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Morningstar | Mercury to Build New Wind Farm; FVE Increased to NZD 3.70

Narrow-moat-rated Mercury NZ has committed to build a wind farm, its first, near Palmerston North on the North Island. It’s a relatively small project, expected to cost NZD 256 million, increase the firm’s average annual generation by 7% to 7,270 gigawatt hours, or GWh, and increase EBITDA by around NZD 30 million per year. Being debt-funded, interest expense should increase by roughly NZD 15 million per year. We upgrade our forecasts. We consider the project mildly accretive, and increase our fair value estimate 3% to NZD 3.70 per share. At current prices, Mercury is fairly valued.

It looks like a good project, being close to the transmission grid and benefiting from good wind conditions. Adding only 1% to nationwide electricity generation, the project shouldn’t oversupply the market and depress wholesale prices. We expect all gentailers to add to generation supply in the medium term. The major difference to the last investment boom, which resulted in material oversupply, is this time we expect more discipline because of lessons learned from prior overinvestment and greater scrutiny as listed entities.

Mercury’s measured approach to this development aligns with this view that gentailers will show greater discipline. It is building 33 wind turbines out of a potential 60 consented at its Turitea project. We expect the remaining 27 to be built when needed to meet growing demand or replace aging thermal power stations. Mercury has another 53 wind turbines consented nearby at its Puketoi wind farm project, which, when built over the longer term, can share some of the transmission infrastructure.

New Zealand is an ideal place for wind farm developments, given there’s plenty of wind and large amounts of power storage capacity at its major hydroelectric schemes to help firm intermittent wind power. The latter overcomes one of the major drawbacks with wind farms. Otherwise, wind farms are a cost-effective option to increase electricity supply, benefiting from improved technology and larger, more efficient blades. Current low interest rates also help, given these projects have high upfront costs.