 Q2 Conference Call

 

 

 

 “Importantly, our anticipated gross margin on the backlog is about 1 percentage point higher than a year ago driven by large and more complex projects.”

 

- 2019 Q1 Conference Call

 

 

 

  • A 1% increase in margin would raise EBITDA (and EBIT) at the unit level by approximately 12%.

 

 

Owned Assets Business Details

 

  • In the owned asset business, Ameresco is primarily a developer of new projects and it participates in two distinct markets: solar and green gas (mostly landfill natural gas).  A diagram of the relevant competition in each field is below (solar left, green gas right).  In the solar development business there are many small developers beyond these top players.  Competition for projects is generally intense, and the barriers to entry at the local level are minimal.  On the other hand, the company's green gas projects face much less competition, and industry dynamics provide some barriers to entry.  In landfill gas, for example, the company typically works with a landfill which faces significant liability issues from poor project development (puncturing landfill caps for instance).  Given the small incremental economics for the landfill operator and the higher degree of custom engineering on a project (relative to solar), landfills work with a small number of proven firms.  Ameresco is one of those developers and its reputation in the niche is quite strong.  Returns to equity in this business are, as a result, more attractive.

 

 

 

Source: Internal 

 

  • The market in which Ameresco participates through appears set to grow for an extended period of time.  The US Energy Administration sees generation capacity growing meaningfully, particularly for solar over the next several years. 

 

 

 

Source: US Energy Administration

 

  • Owned assets, both operating and in the pipeline, have grown meaningfully, as the charts below suggest.  Pipeline, as used in this report, reflects assets that are either under construction or in development with at least a 90% probability of completion.  Operating assets have risen from 164 MW at the end of 2016 to 250 MW at the end of Q2 2019.  The pipeline during that period has risen almost 3x from 99 MW to 258 MW.  Most of the growth has been from adding solar assets, though several potential additions to the pipeline in the green gas market are being discussed by the company and were again highlighted on the Q2 2019 conference call.  As a percentage of pre-corporate EBITDA, owned asset EBITDA exceeded 50% in 2018.  In 2019 this has continued and may approach 60% for the full year.

 

 

 

“We have a good pipeline of green gas projects, both in our reported assets in development metric as well as the 5 to 6 earlier-stage projects we have spoken about in previous calls.”

 

- Q2 2019 Conference Call

 

  • To an extent, the owned asset business may benefit from the association with Ameresco’s services business.  The strong relationships the company maintains with local municipalities and federal agencies serves them well when contemplating asset development opportunities.  However, there appears to be less overlap between the segments offers than might first be assumed.
  • When Ameresco is developing an asset, the company typically signs a power purchase agreement (“PPA”) with an offtake party.  These deals are typically 20 years with high credit worthy counterparties like local utilities, providing substantial visibility into future revenues
  • The economics of Ameresco’s owned assets have improved as the business has scaled in recent years.The following table, based on various company disclosures, highlights an estimated 2018 ROE in the owned assets business of 10.6%.  This is inclusive of a considerable pipeline of projects under construction, but non-producing at that point in time.

 

  • In addition to the overall estimates above, we analyzed the unit economics of individual projects and find them to be attractive as well.   Work suggests that at current investment levels of approximately $200,000 per MW in solar and $1 million per MW in green gas that the company is earning adequate unit-level economics.  On a levered basis, in solar, returns to equity appear to be around 13% and in green gas returns to equity appear to be in excess of 20% (though as noted elsewhere in this report are subject to incremental price risk).  The returns to Ameresco’s equity in the solar business appear to be superior to other developers in the industry.  Research suggests that Ameresco’s deep relationships with local municipalities and building owners, along with a willingness to invest in incrementally more technical projects, account for the attractive returns. 
  • Ameresco’s debt is, primarily, associated with the company’s owned assets and, in the case of owned assets, is non-recourse (in all but a few immaterial cases).  Leverage, including all operating and development debt, was 3.1x TTM EBITDA in that portion of the business as of Q2 2019.  71% of all Ameresco debt is associated with these projects.  Ameresco also has approximately $83 million of corporate debt as of Q2 2019, which is slightly elevated on account of funding a recent working capital build.  While there is considerable noise quarter to quarter based on working capital, net debt is typically about 1x EBITDA inside the services business.

 

 

 

Taxes and Incentives

 

  • There are three tax and funding regimes that must be considered when evaluating Ameresco: Renewable Identification Numbers (“RINs”) granted to qualifying renewable energy production, Tax Equity Financing (“TEF”), and §179D of the tax code.  A full discussion of each can be found in the Appendix.  The most consequential of these considerations is RINs, which are granted to qualifying producers of various energy sources to incentivize supply.  In particular, the specific credits Ameresco is eligible to receive drive a substantial portion of the economics of the company’s green gas owned assets.  TEF is one of a number of funding mechanisms available to developers of green energy projects that is being sunsetted over the next several years and  §179D is a federal tax incentive that was historically available to Ameresco but has not been renewed.

 

 

Accounting

 

  • Variable interest entities (“VIEs”) are a consideration when studying Ameresco.  At the end of 2018, approximately $123 million of the company’s $460 million owned energy assets were held in VIEs.  These VIEs consist of four investment funds whose structure allows Ameresco to raise third party equity from investors who are seeking particular tax benefits.  These VIEs are consolidated on Ameresco’s financials as it is the primary beneficiary of the VIE. 
  • The accounting for federal ESPC contracts is distracting when examining Ameresco’s cash flow statement.  Ameresco financial statements include “Federal ESPC Receivables” and “Federal ESPC Liabilities.”  Details can be found in the company’s 10-K, but, in effect, expenditures on these contracts flow through operating cash flows while proceeds flow through financing cash flows.  This is because the receivables under these contracts are effectively sold to third-party investors and don’t qualify for sales accounting. 

 

 

Projections, Valuation and Potential Return

 

  • Meaningful upside for Ameresco is dependent on the company growing and delivering on its current pipeline of owned assets during the next five years.  Below is a chart showing the potential growth in EBITDA during the next few years given the pipeline size, mix, and anticipated economics as of year-end 2018 without any further pipeline additions.  On that build-out alone, owned asset EBITDA has the potential to double during the next few years.

  • One must, of course, also consider the potential additions to the pipeline over the next few years.  In H1 2019, for instance, Ameresco added 101 net MW to its portfolio (operating and developing).  At the end of 2018 the portfolio contained 407 MW.  While it will be lumpy, we expect Ameresco will meaningfully add to its portfolio over the next five years:

  • Combining projections of the current backlog plus new additions to the pipeline results in meaningful EBITDA growthIt is quite possible that Ameresco more than triples 2018 EBITDA from owned assets by 2023 with meaningful upside beyond that year from the portfolio pipeline that would exist at that time as shown in the “Potential Bar.”

  • In the services business, assuming modest revenue growth and expansion of pre-corporate margin by 1% during the period, we project the following:

 

  • Combining both sets of projections with modest multiples results in annualized returns approaching 20% compounded from today's share price levels:

 

 

 

Risks

 

While an investment in Ameresco appears attractive, the businesses owned by the company are unlikely to afford one a “lollapalooza-type outcome.”  The company is essentially investing cash flows from a low capital intensity business into long-lived, stable, income-producing power generation assets.  Meaningful surprises to the upside are unlikely.  Additional risks include:

 

  • The departure of Mr. Sakellaris would be a meaningfully negative development.  While 71 years old, he remains heavily involved in the business.
  • Under an ESPC contract, the engineering firm is responsible for guaranteeing a level of energy savings performance.  This historically hasn’t resulted in meaningful losses and projects are designed with a significant margin of safety.
  • Additions to backlog in the services business are lumpy and subject to timing issues.  New contracts and awards in the first half of 2019, for example, were down on average 31%.  The company has reiterated that the second half should compensate for that performance simply because of timing. 
  • RIN D3 pricing is a primary risk.  The chart below shows recent D3 pricing (top blue line) which has declined meaningfully in 2019.  This appears due to the 2019 Renewable Volume Obligations that are in the process of being decided.  For a variety of technical reasons, the volume obligations instituted this year will last for three years.  Some experts we have spoken to believe current pricing is not reflective of underlying supply and demand and that future D3 pricing should improve. It is difficult to tell how much owned asset EBITDA is associated with RIN D3 pricing, as just a portion of the gas portfolio is levered to this particular credit.  Approximately 10%, or 25 MW, is levered to the D3 pricing, but Ameresco does engage in some amount of hedging or forward sales in the business for periods that extend beyond a year.  A reasonable estimate of the owned asset EBITDA contribution from these projects, based on the higher profitability of the projects, might be 35%. 

 

 

Source: Environmental Protection Agency

 

  • The owned asset business is subject to underwriting risk as the company continues to deploy capital into new projects. 
  • The sun-setting of Tax Equity Financing incentives appears to be bringing forward demand.  There is a risk that as these incentives decline, the could face a demand cliff.  Most experts in the industry suggest this isn’t as dire as would be perceived.  In the solar market for instance, panel pricing is on a continual decline which should continue for the next several years.  Further, historically, the burdens and excesses of the industry have been shared throughout the value chain and have not fallen on just one function within the chain (like the developer in Ameresco’s case). 

 

 

Source: UBS

 

  • Federal renewable energy policy is a risk.  Many would describe the current administration’s policies as potentially hostile toward the interest of a renewable energy developer.  Ameresco is levered to tax and incentive policies to varying degrees across its businesses.  It is also subject to energy efficiency priorities at the federal level in its services business.  While in certain respects we take comfort knowing Ameresco is aligned with certain politically sensitive constituents in, for example, the green gas business, these policies can be unpredictable.  We also take comfort in the fact that state renewable energy policies are a bigger driver of outcomes in many circumstances. 
  • State renewable energy policies also present a level of risk.  States mandate renewable portfolio standards (“RPS”) and, currently, 29 states and DC have such standards.  These standards target levels of renewable power generation and push demand for renewable projects, including the small-scale projects in Ameresco’s portfolio.  These standards are reviewed every several years and the renewal patters, at times, change demand. 

 

 

 

Appendix

 

Quotes from Tegus Calls – Services Businesses

 

“I guess the first thing I'll say is the CEO was, not only founded the companies, kind of almost founded of the industry. Just conceptually, I believe he was one of the first people to identify this potential with ESPC. And that is a business that he loves and wants to do as much of that as possible. I don't know what his current age is, 72 or 73. And I expect him to, my expectation is he is going to stay in that position for quite a while. He's very healthy, he's very mentally quick. Great with numbers, good financial mind.”

 

- Former VP Ameresco

 

“… a Johnson Controls is my competitor I'm going to say, "Listen, all those employees over there are driven to make sure that they put in York International equipment, owned by Johnson Controls. Of course, Johnson Controls is known for Johnson Controls control system. So they're surely not going to want to put in a Siemens or a Honeywell, and what we're going to do as Ameresco is we're going to give you the best fit and function of your building whether that be a Siemens system or a Honeywell system or a Train system or a JCI system, and we're going to put in the most energy efficient component for you that we can… So could that be an advantage for a particular client? Yes, it could. Would I find that to be a complete knock out across the space? No, absolutely not. Because most of the time the customer if they've got a 25 year old carrier unit and it's not working and they need air, their guideline is, get the air conditioning The opposite side if you work at Train or if you work at Johnson Controls is, listen, we have the most energy efficient equipment in the industry, our advantage is we engineer it, we manufacture it, we build it, and we have local branch businesses that can support it after the ESPC work is done. When I put in my train control systems again we engineer the control system, we manufacture it, we have people locally that know how to install it, it's our own Train people that do the installation. And by the way we're here for the next 18 years to maintain that control system for you, can Ameresco do that?” 

 

- Former VP and GM Johnson Controls 

 

“So if Johnson Controls already has the existing relationship at the university or at the local government level and it has their products and services in there, the batting average if the customer pursues the project is usually above a 75% close ratio”

 

- Former VP and GM Johnson Controls 

 

“I would say sitting at Train and then also sitting at Johnson Controls they were viewed as a good competitor. If you saw Ameresco being one of the bidders you respected the fact that they were going to look at the project very professionally and that they would put their best foot forward and be a formidable competitor. So it was not like who are these guys? And quite honestly a lot of the people that work at an Ameresco were ex Honeywell or ex Johnson Controls people.”

 

- Former VP and GM Johnson Controls

 

“I think it's a 7 to 9% EBITDA space guys, I don't think it's any more than that.”

 

- Former VP and GM Johnson Controls 

 

Quotes from Tegus Calls - Owned Assets 

 

“Our work is primarily driven by state incentives… each market's unique… And so because we're driven by incentive markets that develop finite capacities for development, we're constantly dealing with a rollercoaster of tracking policy, helping craft policy, to be able to implement the type of projects we want, and typically that's a commercial-scale project on a piece of land, like a farm field, forest, or a very large roof.” 

 

- Former Senior Manager Solar Development at Ameresco

 

“Ameresco has impressive in-house talent. And I've seen that pretty clearly in the other developers I've worked with… Ameresco, they're almost unique in the industry in that they do want to own and operate assets that they develop. While they don't have a large risk appetite to spend cash at risk, they have incredible in-house resources… The difference at Ameresco was that they had such strong depth in engineering, construction management, and legal counsel that they were able to design projects that molded better or fit better to the program, like I've talked a bit about landfills and carports in Massachusetts.” 

 

- Former Senior manager Solar Development at Ameresco

 

“I would be concerned, footnote is the reset rules, right? If EPA comes out very aggressive on the D3 requirement, then I don't think I would be very concerned at all. If the reset rules come out, again this is going to dictate what happens through 2022 and those D3 requirements are set too low, then that's the ultimate risk right there.” 

 

- VP Alternative Fuels Council 

 

“The biggest risk on their renewable side is in the landfill gas, because you can get a lot of variability in about how much gas you're getting just depending on, there's an art and a science to predicting the gas yield out of landfill. But it is a little bit of an art to it. There's also contaminants that you have in landfill gas in some places. There can be a fair amount of variability to that from landfill to landfill.” 

 

- Former Executive VP Ameresco

 

Taxes and Incenives

 

  • Renewable Identification Numbers (“RIN”s) are EPA granted serial numbers attached to qualifying biofuel production units in the United States.  These RINs are freely tradeable and used to incentivize the production of biofuels.  There are several RIN classifications, but for Ameresco the most material RIN is the cellulosic biofuel D3 RIN that attaches to the green gas the company produces in its high BTU landfill natural gas portfolio.  Given the carbon reduction efficiency of high BTU landfill gas, these RINs are the most valuable RIN available, with prices typically several multiples of other RINs like the D6 ethanol credit.  Given the cost of high BTU landfill gas projects, the incentives derived from the pricing of these RINs account for a substantial portion of the economics of such a project.  Each year, the EPA sets Renewable Volume Obligations (“RVOs”) that, when combined with supply dynamics in each of the individual markets that produce RINs, help determine RIN prices.
  • Tax Equity Financing is a funding mechanism that renewable energy companies utilize to develop projects.  The federal tax incentives granted to qualifying projects can be separated from the underlying project and sold to investors.  Such investors are typically tax-paying corporations and other investors.  There are multiple structures that can be utilized, with the most common being the flip structure and the sale leaseback structure.  Ameresco utilizes both vehicles depending on the particular circumstances.  As depicted in the exhibits below, in the flip structure, a third party tax equity investor is entitled to not only project cash flows, but more importantly the vast majority of all tax benefits.  The US is slowly sun-setting these tax credits toward a 10% credit in 2022.  In the past, these credits have been extended prior to sun-setting, but that appears unlikely at this juncture.  There are various project construction hurdles in each step-down year that must be met to qualify for the then-existing incentives.  It would appear that these timelines and construction hurdles may be bringing forward demand.

 

  • §179D of the tax code provides for federal tax deductions on qualify energy efficiency improvements under government contracts.  Under the pertinent codes, Ameresco qualified for these deductions as a contractor on these federal and state projects.  In commercial end-markets, the tax deductions are available to the firm making the investment as an incentive.  For several years, these incentives have been scheduled to expire, but have been extended or retroactively implemented.  It would appear unlikely that these deductions will be available to Ameresco in 2019 or the near future. 

 

 

 

 

 

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

  • The continued conversion of Ameresco’s owned asset pipeline to producing assets that generate durable EBITDA growth.
  • Modest margin growth applied to Ameresco’s growing funded services backlog drives earnings growth in that business.
  • Lapping the anniversary of the major investments in talent and people across the business in 2019.  Ameresco made a well noted investment in people and talent as it moved into 2019.  These investments, combined with a higher tax rate in 2019 as the §179D tax incentives expire are pressuring reported earnings growth this year.  As Ameresco enters 2020, these headwinds will abate.
  • A potential sale of the business is possible.  Mr. Sakellaris is 71 years old and has built and sold a business earlier in his career.  While the return to Ameresco shareholders is not dependent on a takeout, such a development would not be a surprise and would not be unwelcomed.
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    Description

     

    Summary

     

    Ameresco is a well-managed, owner-operated business that is likely to grow significantly over the next five years.  Ameresco is what is commonly referred to as an “ESCO” (energy service company), founded in 2000 by the current CEO George Sakellaris.  Sakellaris is a key piece of the thesis - he is a pioneer in the industry, owns 50.4% of the company, never sells shares and has added to his stake in the business numerous times. 

     

    At a high level, Ameresco can be broken down into two main segments: services and owned assets.  Please note that in this report, we use adjusted numbers to estimate the financials of each segment, though the company reports in a different manner – we are happy to go into that detail in the Q&A.  A concerted effort to expand the company’s ownership of small-scale, renewable energy assets during the last five years has resulted in this business becoming a material proportion of the total value of the company. 

     

    We expect the company to triple EBITDA from company-owned assets during the next five years.  Combined with a modestly growing services business, an equity owner ought to be able to achieve returns approaching 20% compounded during the period.  Given the substantial visibility in the services business from the company’s growing, higher-margin backlog and the long-term contracted nature of the owned assets, the return offered by Ameresco is particularly attractive on a risk-adjusted basis, and we believe it can continue to compound at attractive returns beyond the next five years. 

     

    Summary Return Potential

     

    Ameresco’s backlog of existing projects, owned asset pipeline, continued growth of the owned asset pipeline, and modest earnings growth in the company’s services business combine to provide attractive returns over a multi-year period. 

     

    By 2023 we estimate that nearly 2/3 of the company’s value will reside in its owned asset portfolio.  As previously mentioned, base case returns approaching 20% appear attractive in relation to the predictability of the business:

     

     

    Why Does Opportunity Exist?

     

     

     

    Management and Incentives

     

     

     

    Business Overview

     

    From a high level, Ameresco owns two different business, a services business and an owned assets business. 

     

    In the services business, a client, like a university or DoD defense base, will solicit proposals seeking to reduce energy consumption and build redundancy into their energy network.  Ameresco will conduct audits, propose a series of improvements and guarantee certain performance outcomes.  If successful in its bid, Ameresco will implement the solution and, in some cases, provide long-term oversight, repairs and maintenance via the company’s operating and maintenance (“O&M”) business.  The investment in the efficiency project is financed either by the client with the assistance of Ameresco (in the case of non-federal clients) or by Ameresco selling its rights to payments from a federal entity to third parites (in the case of federal clients).

     

    In the owned assets business, Ameresco seeks small-scale energy projects in solar and “green gas” (low carbon natural gas) to develop for its own balance sheet.  It must finance a project, design a solution and find a third party offtake customer for the energy production, while assuring itself an appropriate return on its equity.

     

    Services Business Details

     

     

     

     

    Source: Internal and Ameresco Investor Presentation

     

    Source: The Edison Foundation

     

     

     

     

      

     

    Source: Internal and Ameresco

     

     

     

    “Importantly, we are seeing an increase in gross margins embedded in our backlog as lower-margin contracts progress and are replaced with higher-margin contracts. We believe the increasing complexity of both government and institutional projects will continue to lead to not only larger but higher-margin awards.”

     

    - 2019 Q2 Conference Call

     

     

     

     “Importantly, our anticipated gross margin on the backlog is about 1 percentage point higher than a year ago driven by large and more complex projects.”

     

    - 2019 Q1 Conference Call

     

     

     

     

     

    Owned Assets Business Details