Geothermal Frustrations, Part I

Hot rocks? This is Part I of a discussion of geothermal energy and investing. Part II will appear tomorrow. It’s a work in progress. I’ve been mulling this over for quite some time. There are some things that I want to get off my chest and share with you.

I Love Geothermal, But…

Longtime readers of Energy & Scarcity Investor know that I love geothermal energy. It’s my inner geologist channeling its way out. And my inner technologist, too.

I seldom miss a chance to learn more about geothermal. Based on what I know, I often say and write good things about geothermal power and many of the publicly traded stocks that embody the geothermal space.

When Agora Financial launched ESI back in November 2007, among the first investment ideas that I recommended were five geothermal stocks.

Waiting for the Geothermal Godot

What’s not to love about clean, green systems that draw “free” — sort of — energy from the earth’s heat? Yes, indeed. I love geothermal. But with apologies to Samuel Beckett, I’m getting tired of waiting for that geothermal Godot who never seems to show up.

Here we are a year and a half on and the five geothermal stocks in the ESI portfolio are all down from our entry point. Sure, they’ve bounced up and down over time. Small-cap stocks do that, especially ones with roots as Canadian juniors. Somebody plugs them at some conference or in a newsletter, if not Barron’s magazine or The New York Times. Then the stocks go up. Pretty soon, they drift down. The back story doesn’t stick.

That’s not how it’s supposed to work. The original idea for the ESI-5 was that with more investment, drilling and development work, the geothermal companies would do better. They’d grow more valuable organically. The stock market would respect that. Over time, the stock prices would rise. That’s not what happened.

What’s going on? The companies SHOULD be getting more valuable, right? Time has passed and the five companies are spending money on acreage, drilling and development, right? (Yes.) They’ve got deals with utility companies to buy their electric power, sooner or later, right? (Yes.)

Plus, we’ve got the federal and state governments mandating low-carbon energy. It’s straight up the alley for geothermal. We’ve got “renewable portfolio standards” (RPS) too. These are legislative mandates for utility companies to buy green power — a built-in market for geothermal. There’s even an RPS bidding war going on. It’s like each state wants to outdo the others in raising its RPS numbers.

So if you’re a geothermal company, these ought to be your salad days. There’s nothing quite like selling a product that other people have to buy under penalty of law, right? Of course, this ought to offend your free market sentiments. But that’s another discussion.

There’s more… We’ve got tax breaks galore for renewable energy targeted point-blank at geothermal. Plus, at the other end of the tax code, where the funds get spent by the legislature, we’ve got $350 million of recent government grant money just for geothermal. $350 million? That’s probably more research money than there are smart people who can spend it wisely. Still, the money is there.

Where’s That Geothermal Boom?

So where’s that geothermal boom? What has happened to geothermal in the past year? Why are the stocks down? Let’s mention the usual reasons, just to get them into the sunlight.

Well, there was that stock market crash thing. Stocks tumbled, including the geothermal guys. There was a bit of a stock rebound this spring, but not much for geothermal. (Better to be a big bank, right?)

Then for the past nine months, we’ve had a continuing credit crunch, slowing things down for the geothermal players. We’re experiencing the Great Recession, which has reduced electricity demand and put a damper on overall energy investment and risk taking.

Then there’s the natural gas glut that has taken much of the cost-competitive edge off of geothermal power, as well as other alternative energy systems. Ask T. Boone Pickens about his windmills.

The bottom line is that the stock market is NOT giving much present value to future geothermal plays. Hence the stock prices are down. Why is that?

With all the inherent technical advantages of geothermal power (like “free” energy from the earth), plus the government policies and tax breaks, the companies in the business — including the ESI-5 listed above — should do better in the stock market. But that’s not the case, even though the deck is stacked in favor of green power, especially geothermal. Where in the heck is the return?

I’ll pick up this discussion in Part II, tomorrow.

Thanks for reading.

Until we meet again,
Byron King

July 23, 2009

The Daily Reckoning