EV platform for growth

VivoPower is building a portfolio of related activities serving the decarbonisation and electrification of the economy. At the heart is the specialist EVs business, which will be complemented by additional services along with the existing activities in Critical Power (electrification infrastructure) and solar development. In addition, the group has strong internal sustainability credentials having been B Corp certified since April 2018 and recent debut at number 47 globally in the annual Real Leaders Impact Awards. In recognition, the stock was recently admitted to the MSCI World Sustainability Index. These attributes should endear VivoPower to both environmental, social & governance (ESG) focused funds and environmental thematic funds.

VivoPower’s acquisition of Tembo is transformational. While still small in financial terms, it offers proven technology in a fast-growing market for specialist EVs. Since acquisition, Tembo has announced a four-year agreement with GB Auto of Australia for at least 2,000 units valued at over $250m, evidencing the potential as well as the synergies with VivoPower, including the benefit of a financially stronger parent. The agreement underpins our FY23 forecasts for 600 vehicles and for group revenues to rise to $133m from $49m in FY20. The Sustainable Energy Solutions business should provide further operational leverage, further growth and, as a service, high return on capital.

VivoPower is in the development stage hence news will drive investor thinking and the share price in the short term. For Tembo this is likely to include news on trials with potential customers, particularly in the mining sector, and expansion of the global distribution network as the sales channel builds. Additional contracts will also add confidence in the anticipated growth profile as seen with the recent Tottenham Hotspur announcement for the nascent Sustainable Energy Solutions business. In the medium term, Tembo deliveries and hence revenues should start to build rapidly.

Our DCF valuation for the group comes in at c $19 a share (WACC 13%). Our key assumptions are 5,000 EVs in 2025 (every change of 1,000 vehicles has an impact of c $5 a share on our valuation) and EBITDA steady state margin of 13% (each 100bps impacts our DCF by c $4 a share). Hence, there is a significant range of potential outcomes as might be expected in the current early stage of the business. As the group develops so the risk premium and cost of capital will decline improving the valuation further. We also note that the well-established Critical Power and Solar operations equate to c $4 a share using peer/asset values (ie nearly half the current share price). As the company progresses so the risk profile and cost of capital will reduce which will support the valuation further.

The key delta is likely to come from the EV business rather than the more stable and established Critical Power operations. The market for EVs is increasingly certain as the decarbonisation agenda accelerates. Hence the sensitivity is over Tembo’s success and market share and how this translates into volumes and profitability. Scaling-up production brings challenges and execution risks (supply chain, logistics, production etc) but these are likely to be shorter-term headwinds that can be overcome. Further financing is also likely to be required to deliver the plan, including capex requirements, with any equity element bringing dilution. The 2020 over-subscribed equity issue provides confidence for any further financial needs.

The group’s strategy encompasses sustainable energy solutions for the commercial sector. Operations currently include specialist EVs, electrical power services and solar development. The company is UK based but its primary operations are based in Australia and the aim is to leverage the group’s presence, particularly in the mining sector, to establish and grow the EV business in the broader commercial utility vehicle market. The intention is then to wrap further service offerings around this platform. Key markets are expected to include Australia and Canada as well as broader geographic expansion. For management’s view on strategy see Exhibit 1.

The group is constructing an interconnected set of operations around the electrification of the economy. Key activities include:

The following charts provide an indication of the importance of the operations at present and the expected shape of the group in FY23.

VivoPower’s ethos and environment credentials are demonstrated by the group’s B Corp certification, requiring a balance of profit and purpose along with considering its impact on workers, customers, suppliers, community and the environment. VivoPower’s latest score was 85.7. Further details are available at: https://bcorporation.eu/directory/vivopower-international-plc. In addition, VivoPower debuted at number 47 globally in the annual Real Leaders Impact Awards. Other winners included Tesla and Patagonia.

VivoPower owns Tembo e-LV, a specialist vehicle business with a proven electric offering, based in Bergeijk, Netherlands and operating a global supply chain. The business focuses on customising existing platforms, converting utility vehicles, primarily Toyota Hilux and Land Cruiser. The core activity is the conversion of the ICE to full electric e-drive system including regenerative braking.

Historically, Tembo has been a niche business catering to the Australia and Canada regions within focused end markets, for example mining. VivoPower has bought the wherewithal, both financial and through management bandwidth, to expand the business. Hence the strategy to look at broader market sub-sectors including infrastructure, government, etc, as well as additional geographic markets. Early success has come from the proposed distribution agreement with GB Auto in Australia, which includes a framework purchase agreement for a minimum of 2,000 vehicles with estimated revenue (including the cost of the vehicle) to VivoPower of $250m over four years.

Tembo is focused on the speciality utility vehicle sector with end markets including mining, infrastructure, utilities, government and specialist niches. Focus is on the commercial/fleet rather than the private buyer market. VivoPower estimate the total addressable market for commercial fleet EVs in the regions where Tembo currently operates (ie excluding the United States, Asia and Latin America) at $36bn.

The mining market is expected to be important, particularly in the short term, given the presence of both Tembo and VivoPower in the sector. Our analysis focuses on the Australian market and read across to Canada as these are currently Tembo’s main operating regions.

The primary source of power in a mine is currently diesel. However, there are a range of pressures driving the move towards electrification. These include:

This shift is starting to gain traction. The International Council of Mining and Metals (ICMM) set up the Innovation for Cleaner Safer Vehicles (ICSV) with 28 leading mining companies to work collaboratively with the stated aim to ‘minimise the operational impact of diesel exhaust by 2025’. Commitments from the miners include:

Exhibit 4 looks at the potential for utility vehicles of the key Australian mining market. BHP has 26 mines with an average of 250 utility vehicles, Fortescue has 1,400 utility vehicles and operates four mines suggesting an average of over 300 vehicles per mine. Using a more conservative number of 150 units per mine still suggests an annual replacement market of 17,500 units, assisted by the short life span in such a harsh environment. The Canadian mining market is a similar scale to Australia and hence is likely to provide a similar opportunity. This suggests a significant market for VivoPower; the key is likely to be the speed of conversion to EVs and Tembo’s market share.

The specialist utility vehicle market is nascent as demonstrated by the main competitors, all specialist mining suppliers or vehicle suppliers. None have announced any significant contracts to date.

There is clearly significant market potential in the company’s key Australian and Canadian markets before looking further afield. The rate of conversion from ICE is unclear although the protestations from the markets are positive. Hence Tembo’s success will depend on gaining its share of the market with the GB Auto deal providing confidence and an early market leading position.

VivoPower’s strategy is to provide a range of integrated services to assist in the adoption and benefits of EVs for customers. These services include:

We expect additional services to be added over time. We note that VivoPower’s agreement with GB Auto provided for VivoPower to maintain and own all operating data from the Tembo vehicles. This could provide the basis for further product offerings in the future.

We note EPIROC, the global mining equipment group, recently signed an agreement with Vale for the supply of 10 EVs (large loaders, trucks etc) along with a ‘batteries as a service’ contract, suggesting these types of activities are gaining traction in the market.

VivoPower’s business may be in its infancy, but it has already won its first significant partnership. VivoPower is working with Tottenham Hotspur, the UK Premier League football club, to develop a sustainable energy solution for the stadium and training grounds as the club looks to become a zero carbon business. The solution is expected to include rooftop solar, where VivoPower has significant experience in Australia, solid state battery capacity of up to 3MW, customised microgrid and associated electricals.

The Critical Power Services division comprises two complementary businesses operating in the commercial electrical equipment and service market:

The businesses have over 700 customers limiting both individual customer and sector exposure.

Following restructuring, the businesses have made good progress, despite some impact from COVID-19, posting strong top line growth (26% in 2020) and positive margin improvement (up 340bp to 7.0% in 2020). H121 proved more difficult due to the pandemic although the division still posted a resilient profit performance (EBIT $2.6m down from $3.4m). We also note the recent contract for all electric works for the 200MW Blue Grass Solar Farm in Queensland, which brings total solar contract wins to over 350MW.

The businesses are linked to the state of the Australian economy and the investment cycle. They are exposed to three particular market sectors offering growth:

Key sector drivers and the positive state of the Australian economy (GDP forecast 2021 +5%, 2022 +4% source: Australian government) suggest that further growth can be expected. Lumpiness can be expected due to contract timing and any additional COVID-19 disruption.

The group develops utility and larger commercial projects. Projects are sold prior to construction to limit the capital requirement. Operations are undertaken through partnerships with established management companies to circumvent the requirement to invest in a significant development team and associated costs.

Kevin Chin became chief executive in March 2020 alongside the chairmanship role that he has held since before the group listed in 2017. Mr Chin is an experienced entrepreneur and turnaround specialist with experience in solar energy, software, traffic management, education and fund management. His most notable achievement was at AI software company RuleBurst Haley. The Australian-centric RuleBurst was acquired in 2004, operations were turned around and growth accelerated by over 100% in 2005 and 2006 (source: Arowana) largely through international expansion, including the acquisition of US-based Haley. The business was sold to Oracle in 2009 for A$150m generating 13.8x the original equity and an internal rate of return (IRR) of 93% (source: Arowana). Mr Chin is also chief executive of Arowana, a B Corp certified development group and VivoPower’s largest shareholder (49.6%). James Tindal-Robertson is finance director having spent six years as director of finance at PetroSaudi Oil Services with previous roles at Chicago Bridge & Iron Corporation, Paladin Resources, Crew Gold Corporation and Smiths Group. The board also includes four experienced non-executive directors. This includes Matt Cahir who was a key member of the RuleBurst management team. He also ran Mincom’s North American operations and has extensive experience in the mining sector.

Overall sales declined 28% in H121, EBITDA was down from $5.5m to $1.2m and PBT declined from $2.2m to break-even, primarily due to the effects of COVID-19 and one-off/exceptional events. Critical Power revenues declined 29% as COVID restrictions affected the ability to deliver contracts. The focus on efficiency boosted gross margins from 17.7% to 20.8% while G&A cost actions also assisted in limiting the overall impact on profit to a 24% decline. The solar business was affected by the lack of development gains in the period reflecting the lumpy nature of such events. Central cost increases were due to the company investing for growth, higher restructuring charges relating to resolution of outstanding litigation in the US and financing costs associated with the equity raise and other refinancing which took place in 2020.

H121 saw a significant period of activity with completion of the equity raise, finalisation of the Tembo investment and consummation of the GB Auto partnership. Post the period end, the group announced the acquisition of the remaining minority in Tembo, the first contract for SES with Tottenham Hotspur in the UK and a major solar farm electrical installation contract for Critical Power.

The $28.8m equity raise was completed in the first half of 2020. As a consequence, net debt reduced from $23.1m at June 2020 to $8.3m at 31 December and cash increased from $2.8m to $17.4m providing liquidity to fund growth investment plans.

Management commented that ‘the outlook remains strong, with a noticeable uptick in activity coming though since the start of calendar year 2021’. This suggests a more positive second half albeit the degree of improvement will inevitably depend on the level of COVID-19 restrictions impacting the Critical Power operations.

Exhibit 12 shows our forecasts for VivoPower’s EV division, which is expected to account for over 55% of sales by 2023. The GB agreement of 2,000 vehicles over four years underpins our volume assumptions. In 2023 we expect Critical Power to account for 38% of revenues with the remainder generated by the solar and nascent services operations. We expect the EV business to be operating around break-even in 2023 as volumes permit greater discounts on purchases, including vehicles, and operational gearing benefits start to come through. The services business revenues are expected to be driven primarily by Tembo EV volumes. At present, take up levels are difficult to predict hence we are taking a conservative stance on volumes and economics, despite Tembo having won its first contract. The services operations account for only 5% of our 2025 profit forecast.

VivoPower’s assets are at very different stages of their lifecycles. Tembo (ie EVs) are in rapid growth mode, Critical Power is more in mature cyclical growth and solar investments are in realisation mode. Hence, we have looked at the potential value of these operations independently.

Tembo will be the key driver for VivoPower’s growth and valuation. Exhibit 13 provides a view of key EV companies including their market capitalisation, 2023 forecast revenues and EV/Sales multiples. Our expectations are for Tembo’s revenues to exceed $150m in calendar 2023 (note VivoPower has a June year end) driven by the growth in EVs, which will account for over 60% of VivoPower sales at this juncture. On a median peer EV/Sales multiple of 2.9x this would suggest a valuation of c $435m. However, we are cautious in placing too much emphasis on such a valuation noting the wide range in valuations being ascribed in the sector and the early stage of Tembo’s growth – our forecast sales in the financial year to June 2023 of $75m suggests a significantly lower valuation. In addition, Tembo’s activity profile specialises in powertrain conversion rather than as an integrated EV original equipment manufacturer (OEM) which may be lower margin albeit it also enjoys a lower capital requirement and risk from complete vehicle manufacture.

In Australia, 2020 saw the listing of Mayfield, a similar electrical services provider of similar scale (both companies reported sales of c $48m with Mayfield’s margin 7.3% versus VivoPower’s Critical Power 6.9%). The following provides an indication of the read-across in valuation using the last reported financials.

VivoPower’s main business in the division has been in the US business. The Innovative Solar Ventures I assets are held under ‘investments’ and as ‘assets held for sale’ with a combined value of $12.3m.

Valuing the EV business is difficult at present and the additional SES business even more so. A reverse valuation is perhaps instructive. Taking the current market cap ($145m) and adjusting for Critical Power and Solar ($43m) suggests that the EV (and SES) operations are valued at $102m.

Given the early stage of its development our DCF uses five-year forecasts followed by a six-year fade period before applying a normal terminal value growth rate of 3%. Exhibit 15 shows DCF sensitivity relative to the weighted average cost of capital (WACC) and the number of vehicles expected to be delivered in 2025. As Tembo develops and the risk profile reduces so beta – and consequently the cost of capital – will reduce. Similarly, the key variable of number of units being delivered, and hence the growth profile, will become somewhat more evident. Our current expectation is for multiple thousands of vehicles by 2025 which the mining market alone should support, depending on the rate of conversion from ICE. Hence, we see 5,000 vehicles as achievable which, with a WACC of 13% (15% cost of equity) suggests a valuation of c $19 a share. While it is somewhat simplistic to use a single year to assess the full trajectory of the business it is worth noting that each change in the number of vehicles delivered in 2025 changes our DCF by c $5 a share (rising on lower WACC assumptions).

The other key variable will inevitably be profitability. Tembo’s business is far less complex than full OEM vehicle manufacture. This reduces risk and capital requirements but may also limit the margin available given the effective pass-through cost of the vehicle ex-drivetrain. The following provides a sensitivity of our DCF to EBITDA margin. A 13% margin would suggest c $19 valuation. A 100bp change in margin impacts the valuation by c $4 a share (rising with lower WACC). These are steady state longer-term margins which we would expect to be lower than more traditional OEM models; we note Tesla’s 2020 EBITDA margin was 18.3% with +630bp y-o-y suggesting it is not yet at a long-term steady state.

The key medium-term delta to the group’s fortunes is likely to be the performance at Tembo through the rate of EV adoption and market share attained. Other sensitivities such as internal production or the state of the Australian economy are likely to have less impact and be more cyclical in nature.