Tuesday, March 21, 2017

German Energy Policies Leave U.S. in (Coal) Dust

Germany figured prominently in the U.S. press last week as German Chancellor Angela Merkel met with Donald Trump at the White House in Washington, DC.  While it would certainly have been uncomfortable watching Trump snub Merkel’s offer of a handshake, what a gift it might have been to be a fly on the wall during their conversations.  There could be no greater contrast in demeanor, style and capabilities between two political leaders.  Merkel is careful in her speech and uses her keen intelligence and education in physical chemistry to guide her in what has become a lengthy tenure serving the German people.  Trump is nearly her opposite.  He takes little care in his choice of words and makes no bones of paying scant attention to details.  So far his public service experience is but a flash across the screen.
There are more than superficial differences between Trump and Merkel that are relevant for investors interested in energy and the environment.
During the 2016 Presidential Election Trump made a big point of fighting for the coal industry for the sake of protecting jobs.  Trump in his preference only for the ‘big picture’ may have missed in the recent news that Angela Merkel and her government has begun to quietly and efficiently do what Trump has promised  -  protect the jobs of coal miners.  Merkel could even over deliver on a plan that is also environmentally sound.

It was recently announced that one of Germany’s largest coal mines is being turned into a large ‘battery’ or storage for solar and wind renewable energy.  The Prosper-Haniel Coal Mine in near Battrop, Germany is to be transformed into a ‘pumped storage hydroelectric reservoir’ with a 200 megawatt capacity. 
The method uses the gravitational potential energy of water by pumping water from a lower elevation reservoir to a higher elevation. Low-cost surplus off-peak electric power is used to run the pumps.  During periods of high electrical demand, the stored water is released downward through turbines to produce electric power.  Pumped-storage hydroelectricity allows energy from intermittent renewable energy sources such as solar or wind to be saved for periods of higher demand.  The hydroelectric reservoir is a net user of energy, but allows electric power systems to balance loads and thereby create efficiency in the electrical grid. 
Coal mines are uniquely suitable for pumped-storage hydroelectricity set-ups.  They offer geographical height in deep caverns underground and often have nearby water sources.  The community near the Prosper-Haniel Coal Mine is also able to offer well-qualified talent to run the energy storage operations, reducing the impact of a planned coal mine shutdown. 
Germany has decided to effectively end to its coal industry, by eliminating subsidies for coal mining.  Instead of fighting to protect coal industry jobs at all costs, Germany’s federal government with Angela Merkel at the helm is working with the two German states of North Rhine-Westphalia and Saarland to orchestrate a socially considerate end to coal mining by the year 2018.  The objective is to bring about an environmentally sustainable economy without coal while protecting laborers from the worst consequences of job elimination.  
The German plan initiated in 2007, kept Prosper-Haniel Coal Mine and its six sister coal mines under control of the owner RAG AG.  A new umbrella consortium of interested private and public parties called RAG Stiftung was set to oversee the coal miner and finance RAG’s perpetual mine management responsibilities.  RAG AG’s interests in chemicals, energy and real estate assets were split out into a new entity called Evonik Industries AG (EVK.DE), which is 68% owned by RAG Stiftung. 
Trump’s camp appears slow to recognize such opportunities.  Granted Germany has found a solution for only one of seven coal mines that are being shut down.  Yet open minds and a concerted interest in protecting the interests of all citizens for their sake appears to have put Germany well on the way to a viable resolution to a problem that is so far only political fodder in the U.S.
Investors can get a taste of Germany’s ‘coal plan’ through Evonik Industries shares.  The company completed an initial public offering in 2013, selling 18% of the company.  CVS Capital Partners still owns 14% of Evonik through a private placement of common shares. 
Evonik sales in the year 2016 totaled Euros 12.7 billion, providing Euros 844 million in net income or Euros 1.81 per share.  The company converted 13.8% of sales to operating cash flow, providing a substantial internal resource for investment.  A little over one-third of Evonik’s business is in high-performance materials for energy and efficiency applications in automobiles, paints, coatings and adhesives.  The company’s lead products are silica and isophorone.  Another one third of revenue is provided by sales of specialty chemicals to the human and animal nutrition and care industries.  The company also supplies polymer materials to the rubber, plastics and agriculture industries.
An annual dividend has been paid since 2014, increasing the payout from Euro 1.00 to Euro 1.15 in 2016.  The dividend represents a forward yield of 3.7% at the current price level.
The current dividend yield might be compelling for some investors, especially those who are also impressed by Evonik’s auspicious beginnings in Germany’s economic policies.  However, others may find it unpalatable at any yield.  Evonik inherited RAG AG’s investment in Degussa AG, a company with a lengthy history dating back to 1843.  Degussa has been linked to Nazi Germany by ownership of Degesch, the developer of the cyanide-based pesticide used in gas chambers at Nazi Germany’s extermination camps, as well as rights to process gold and silver taken from Europe’s Jews at the extermination camps.  In the years leading up to and during World War II, Degussa was also an active acquirer of companies and real estate that Jewish people were forced to sell and may have also used slave labor in its production facilities. 
Some investors may find that even years later the association is not palatable.  Nonetheless, so far Evonik represents the only vehicle, albeit indirect, to invest in a well considered plan to resolve the conflicts of environment and employment that is embodied in coal mining.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.

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