GREEN POWER: What Is Renewable Energy and Why Is It So Hot?

Delwin Graham - Feb 05, 2021
Renewable energy, be it in the form of solar, wind, geothermal or hydro, is growing at an exponential rate. According to the International Energy Agency (IEA), renewables reached 30 percent of global electricity generation capacity in 2020.

Here is some good news. Renewable energy, be it in the form of solar, wind, geothermal or hydro, is growing at an exponential rate. According to the International Energy Agency (IEA), renewables reached 30 percent of global electricity generation capacity in 2020. The IEA sees renewable energy overtaking coal to become the largest source of electricity generation worldwide by 2025, supplying one-third of the world’s power. (Cf., Matthew DiLallo, “Investing in Top Renewable Energy Stocks”, www.fool.com, January 6, 2021)

Renewable energy is energy derived from natural processes that are replenished at a rate that is equal to or faster than the rate at which they are consumed. The various forms of renewable energy include energy generated from solar, wind, geothermal, hydropower and ocean resources, solid biomass, biogas and liquid biofuels. To the extent that bioenergy (e.g., wood, ethanol) is considered renewable, its rate of consumption does not exceed its rate of regeneration. (Cf., “About Renewable Energy”, www.nrcan.gc.ca, December 13, 2017)

Canada is a world leader in the production and use of energy from renewable resources. Renewable energy sources currently provide about 19 percent of Canada’s total primary energy supply, as compared to about 11 percent of both the total U.S. and world energy supplies. Hydropower is the largest renewable energy source in Canada, providing about 60 percent of Canada’s electricity generation. But solar accounts for only 0.1 percent of Canada’s total renewable energy use. However, solar power seems to hold the most potential, as it is estimated that about half of Canada’s residential electricity requirements could be met by installing solar panels on the roofs of residential buildings. (Cf., “About Renewable Energy”)

For the most part, renewable energy is clean energy, and it is thought to mitigate global warming. In the past, climate change has been framed as an ethical issue. Now, socially responsible investing is supported by the potential for profit. Renewable energy investments are delivering massively better returns than fossil fuels in the U.S., the U.K., and Europe. Research released by the IEA and Imperial College London found renewable investment in Germany and France yielded returns of 178.2 percent over a five-year period, compared with a 20.7 percent loss for fossil-fuel investments. In the U.K., also over 5 years, investments in green energy generated returns of 75.4 percent, compared to just 8.8 percent for fossil fuels. In the U.S., renewables yielded returns of 200.3 percent versus 97.2 percent for fossil fuels (Cf., David Vetter, “Just How Good an Investment is Renewable Energy? New Study Reveals All”, www.forbes.com, May 28, 2020)

Renewable energy is posing an existential threat to the oil industry. Mark Lewis argues that wind and solar energy have a “short-run marginal cost of zero”. That is, when the wind blows and the sun shines, the energy arrives for free. Nearly all of the costs of wind and solar energy are in the infrastructure required to capture it, and these capital costs have been plummeting over the past few years. The same is not true for oil and gas. Lewis argues that the returns in upstream oil projects will inevitably decline over time as oil is forced to compete with an energy source that produces energy at a much lower cost over the lifetime of a project. With an infrastructure built up over the past 100 years, the oil industry today enjoys massive scale advantages over wind and solar. But this advantage is only one of incumbency, and it is for a limited time. Lewis argues that renewable energy, with a short‑run marginal cost of zero and being environmentally clean, will be able to replace up to 40 percent of global oil demand once it has the necessary scale. (Cf., Mark Lewis, “Renewable Energy is Good Money, Not Just Good for the Earth”, www.ft.com, August 4, 2019)

Despite the impressive returns from renewables, as well as their supposed inevitable ascendency, the total volume of investment is still nowhere near what is required to decarbonize the economy and mitigate climate change. In fact, the global investment in all energy was down 20 percent in 2020 – by almost US$400 billion – compared to last year. This was largely due to the coronavirus crisis – that is, it was a by-product of the reduced demand for energy, lower prices and a rise in non-payment of bills. But even before COVID‑19, global investment in green energy was falling well short of what was necessary to hit the Paris Agreement target of limiting global warming to within 2 degrees Celsius by 2100. In order to achieve that, the International Renewable Energy Agency (IREA) contends that countries will need to at least double their annual investment in renewables, compared to current levels, from around US$310 billion to more than US$600 billion. (Cf., Vetter, “Just How Good …”)

What’s the hold up? Some analysts contend that large asset managers and institutional investors such as pension funds require deeper liquidity than what the renewables market currently holds (cf., Vetter, “Just How Good?). Researchers at the Massachusetts Institute of Technology (MIT) argue that numerous businesses have implemented renewable energy strategies but haven’t seen much in the way of financial returns. A survey by Environmental Leader, a leading trade publication, found that of 400 companies with investments in renewable energy, only roughly 20 percent of the companies saw a return of 15 percent. MIT researchers note that the ideal is an annual rate of between 20 and 25 percent (cf., “Is Green Energy a Good Investment?”, onlinebusiness.northeastern.edu, January 31, 2021). In short, green energy is not a losing enterprise, but it’s also one that doesn’t result in windfall profits. These projects can also take a long time to come to fruition, which is a problem for venture capitalists – ideally, VCs don’t like to tie up their capital for more than five years. (Cf., “Is Green Energy …”)

And so, governments become involved by directly funding projects and encouraging investment with subsidies and tax breaks. Funding is always an issue for this sector. As for private investors, however, we should look for companies that generate significant free cash flow and have strong balance sheets. Please contact me at dgraham@cgf.com or 780‑408‑1518 for a few candidates.