Greg Reid: Geothermal, the 'Sleeping Giant'

With the U.S. stimulus package in place and the politically contentious cap-and-trade program looming, one sector is poised to benefit from both measures. Calling it the "Rodney Dangerfield" of renewable energies, Greg Reid, director of Clean Technology at Wellington West Capital Markets, says geothermal doesn't get a lot of respect right now—but that's about to change. In this exclusive interview with The Energy Report, Greg discusses how the political push, and monetary allocation, for clean energy are aligning the political and social stars over geothermal.

The Energy Report: Greg, in one of your articles, you call geothermal the "sleeping giant" of renewable energy. What makes geothermal so interesting to you?

Greg Reid: I think the political and social stars are starting to align here. One of the key things is political will. You now have the governments that are pushing renewable energy. There was a lot of concern that as the economy went in the tank over the last year or so that the political will to continue to push forward on green energy initiatives would disappear.

But, given what’s happened in the U.S. with the stimulus package and the money that’s been pushed towards green energy, which includes geothermal, and given the recent draft bill put forward in the U.S. related to things like a national renewable portfolio standard and carbon credits, the U.S. government is really taking the initiative here. If you look globally, you have the successor to the Kyoto Protocol; with meetings coming up later this year in Copenhagen. Globally it now seems that being green has gone mainstream. So on the political end, the social side, it seems like things have lined up favorably for geothermal and for green energy.

TER: But geothermal currently is such a small part of the overall energy grid, whereas other renewables are higher. How would this play out over the next couple of years? Continue to be a smaller piece of the pie in a growing marketplace or will it take over from the other alternatives?

GR: I call it the "Rodney Dangerfield" of renewable energies. It doesn’t get a lot of respect right now and I think a lot of it is both education of the political leadership and the education of investors so they realize that this is a very good green resource. If you look at it in terms of the timeline that geothermal property can run for, you’re talking decades. So this is a very valuable resource in the ground; and there is a lot of it. I think the overall green market will grow, but geothermal will grow at least in line with the overall market rate.

TER: One of the downsides of geothermal is the cost of the initial drilling and building of the plants. Is there opportunity for geothermal companies who don’t already have production?

GR: Yes. The biggest challenge for the smaller developers is the lack of access to credit today and having to have a better balance sheet to get these projects going, but we’re hopeful that we’re through the worst of it and things will start to get better. If you look at some of the initiatives in the U.S.—part of the stimulus package, for example—some of these developers will be able to take advantage of getting cash grants up front in lieu of tax credits, which should kick start some of the projects.

TER: When we look at the geothermal market place, most of the interesting plays are companies who are very close to production or already producing. What is the opportunity for smaller or exploratory companies?

GR: The opportunity in this market is tough right now. The reality is, it’s very difficult to raise money to just go out for the drilling phase. It’s even tough for the guys that are later in the development phase that are ready to build. But, like we said, we believe that because of things like the stimulus package in the U.S. and the fact that I believe we’re through the worst of all the negative things in the economy, that things will slowly start to get better. That should make it somewhat easier to raise some money.

TER: If we start putting carbon credits and trading credits in, it appears that that’s going to make certain types of energy like coal and oil more expensive. And the United States is a big coal-eating machine. So will cap and trade make coal more expensive? Will the politicians acquiesce as they look at people who can’t heat their homes in the middle of winter?

GR: Yes, that’s the million-dollar question. It may be one of the most highly contentious issues that we’ll hear about this year on the political side. Obviously, you’ve got the government saying in the U.S. that they want to push cap-and-trade forward and maybe the concessions that they make to get it passed will be like what happened in Europe where a number of the allowances are given away as opposed to being auctioned off. So they’re given away to particular industries. Maybe they’re coal players, maybe they’re a steel manufacturer.

There seems to be political will, both in the U.S. and around the world, to get something like a cap-and-trade program established. The devil will be in the details.

One notable misconception is that a lot of people think that geothermal is a more expensive form of energy, but the reality is it’s more expensive than some other things up front, but when you look at it over the life of the plant, the operating costs are low and there’s no fuel price risk, so it’s actually at least as cost competitive or better than a lot of other energy sources. On that front, one of the major banks in the U.S. recently put out a report looking at the levelized cost of various energy sources and they said even with the existing incentive schemes in the U.S. with production tax credits and no carbon taxes, geothermal was the lowest cost of all energy sources—even better than coal and gas. Add in a carbon penalty and geothermal will look even better.

TER:If that’s true, why don’t we see more geothermal production facilities in transmission?

GR: I think it’s just a matter of time that you’ll start to see more and more. The reality is if you look at the industry today, there’s not a lot of public companies in North America. I think there are six or seven. Australia has a number of players, but they’re all small companies with maybe on average $5 million in cash and sub $50 million market caps. The bulk of geothermal out there today is within divisions of large companies like Chevron or divisions of national energy companies. Because of the incentives, and as people get more educated on geothermal, and especially if we get into an environment where we have carbon being taxed through a cap and trade program, then I think geothermal will start to move up the list in terms of people’s interest level.

TER: To what extent does the success of geothermal require cap and trade to be implemented? Could it be successful if that doesn’t pass?

GR: Yes. I think if it doesn’t pass, it still will be a successful and growing source of energy. Many experts believe that oil prices will rise again as the economy starts to improve. The numbers that I’ve seen, talking to various companies, was even at $40 to $45 a barrel of oil pricing, geothermal still makes sense. So cap and trade would be kind of icing on the cake to push people to geothermal and other sources even more.

TER:Will it continue to require some type of government subsidy?

GR: I think that will be one of the drivers of the industry. Besides the economics, there's timing. From when you first do surface exploration to when you actually have a plant up and running can take anywhere from four to six years. In some cases, people might be more interested in funding a wind project or solar project, which is up and running within a couple of years.

TER:What are some of the ways that individual investors can play the geothermal market?

GR:I think if you look at the Canadian-North American markets, you have your smaller players like a Polaris Geothermal Inc., Sierra Geothermal Power Corp., Western GeoPower Corp., US Geothermal Inc. (HTM), and Nevada Geothermal Power Inc. (NGLPF.OB), and those are the smaller developing stories. Some of them have small amounts of power production today and then have other projects that, in Nevada Geothermal’s case, they’ve got 40 megawatts that will come on at the end of this year. So they’re going from development company to operating company.
Then, if you’re looking for a more liquid name, an industry bellwether, that would be a company like Ormat. The company gets about 75% of its revenues from operating geothermal plants with 20- to 25-year power purchase agreements. The other 25% of their business comes from supplying equipment to the geothermal industry. All of the other development companies, in many cases, would use technology from Ormat Technologies Inc. (ORA).

If you look at other countries, you’ve got a number of companies in Australia as well, companies like Geodynamics Ltd., which I think has roughly $100 million in cash and Tata Power, which is an India power company, owns a stake in them. Then you have a number of other companies like Green Rock Energy Ltd., Hot Rock, Panax Geothermal, etc. A lot of them are in the development stage and will still need to raise significant capital to get some of these projects over the goal line. But, on the other hand, they also have energy companies that have been taking ownership positions and have been helping them get things funded.

TER:Are the ones in Australia a similar size to Polaris and Western?

GR: It’s interesting. Most of the names I mentioned are North American plays and then you have Polaris, which has around 340 megawatts or so of potential development in Nicaragua. You also have companies like Magma Energy. Two hundred megawatts is their P90 estimate and they’ve got numerous properties in Chile and Peru and North and South America.

If you look at what’s going on in Chile right now, there’s bidding for geothermal concessions in the north. I think there are seven or eight parties/consortiums that are in the bidding process. There’s not been any development that’s happened in a significant way yet in Chile, but you’ve got all these companies that are coming in to bid and eventually develop there.

And then there's between 25 and 30,000 megawatts of potential in Indonesia and you’ve got government-owned companies that have done most of the development to date. I think you’re going to see a number of international companies come in to help develop there as well.

If you look at some of the resource potential in areas like Australia and Chile and Indonesia, you’re talking a potential of tens of thousands of megawatts. In terms of resource opportunities, there’s a lot of geothermal potential out there. We’re just scratching the surface today.

TER: Well, this sounds like with all the research opportunity out there, something like Ormat would be fabulous potential for growth because they have the most experience in terms of helping to develop the facilities.

GR: Yes, they definitely do and since they’re developing and selling equipment to a lot of developers out there, they obviously get pretty good insight into what areas of the world to be in. From an investor point of view, in a market like we have, people might be more focused on owning some of the bigger names with more liquidity, so Ormat would be the "go to" name.

TER:You have three stocks that you’re currently rating as a buy. Can you talk about them?

GR: Let’s start with Polaris. We’ve got a C$1.10 target price on them. The thesis on Polaris is they operate in Nicaragua. There’s electricity shortages there. There’s been favorable government policies towards private power operators in Nicaragua and specifically for geothermal and we think they have a great resource there, which, when you put it all together, we think the economics of the projects look good. The biggest challenge the company has had is raising capital to get these projects operating.

Currently they operate about a 10 megawatt facility, which has been operational since 2005 and that has gone well. The next phase was another 24 megawatt expansion, which they’re close to getting all the financing lined up, so that could be operational within a couple of years. Overall we think they have roughly 340 megawatts of power potential from Nicaragua where they are today.

One of the interesting things about Polaris is the mixture of water and steam that comes out of the ground there is so hot that after it goes through the plant and gets converted to electricity and then goes back to get reinjected into the ground, I believe it’s still getting reinjected into the ground at 170° C. So that is hot enough to be able to run it through a binary plant again to create more power. We think the 340 megawatts could increase by up to 20% at a very low incremental capital cost.

So just by running the reinjection fluid before it goes back into the ground, they’ll run it through another binary plant and generate an additional 20%. So you could be talking more than 400 megawatts of potential out of Nicaragua. They are also involved in bidding in Chile as well, so for people that have concern about political risk in Nicaragua, they are attempting to diversify and are involved in bidding in Chile. They haven’t named the company, but I believe they’re either in partnership or in discussions with a much larger renewable energy company to help them finance and fund that opportunity there.

TER: As far as the financing for this expansion in Nicaragua, aren’t they pretty close to getting money from various international developmental companies?

GR: Yes. They just announced, actually, within the last couple of weeks, that there’s a Central American development bank that has lined up $77 million U.S. in debt financing, so I think they’ve got all the major syndicate partners lined up or very close and the expectation is that they’ll be able to access that debt within the next couple of months.

As part of that announcement, they also announced that they will be raising equity. Traditionally geothermal is typically 20% to 30% equity and then 70% to 80% debt financed, so expect that you’ll see both debt and equity financing here in the near term on Polaris.

The topic that always comes up with Polaris is the political risk in Nicaragua. The interesting thing is if you go back and look over the last 10 years, Nicaragua has privatized its energy sector and there’s been favorable laws that have come in and favorable incentives in terms of power tariffs and tax holidays for the geothermal industry. All the signals are there that the government is being friendly to international development and specifically in the power sector as well.

The next company I'll discuss is Nevada Geothermal. We’ve got a C55 cent target. We’ve launched in the last month and the stock’s had a nice little move.

We apply some probabilities to the NAV based on what stage the projects are at in development. We might have anywhere from 50 cents to a dollar target on a lot of these stocks, but we believe the true NAV of these stocks are $4, $5-plus. Over time the discount rates will come down and your risking on projects will get better as the projects move forward on development. Net, net on Nevada Geothermal, it's a company that has over 200 megawatts of development all in the western U.S., so the political risk is very low. Their first facility will come on at Blue Mountain, expected to be on-line in the fourth quarter of this year and that’s roughly a 40 megawatt net facility.

Then I think you’ll have a story where a lot of people look at it and say, well, this is one of the first developers, one of the pure play publicly traded companies of the smaller guys that’s taken a project right to operation and they’ve now got a meaningful business on the operating side as opposed to just being the development side. So maybe you get a bit of an upwards rerating on the stock from that point of view.

It is also interesting to note about many of these projects, that when you look at resource risk, several of these projects have had exploration drilling on them back in the late '60s, '70s and '80s. We’re talking millions of dollars of exploration, many wells drilled. So people have a sense of what the temperatures might already be down at 4,000 or 5,000 feet, 6,000 feet as well as if there is actually a reservoir down there. So the resource risk, once you dig into it, might not be as high as person might initially think.

That relates to the third company I want to talk about, U.S. Geothermal. Their site at Raft River used to be the site of a Department of Energy demonstration plant, I think, back in the '70s. Something like $40 million was put into drilling and building the plant by the U.S. Department of Energy. So they’ve taken over that property. They did acquire a small facility as well last year in Nevada (San Emdio). If you look at it today, they’re operating ~ 16 megawatts. Their pipeline is over 200 megawatts of potential as well, so they are on their way to developing and becoming one of these other successful developers as well. Like Nevada Geothermal, U.S. Geothermal, and Polaris, all these companies trade somewhere between .2 to .4 times price to NAV. We think if they’re successful in raising capital and getting projects towards the goal line than you could see rerating on the stocks closer to their net asset value.

TER:What’s the target on this one?

GR:C$2.50.

TER:This has been great, Greg. Sounds like there’s some real opportunities here.

Greg Reid, CFA, is director of Technology & Clean Technology Research at Wellington West Capital Markets Inc. The company provides financial advisory and equity research services, including underwriting, institutional sales and trading, investment opinions and equity transactions services. WWCM caters to mining, technology, and energy sectors. Prior to Wellington West, Mr. Reid worked in Equity research with TD Securities, Raymond James and Versant and was Portfolio manager with New Brunswick pension fund manager NBIM.

Comments

[Tate Dwinnell:]

Surpised Raser Technologies (RZ) wasn't mentioned here. Their 10MW Hatch plant is now up and running and delivering power to Anaheim with studies indicating 230MW of potential their. I'm currently covering all green stocks at greenstockscentral.com

Apr 19 11:03 AM

[TinyTim:]

Interesting article. Seems like geothermal avoids the major disadvantage of wind & solar (unpredictable & periodic).

I suspect there is something missing from this analysis because it sounds too good. Geothermal must be too localized. Ring of Fire?

Other than places like Yellowstone, is geothermal readily available, just a matter of how deep to drill? Or does the location need to have abundant underground water in proximity to the heat? Is this drilling technology significantly different than oil? Steam plants for electricity have been around for years, nothing new there.

So there's no carbon dioxide; for all intents, it's renewable (the molten core must contain enough energy for a while). This is a physically different energy source than solar (wind/photo/hydro), gravity (tidal), carbon/petro, nuclear (fission/fusion). So what's missing? Cost per megawatt? (compared to a nuke). Could one be drilled in Ohio for example?

"One notable misconception is that a lot of people think that geothermal is a more expensive form of energy, but the reality is it’s more expensive than some other things up front, but when you look at it over the life of the plant, the operating costs are low and there’s no fuel price risk, so it’s actually at least as cost competitive or better than a lot of other energy sources."

Where have I heard this before? Oh yeah, nuclear electricity will be too cheap to bother metering (circa 1965).

Apr 19 06:49 PM

[Steve Ward:]

Geo thermal also produces earthquakes once the original water resevoir is used up and water injection has to be done. California may care less about these 2.5 to 3.5 seismic shocks but how will the rest of the country feel?

Apr 19 06:57 PM

[Mayascribe:]

Suprised there was no mention of a geothermal utility plant in California, Calpine (CPN), that already supplies over a million people with green power. The stock is up about 40% over the last few weeks.

Apr 19 08:09 PM

[Road Runner:]

There are 2 basic types of geothermal: 1) wet type where water is already present in the vicinity of volcanic activity, 2) dry type where water has to be injected.

The wet type, as you might guess, is in limited locations around the world like the "ring of fire", Yellowstone, Hawaii, Iceland, etc. Geothermal use in these areas is a well established. 60% of the electricity used in Northern California (Golden Gate Bridge to Oregon border) is generated via geothermal. We should all be so lucky.

The dry type is the new and interesting form of geothermal. It is available in MOST of the US. It is called “hot fractured rock” (HFR) technology. Very deep holes (about 25 thousand feet) are drilled. Water is injected, and very hot water or steam is recovered. There is a large up front cost for drilling holes. Also, it must be done where there is a large supply of surface water, which is not a problem in the Midwest and east coast. Geodynamics and Ormat are 2 companies pursuing this technology. For me, its too unproven to invest in.

Apr 19 09:50 PM

[StateofConf...:]

I lived in So Cal for 15 years and you don't even feel a 3.0 earthquake so I wouldn't worry about that. I'm surprised they didn't mention Raser (RZ). They have developed systems that will run at lower temperatures.
4/16: Raser Technologies, Inc. (NYSE:RZ - News), a leader in energy technologies, announced that the Hatch Geothermal Power Plant, Beaver County, UT, began delivering clean, renewable electricity to the City of Anaheim, California today.

Apr 19 09:54 PM

[Road Runner:]

Also, don't be fooled by the misuse and abuse of the word "geothermal". It has a certain futuristic "cache" that businesses love to latch onto.

My dad told be recently that one of the schools in town was upgrading to a "geothermal" heating and cooling system. That was the way it was advertised in the local press. Upon, further research I determined that it was nothing more than a heat pump with pipes buried in the ground. This is a good idea since ground temperature in northern Illinois stays at about 55 degrees F all year round. However, this is not geothermal.

Apr 19 10:05 PM

[cfo4nova:]

Thank you for the updated information. I am hoping to cash in on the rise of the industry. They are scheduled to be online in twelve months (4/2010). They have reached imortant milestones in the development of the resource. In particular, they have a 20 year, $500,000 contract signed with Pacific Gas & Electric based on fixed $/Mw. They have their contracts signed with NCPA (Northern California Power Association.) Their steam turbine is under construction and is slated for delivery in August. They have over half the needed steam (19+MW) behind pipe with three holes left to finish drilling.
Additioonally, they are slated to have thier second plant also under construction in Canada operational in 2011
See westerngeopower.com for exact information. They have a periodic newsletter you may sign up for free. They are trading on the pink sheets WGPWF at $0.20-.024 under increasing volume.
Long: WGPWF

Apr 20 12:44 AM

[winemanjmr:]

Oh, you nacent technology wimps.

Almost none of you even know what you are talking about. I have worked in the geothermal industry for 30 years, including with B.C. McCabe and Joe Aidlin, the original investors in the Geysers. Which, BTY, was overdeveloped to the tune of 2000 mw, while today it is less than 900 mw, and over $500 million in capital was spent and never recovered from the heyday of the 1980s (see CCPA 1 and 2, CA Deprtment of Water Resources Bottlerock and South Geysers power plants, Unit 15, Unit 21, etc,).

The geothermal industry is in a giant bubble right now, with many people claiming to be able to do amazing things that they cannot do.

Unfortunately, the industry is resouce limited. It looks very economic on paper, but the problem rests in finding resources which are economic to develop. Most of the resouces currently under development are marginal in their temperature and extent. The ones which are being developed are small and depletable. Just for example, are you even aware that Western Geopower is buidling their Geysers plant on a lease that attempted to support a 55 mw unit (15) in the 1980's, and such unit was shut down, torn down and the site remediated and all wells abandoned due to technical problems such as acidic steam, unstable rock formations, and horrendous decline rates?
Yes, the politcally correct view of geothermal is that it is "sustainable" and "renewable". Do your due diligence, and you will find that all geothermal projects suffer from either flow rate or temperature decline--try Geysers, Coso, Heber, Italy, etc (check the DOGGR web site for production data for all of California's existing fields, or the news headlines for Coso's water grab). None of it ecapes the first or second laws of thermodynamics. And HDR or EGS or whatever the farce you want to call it is in front of this parade. The DOE even distanced itself from the EGS reserach with a report on the unproven assumptions required to allow it to work.

U S Geothermal and Ormat are the most viable candidates of the ones mentioned. The rest--buyer beware.

OBTY--geothermal heat pumps ARE geothermal in nature--although their application is site specific--but truly renewable!

Apr 20 02:31 AM

[bpickard:]

Another aspect of 'geothermal' is available for residential construction today, and delivers a better ROI than any large plant. Systems that make use of the differential between the ground temperature and ambient temperature exist now, are proven, are reasonable in cost to build, have a positive ROI, and a cash-pay-back of much less than 5 years over a conventional heating system. In areas across the northern latitudes where differences in temperatures are higher (on average) these systems can make the difference in the avoidance of the construction of new power plants.

Apr 23 03:57 PM

[Chris B:]

"One notable misconception is that a lot of people think that geothermal is a more expensive form of energy, but the reality is it’s more expensive than some other things up front, but when you look at it over the life of the plant, the operating costs are low and there’s no fuel price risk, so it’s actually at least as cost competitive or better than a lot of other energy sources. On that front, one of the major banks in the U.S. recently put out a report looking at the levelized cost of various energy sources and they said even with the existing incentive schemes in the U.S. with production tax credits and no carbon taxes, geothermal was the lowest cost of all energy sources—even better than coal and gas."
----------------------...

This quote gets to the essence of it. Geothermal is expensive to build, but once built you don't have to buy a bunch of expensive fossil fuels for the next 50 years to run it. How much do you think those daily train loads of coal cost to purchase - each?

It's sort of an investor's dilemma: pay high upfront costs to yield higher returns over time, or pay low upfront costs and high daily costs to achieve a low return. Most conventional energy investments tend towards the later - especially since rising fossil fuel prices can generally be passed on to customers rather than crimping margins.

However, if a large base of wind/solar/geothermal energy is installed, it will become harder for the fossil fuel generators to pass on the risings costs of their fuels. That's when things get interesting.

May 05 11:52 AM

[Chris B:]

bpickard,

You're right. That's one reason I own LSB Industries (LXU). While everyone's attention is on centralized energy harvesting from large geothermal installations, the biggest economic gains are available from heating and cooling structures using the dirt around them instead of expensive gas and electricity.

The downside is that most home buyers are more still concerned about paint colors than how many tens of thousands of dollars they will spend heating and cooling the place. That's why code-minimum HVAC units and insulation prevail in new construction.

I'm betting that ignorance will change. If not, there's always LSB's chemical and fertilizer businesses to fall back on, plus their solid balance sheet and cash flow.


On Apr 23 03:57 PM bpickard wrote:

> Another aspect of 'geothermal' is available for residential construction
> today, and delivers a better ROI than any large plant. Systems that
> make use of the differential between the ground temperature and ambient
> temperature exist now, are proven, are reasonable in cost to build,
> have a positive ROI, and a cash-pay-back of much less than 5 years
> over a conventional heating system. In areas across the northern
> latitudes where differences in temperatures are higher (on average)
> these systems can make the difference in the avoidance of the construction
> of new power plants.

May 05 11:59 AM

[wind4me:]

whats your take on Nevada Geothermal with the 49MW plant scheduled to open Dec 2009???


On Apr 19 11:03 AM Tate Dwinnell wrote:

> Surpised Raser Technologies (seekingalpha.com/symbo...) wasn't
> mentioned here. Their 10MW Hatch plant is now up and running and
> delivering power to Anaheim with studies indicating 230MW of potential
> their. I'm currently covering all green stocks at greenstockscentral.com

May 25 11:18 AM

[wind4me:]

Nevada Geothermal today announced 49MW Blue Moutain plant will open early by 3 months

Jun 01 05:30 PM

[wind4me:]

looks like Nevada Geothermal and US Geothermal would have been great buys at .40 and .88

June 2nd, NGLPF .63 and HTM up to whopping $1.75

Jun 02 08:08 PM

[remicksmind:]

Great cite. I learned alot.

Jun 07 12:11 PM

[remicksmind:]

Great site. I will tune in more
often now that I know about it.

Jun 07 12:12 PM