SDCL Energy Efficiency Income NAV impacted by higher discount rate

SDCL Energy Efficiency Income Trust (SEIT) has published its annual results for the year ended 31 March 2024, during which its NAV has fallen to 90.5p per share as at 31 March 2024 from 101.5p a year prior. This includes a reduction of 11p from a 90bps increase in weighted average unlevered discount rate during the year. Its chair, Tony Roper, says that the portfolio delivered an aggregated EBITDA in line with budget and a fully cash-covered dividend, adding that SEIT has seen positive results from the steps taken by its investment manager to improve asset values and to progress selective disposals, proving previous asset values and strengthening the balance sheet.

Key highlights from the results:

• Investment cash inflow from the portfolio of £92m as at 31 March 2024, up 8% on a portfolio basis (2023: £85m)
• Aggregate dividends of 6.24p per share declared for the year ended 31 March 2024, in line with target (March 2023: 6.0p) and fully cash covered 1.1x
• Target dividend of 6.32p per share for the year to March 2025
• Portfolio valuation of £1,117m as at 31 March 2024, up from £1,100m at 31 March 2023
• Loss before tax of £56m for year to 31 March 2024 (31 March 2023: loss of £18.6m) includes unrealised loss of £118m from discount rate increases
• Investment of c.£161m mainly into existing investments during the financial year and a further c.£23m invested since the year end
• Post-year end sale of its entire investment in UU Solar for approximately £90m and at a 4.5% premium to the 30 September 2023 valuation, using the proceeds to reduce short-term gearing
• Scope 4 emissions (savings) of 971,828 tCO2 from Company’s portfolio

Discount to NAV

In its interim results, SEIT’s board set out a plan to help to reduce the discount to net asset value, which included a series of measures that it says it is well advanced on implementing, including:

• continuing to add value to the portfolio through active asset management;
• achieving selective disposals to help to reduce short-term gearing, to prove net asset value and to recycle proceeds into opportunities for increased total return. Following the year end, the sale in May 2024 of UU Solar to UK Power Network services is an example of this;
• increasing marketability and liquidity of SEIT’s shares by attracting new institutional investors to the shareholder register, as well as improving the profile of SEIT;
• applying its Capital Allocations Policy to focus on those organic investments that exceed the minimum return hurdles, being mainly further investment into RED-Rochester, Onyx and EVN; and
• planning actions based on feedback from investors, leading to regular meetings with analysts and major shareholders.

In addition, during the year, SEIT bought back £20m worth of its own shares. SEIT’s board says that it and the manager will continue to assess further buybacks. The board is also considering further steps it could take to narrow the discount, including:

• additional disclosures to improve investor confidence in investments and their support for the cash cover of SEIT’s dividend;
• managing borrowing levels overall, and in particular the level of short-term borrowings through SEIT’s RCF;
• marketing of SEIT’s shares to wider audience of potential investors, for example in the United States, as well as the traditional market for UK investment trusts; and
• subject to an improvement in share price, acquisition of other smaller investment trusts to improve scale and diversification.

SEIT’s board says that, despite some improvements in the last quarter of the financial year, it remains strongly of the view that the share price does not reflect the value of its investments, nor the cashflows derived from them that allow SEIT to pay the current level of dividends with progressive growth.

Portfolio and financial performance

The portfolio generated earnings in line with expectations and cash flows that were more than sufficient to cover SEIT’s target dividends.

SEIT’s NAV per share at 31 March 2024 was 90.5 pence (101.5 pence at 31 March 2023), a decrease of 11% in the year. The NAV is in line with the 30 September 2023 NAV of 90.6 pence when SEIT reported a reduction of NAV, driven largely by an increase in discount rates reflecting a “higher for longer” inflation and interest rate environment.

The board says that, during the second half of SEIT’s financial year, there were improvements in performance and projections from significant investments such as Primary Energy and Onyx, which have faced delays and provisions in prior periods, as well as from Oliva and Värtan that had been the subject of regulatory uncertainty.

Balance sheet and capital allocation

As at 31 March 2024 total gearing was £485m. Since the year end, SEIT has sold an investment, enabling it to reduce its short-term portfolio gearing. Total gearing has since been reduced by 11% to approximately £430m as at 31 May 2024, which was achieved through a repayment of the revolving credit facility (RCF) in May 2024. This was funded through the c. £90m proceeds of the sale of SEIT’s investment in UU Solar after the year end. The drawn RCF was £98m as at 31 May 2024, substantially lower than the £155m drawn at 31 March 2024 after also accounting for new investments in Onyx since 31 March 2024.

Reflecting its capital allocation policy, new investments were limited almost entirely to “organic investments” to support existing portfolios and platforms and where returns exceeded minimum hurdles. Only one new investment was added to SEIT’s portfolio of corporate investments, which is limited to up to 3% of its portfolio in aggregate. This was £2.4m invested in Rondo, a thermal storage business in the United States. SEIT invested alongside a number of large corporate strategic investors, including Microsoft, Saudi Aramco and Rio Tinto, in a technology solution aiming to help decarbonise industrial heat, one of the highest value and hardest to abate sectors.

SEIT says that current market conditions and its desire to take a prudent approach to gearing are limiting its ability to fund development and construction opportunities. It is therefore seeking co‑investment from third-party investors on certain assets, which it sees as key to being able to deliver ongoing value and growth.

Dividends

In line with previous guidance, SEIT announced its fourth interim dividend for the year ended 31 March 2024 of 1.56 pence per share in June 2024, bringing the total dividend to 6.24 pence per share declared for the year ended 31 March 2024. This was fully covered 1.1 times by cash flow from the portfolio.

SEIT’s board says that, based on its assessment of current cash flow projections, it is announcing new dividend guidance of 6.32 pence per share for the year to 31 March 2025, an increase of c.1%, and as before is targeting progressive dividend growth thereafter. The board says that this target balances growing the dividend with the ability to generate higher levels of surplus cash available for repayment of debt and reinvestment in investment opportunities.

Comments from Tony Roper, chair of SEEIT

“The macro-economic backdrop has created market uncertainty for a second consecutive year and, in this context, SEEIT’s performance has remained resilient relative to the wider market. As the world seeks to address the practical challenges of the energy transition and efforts to decarbonise, energy markets and their supply chains face scarcities and price volatility. Subsequently, investing in more efficient supply, demand and distribution of energy, which is SEEIT’s focus, becomes increasingly important and valuable. As such, we believe that SEEIT remains well positioned to benefit from this opportunity.”