By Veronica Zhang
Deputy Portfolio Manager, Environmental Sustainability
After a volatile end to 2022, a few themes stand out to us for 2023:
- Onshoring or “nearshoring” and the Inflation Reduction Act (IRA)-fueled manufacturing buildout.
- The transition for green metals miners into the asset production phase.
- Strength in solar installations, particularly in Europe and commercial scale in the U.S.
The IRA seems to be the most headline-positive piece of legislation out there in terms of addressing renewable and EV (electric vehicle) buildout but is also perhaps the most confusing in terms of actual detail. Nearly half a year following its passage, we have seen the act drum up significant interest among manufacturers worldwide, seeking to capitalize on the attractive, lengthy subsidies offered for building out renewables supply chains on U.S. ground. However, details related to the qualification of specific technologies are still up in the air, with further clarification needed before manufacturers break ground. We are cautious of a “mad rush” of upstream renewables manufacturing in the U.S. which may result in an oversupply in the medium term and erode any benefit the IRA may provide toward project returns. We are, therefore, watching the development carefully. SolarEdge Technologies remains a favored name, as it had shifted supply chains well before the IRA (from China to Mexico) and remains focused on capital-light investments and improving margins with a diversified sales base. Domestic manufacturing may be a consideration in the medium term, but with an eye solely on return on investment.
The security of supply and the trend toward onshoring have driven the need for green metals miners to operate assets and processing facilities outside of China. As a result, we believe there is a first-mover advantage concerning permitting bottlenecks that will result in a tremendous backlog of projects applying for commercial operating dates now.
This phase should take 12 to 18 months, after which the construction of industrial-size plants will begin. We think the next few years for the sector will be critical, with potentially significant upside once we enter the extraction and processing phase for battery-grade materials. Alkem Ltd is well on its way to becoming a vertically integrated lithium producer. With mines in Australia, Argentina, and Canada, it is expected to deliver significant volume growth over the next two to three years with hydroxide (processing) plants producing battery-grade product for OEMs. MP Materials, the only U.S.-based rare earth producer, continues to deliver on its mission to produce rare earth magnets for the U.S. market. After the successful completion of stage 1 (mining of rare earths), and the ramp-up of stage 2 (separation of light and heavy rare earth elements) it is now approaching stage 3, in which it will produce magnets.
We have been involved in solar for quite some time and the past few years, have largely strayed away from utility-scale solar (in favor of residential solar) due to permitting bottlenecks and low returns. However, the sector is getting a boost given pent-up demand from a challenged supply chain that was recently alleviated; projects in the queue since COVID have been approved such that the capacity of green-lit projects with interconnection approvals from grid operators exceeds the industry demand forecast for utility solar for 2023 and 2024. We are navigating a tricky period with rates having steadied, but still well above levels seen the past few years and, as such, prefer to invest in the upstream players where raw material inflation can be passed through to project developers, the cash conversion cycle is quicker and inflation-plus pricing gains can be achieved given the supply/demand crunch in certain verticals. We like Stem Inc. as it is capitalizing on the software piece to drive operational efficiency in utility- and commercial-scale battery-attached projects, as well as Array Technologies, a leader in solar tracking systems, which maximizes solar systems’ electricity production by moving panels to follow the sun throughout the day and optimizing solar radiation.
* The Environmental Sustainability Fund (ENVAX) has holdings in SolarEdge Technologies (3.9% of Fund assets), Alkem Ltd (1.7%), MP Materials (0.7%), Stem Inc. (2.3%), and Array Technologies (1.9%).
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Originally published 10 February 2023.
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