Polaris Infrastructure(OTCPK:RAMPF) is a Canada-based company operating and developing renewable energy projects in Latin America.
Currently, the company operates renewable energy assets in Nicaragua and Peru. Due to the turmoil in Nicaragua, the shares lost close to half their value in 2018 and whilst there are still significant risks regarding the political situation, I believe Polaris Infrastructure is an interesting opportunity for an investor willing to be patient whilst collecting a 5.8% dividend.
Geothermal and hydroelectric energy assets, although requiring large investment initially, once fully operational they are cost-effective to operate and are superior to other renewable assets. While I am bullish on the renewable energy sector as a whole, solar and wind energy sources depend much more on the climatic factors in comparison.
The company’s main asset is the San Jacinto geothermal power plant in Nicaragua. It’s a wonderful asset that can produce energy at much lower costs than the competing oil-based production and has a dollar-denominated government contract with built-in escalators running until 2029. Polaris has managed to improve production at their flagship asset, with total generation increasing from an average of 56 MW(net) in 2017 to an average of 62 MW(net) in 2018. That was helped by the completion of a new production well, currently flowing at a rate of approximately 8-10MW.
The results for the three months ended in March were encouraging, resulting in revenue of 18.6 million USD, a 27% increase in revenue compared to the first three months last year. That came as a direct result of higher average power production and the 3% annual tariff increase under the power purchase agreement(NYSEARCA:PPA) in place. It’s also worth mentioning that the company is exempt from taxes in Nicaragua for 10 years. On a yearly basis, Adjusted EBITDA grew 15% in 2018.
Polaris’s balance sheet currently carries net long-term debt of $169 million and $33 million in cash at the end of the latest quarter. The debt is manageable at below 3 times last year’s EBITDA. The dividend currently yields 5.8% and although as an income investor I would normally be hesitant of investing in a company paying out 80% of its earnings, the latest dividends paid out were only 37% of free cash flow
The dividend was last raised in Q4 2017 which is slightly disappointing for income investors, but with the earnings growth in Q1 2019 and further projects coming online, I expect that to change in the future.
Normally such a company growing at double-digit numbers would trade in high multiples. I believe if they operated in a stable jurisdiction that would be just the case, but even with the current political problems, Polaris Infrastructure trading at around 11 times earnings and 0.8 P/B seems to indicate market overreaction to the political risks.
The company still has more opportunities to optimize the San Jacinto Project, but they expect lower capital investment there in 2019, focusing the investments on the diversification efforts in Peru instead.
Polaris Infrastructure completed the acquisition of Union Energy Group (UEG) in 2018. With this deal, they got a portfolio of hydro assets in Peru, out of which only the Canchayllo Project producing 5 MW is currently operational. Canchayllo asset has a long-term dollar-denominated power purchase agreement (PPA) in place until 2034
However, the company expects the completion of another 2 projects from the UEG acquisition in Q4 this year. Those projects in El Carmen and 8 de Agosto will add a total of 28 MW of power production to the company’s portfolio and have a dollar-denominated deal in place until 2039 with starting prices of $55.9 and $53.9 per MWh respectively. El Carmen is expected to produce 40,000 MWh per year and 8 de Agosto around 130,000MWh. The 2 new assets have the potential to boost EBITDA by between $7 to $9 million which would be a minimum of 12% increase to earnings even without growth from San Jacinta.
The UEG acquisition also came with numerous early-stage development projects with the company planning for additional power generating capacity of 209 MW in 3+ years. The projects have been approved, but as of yet, there haven't been any updates regarding the start of construction. Out of these assets, Karpa project of 20MW has a PPA in place. When I reached out to investor relations they confirmed that their focus is currently on the 2 projects coming online this year and “have not to this point progressed any of the other projects in the portfolio.”
It’s great that the company is diversifying its power production assets to another jurisdiction. Peru is much more stable than Nicaragua and it's one of the fastest growing economies in Latin America. The big question moving forward is how quickly and efficiently can they tap into the other 209MW worth of early-stage projects that came with the UEG acquisition. The company presentation laid out the following plan as seen on the image below:
I can understand investors fears when it comes to Polaris Infrastructure. It’s a micro-cap stock, with the largest asset located in a very unstable country. Even with the assets coming online later this year, that asset still amounts to over 70% of total MW generation.
The situation in Nicaragua understandably has had a big impact on the share price. The violent protests in the country against President Ortega who returned to power in 2007 have resulted in hundreds of people killed and even more imprisoned as government forces crushed the protests. 80.000 Nicaraguans have fled into exile and the GDP contracted by 4% last year. Ortega’s first period in office was also characterized by a controversial nationalization program, a similar scenario unfolding now would be extremely negative to investors. However, I think that this is very unlikely to happen now, as the government would effectively cut off any future foreign investment that it desperately needs and harm their relationship with the World Bank which is one of the lenders to Polaris Infrastructure.
The company has a contract in place which is denominated in dollars so they shouldn’t be affected even if the Nicaraguan economy runs into more trouble and they decide to devalue the currency.
It's also worth noting that the company shares trade in Canadian Dollars and the dividend is paid in USD, so there is an additional currency risk to consider when investing in Polaris.
Polaris stock had a terrible 2018 due to the political situation in the country where their main asset is located. The shares have rallied since then but the company still trades below book value and around 11 times earnings. For income investors, the stock currently pays a high dividend. We are getting paid to wait for additional renewable assets to become operational and things to settle down in Nicaragua. The company produces a lot of cash flow so the dividend is well covered. I expect no big changes to the dividend until additional projects become operational, as Polaris will use the cash flow from San Jacinta for new power generating assets construction. Going forward, the Peru assets expected to be operational this year, in addition to the efficient San Jacinta plant should provide a boost to the dividend as the company uses free cash flow to reward patient investors and fund the construction of the rest of the assets. In addition to the dividend, any stabilization of the Nicaragua situation could lift the share price as the underlying business itself is healthy and deserves to trade at a higher multiple than 11 P/E and 0.8 P/B.
I initiated a position in February and although shares are up approximately 20% since then I still believe it's a good entry point at current prices.
Disclosure: I am/we are long RAMPF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
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