The FTSE 250’s known for its growth opportunities. But it’s also home to a diverse range of dividend-paying enterprises, some of which offer impressive yields. Among the most generous in June this year is NextEnergy Solar Fund (LSE:NESF).
The stock currently offers an impressive 11.7% yield. To put that in perspective, for every £1,000 worth of shares, investors are earning £117 in passive income. Considering the average is closer to 4%, it’s a pretty spectacular income return.
Sadly, high yields also have a habit of being unsustainable. And while income generation in the short-term can be sweet, the long-term performance can eventually sour investor’s moods. However, there are always some exceptions to this. So is NextEnergy a terrific income stock to buy and hold? Or should investors steer clear? Let’s take a closer look.
What does the business do?
As the name suggests, the firm operates within the renewable energy industry, owning a portfolio of 103 solar and storage assets scattered across the UK as well as the rest of the world. The business model is similar to other firms in the renewable space like Greencoat UK Wind and Foresight Solar Fund. Clean electricity is generated by its solar assets and then sold to energy companies for redistribution.
Given that demand for electricity continues to climb, the firm’s had little trouble generating cash profits. And while earnings are dependent on the weather, increasingly hot summers are proving advantageous to solar farms. The end result is a predictable and steady stream of cash flow funding a generous dividend policy. In fact, May marked the 11th consecutive increase in shareholder dividends.
This income-bolstering’s certainly part of today’s 11.7% yield. But most of it actually stems from a decline in share price. Over the last 12 months, the stock’s down almost 30%, trading at a massive discount to its net asset value. What’s going on?
Renewables and interest rates
Building and maintaining renewable energy infrastructure isn’t cheap. And the situation’s only exacerbated for real estate investment trusts (REITs) since they aren’t able to retain the majority of their earnings. As such, many businesses in this space have racked up considerable amounts of debt. And NextEnergy Solar Fund’s no exception.
As of May, the firm has just under £338m of outstanding loans on its books, a third of which is subject to fluctuating interest rates. As capital structures go, the firm isn’t overly leveraged, with some analysts suggesting there’s nothing particularly wrong with the fundamentals of the business. So why has the stock tumbled?
There are a lot of moving factors, but it seems the renewable space as a whole is currently out of favour with investors. Higher interest rates not only make debt more expensive but also drag down the valuation of its solar assets. If that’s indeed the case, then when the Bank of England eventually cuts borrowing costs, these shares may be primed for a resurgence.
The bottom line
NextEnergy Solar Fund suffers from a lot of similar weaknesses as its peers. The group has virtually no pricing power and is constantly negotiating with debt lenders to secure future growth. However, the FTSE 250 stock’s impressive yield looks like it’s here to stay. At least, that’s what I think.
The post Is the 11.7% yield for this FTSE 250 stock too good to be true? appeared first on The Motley Fool UK.
5 Shares for the Future of Energy
Investors who don’t own energy shares need to see this now.
Because Mark Rogers — The Motley Fool UK’s Director of Investing — sees 2 key reasons why energy is set to soar.
While sanctions slam Russian supplies, nations are also racing to achieve net zero emissions, he says. Mark believes 5 companies in particular are poised for spectacular profits.
Open this new report — 5 Shares for the Future of Energy — and discover:
Britain’s Energy Fort Knox, now controlling 30% of UK energy storage
How to potentially get paid by the weather
Electric Vehicles’ secret backdoor opportunity
One dead simple stock for the new nuclear boom
Click the button below to find out how you can get your hands on the full report now, and as a thank you for your interest, we’ll send you one of the five picks — absolutely free!
Grab your FREE Energy recommendation now
More reading
8% dividend yield! Buying these UK dividend shares could provide a £1,600 second income
10.2% dividend yield! 2 value shares to consider for a £1,530 passive income
Zaven Boyrazian has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.