Falling valuations have pushed dividend yields to impressive highs among FTSE shares in recent years. This trend has been particularly prominent among renewable energy companies like Foresight Solar Fund (LSE:FSFL). Beyond having to deal with a temporary windfall tax from the government, rising interest rates have made it far more challenging to expand energy assets like solar and battery storage.
With that in mind, it’s not too surprising to see Foresight shares tumbling nearly 30% over the last 12 months. However, as frustrating as this may be, the underlying business and its cash flows remain intact and on track. So much so that management is on track to raising dividends once again for the ninth year in a row, pushing the yield to 8.9%.
What’s going on with Foresight shares?
While the company owns a portfolio of solar and battery storage assets, it’s registered as a real estate investment trust (REIT). That’s important to note since it makes the firm immune to corporation tax. But as a consequence, it’s forced to pay out 90% of its net earnings as dividends to shareholders.
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Why does that matter? Well, it makes life pretty difficult to build up a cash war chest on the balance sheet. That’s despite it being a highly cash-generative business. As such, to raise the funds needed to invest in expensive renewable assets, the group is almost entirely dependent on external financing, especially debt.
That’s why rising interest rates are problematic. Apart from putting more pressure on margins, they’re also negatively impacting the market value of its renewable assets. This results in write-down charges that also harm net income. Although the latter doesn’t actually affect cash flow or the affordability of dividends.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice.
A top renewable REIT to buy?
Following Foresight’s fourth-quarter trading update, investors once again saw the group’s net asset value move in the wrong direction. At the same time, electricity generation for the year actually came in 1.9% below expectations. Yet digging deeper reveals some interesting potential.
For starters, the group’s UK and Spanish operations exceeded targets. This performance was, unfortunately, offset by curtailment in Australia. The country’s energy grid is failing to keep up with the amount of electricity being generated by solar farms. As such, the result is a rising amount of waste.
But this growing problem is also driving up significant demand for energy storage solutions. That’s something that Foresight has already begun investing in. In other words, these short-term headwinds are creating new long-term tailwinds for this enterprise.
In the meantime, cash flow generation remains sufficient to comfortably cover shareholder dividends by 1.6 times. Meanwhile, strategically disposing of underperforming assets, management has also steadily been reducing gearing from 41.3% in June 2023 to 38.8%.
With falling levels of debt on the balance sheet, rising long-term potential, and robust cash flow generation, Foresight looks like a terrific income opportunity in my eyes. And pairing this with a seemingly sustainable near-double-digit dividend yield makes it a FTSE stock I’m planning on adding to my income portfolio once I have more capital to hand.
