With the effects of global warming becoming ever more apparent, renewable energy stocks are getting a lot of attention from investors. Today, there are countless enterprises looking to find innovative ways to generate clean energy. And while many have some promising technology, it could still be several years before these firms start delivering actual profits.
Despite this, an enormous level of expectation is building up around some UK shares, leading to pretty lofty valuations. Let’s take a closer look.
The king of renewable energy stocks?
In early 2021, shares of the hydrogen business ITM Power (LSE:ITM) reached as high as 717p, up from around 70p just a year prior. That’s an extraordinary 1,000% return in only 12 months. And looking at what this business does, it’s not surprising why the renewable energy stock caught investors’ attention.
ITM Power designs and sells specialised electrolysers that extract hydrogen from water without any greenhouse gas emissions. Traditionally, hydrogen is produced as a by-product of the oil & gas industry, which isn’t exactly an environmentally friendly source of the element.
With hydrogen demand increasing for its various applications in electric vehicles and energy storage, ITM appears to have solved an enormous environmental challenge that could skyrocket the revenue stream. In fact, analyst forecasts have predicted sales to grow from £4.2m today to £60m by 2023!
Recently, market volatility has dragged the ITM Power share price to around 370p today. But that still places the market capitalisation at a lofty £2.2bn. Compared to existing fundamentals, the price-to-sales ratio comes in at a whopping 507 times. I think it’s fair to say that the valuation is almost entirely driven by expectations. But suppose this renewable energy business fails to deliver… In that case, I think the stock could be in for a tumble of majestic proportions.
Therefore, I’ll be keeping ITM Power on my watch list for now. The technology looks promising, but the price tag is simply too rich for my tastes.
Revolutionising fuel technology
Sticking with the theme of hydrogen, another UK renewable energy stock is making waves at the moment. There is a lot of anticipation surrounding AFC Energy (LSE:AFC) and its hydrogen fuel cell technology.
The group is currently executing a plan to deploy its specialist equipment to power electric vehicle recharging stations. Given petrol & diesel vehicles are already being slowly phased out by car manufacturers, the long-term viability of this business seems promising. And management has already reported significant interest from prospective clients.
However, just like ITM Power, the valuation is being driven entirely by forecasts. In 2021, the group saw its first form of revenue since 2017 — and it only amounted to around £593,000. But if analyst expectations are accurate, this could quickly surge to over £11m by 2023.
Today, the market capitalisation is £294m. So, just like ITM Power, investors are pricing this business based on forecasts rather than existing fundamentals, which opens the door to enormous volatility.
I do think the technology has enormous potential. But whether there is a viable business surrounding it remains to be seen. Therefore, I’m not interested in adding any shares to my portfolio today. But I will be keeping close tabs on how this group progresses in the future.