It has happened again. Since 2002, the IEA has consistently been under-forecasting the pace of solar power adoption. In 2023, solar power capacity additions are – you guessed it – again beating its predictions: they are 24% higher than the IEA said just six months ago and double what it expected in 2020. We believe this illustrates that the adoption of sustainable technologies such as solar energy continues to accelerate.
We also believe that climate issues will get worse before they get better: we have been seeing forest fires in Scotland and the drought in Spain is already creating issues worse than it did last year for some farmers. The US broke 10 all-time heat records in June, all of which took place in Texas, according to the National Centers for Environmental Information.
While this mix of rapid adoption and deepening climate change can be seen as appealing to investors with an eye for related opportunities, we should not gloss over recent (investment) issues. The sheer scale of the physical infrastructure that must be revamped, demolished or replaced is almost beyond comprehension.
Growth and climate challenges
Many sustainable solutions companies came to market with valuations that were too high. While potentially justifiable over time, for now, the equity market has shifted from a focus on revenue growth to balance sheet strength and a path to profitability. These are challenges for some.
Rising inflation and interest rates, as well as the regional US bank crisis, have dramatically changed the operating environment for small companies:
- It is harder to get capital raises done, with IPOs slowing, and discounts widening.
- Some companies will go out of business and others will be acquired.
- Some will become private again. Others will end up trapped in that no-man’s land where they are no longer private, but too small for most institutional investors, so they will have to fall back on retail investors who increasingly are pressured by rising living costs.
- A number have exciting and impactful solutions that will now take more time to be deployed – but they can still succeed.
Of course, every boom has its rush that necessitates many falling by the wayside. It was true in the time of the building of the railroads and later in the dot-com years. Companies need to adapt to the current new environment by cutting costs, focusing on the most critical development programmes and attracting larger partners. Managers can renew their focus on balance sheets and take a step up the quality curve.
Policy and investor support
That said, the long-term prospects for some of these companies are truly exciting and the social need is great. What can be done?
- First, we need details from governments about the implementation of recently announced policies such as the Inflation Reduction Act as soon as possible. We agree that energy security is key, but we could also use more policies for food security.
- Second, it would be helpful for the institutional investment market to become more flexible. Many large allocators work with benchmark constraints. These limit the flow of funds into smaller, more volatile companies. If forced to follow a broad benchmark, as an investor, you are less able to concentrate on needed sub-sectors. Instead, allocations are spread across a wider set of industries, most not providing environmental solutions.
Of course, not all investment funds need to deal with the environment, but if we want to accelerate the sustainable transition, it would help if large allocators such as pension funds raised the amount that does not require following broad benchmarks or that uses wider thresholds.
Given the current environment, it could also benefit everyone by picking up more cheap companies.