The fact that wind farms were paid a record sum of almost £3 million in a single day during August will no doubt play into the hands of those who see them as unreliable, unpredictable and unnecessary. However, ironic episodes like this one could shortly become a thing of the past if hydrogen energy specialist ITM Power has its way.

With renewables accounting for an ever-growing share of the energy mix, the need for grid balancing and energy storage is becoming an ever more pressing issue. National Grid spent £700 million on grid balancing services in the period 2010-2011, rising to £1.1 billion in 2012-2013. By 2020 estimates across the industry vary from £2 billion to as much as £6 billion for grid balancing services. The problem lies in the fact that electricity cannot be ‘stored’ as such, but has instead to be converted to something else in order to be available for use in the future.

Sheffield based ITM Power thinks it has the solution in the form of its power-to-gas energy storage technology which utilises rapid response electrolysers to convert electrons (i.e. generated via electricity production) to hydrogen (from water), which can then be mixed with methane and stored in the gas grid. The beauty of this solution is that it requires relatively little outlay, as it merely links existing power and natural gas networks. Power-to-gas therefore offers a cost-effective solution to wind power generation curtailment, while also being a source of clean fuel and additional supply to an already very tight energy market.

Some of the gas used in the UK goes towards power generation, but the bulk of it is used to generate heat. If the hydrogen produced from renewable power were to be injected into the gas grid, this would provide renewable heat on a large scale. While in the UK the limit for hydrogen content in the gas system is currently set at just 0.1%, the fact that Germany is at 10% and most of Europe sits around 5% shows that there is significant scope to grow the role played by ‘green’ mixed gas in the UK. ITM Power has already recommended that the 0.1% limit be lifted to 3%.

However, the UK has been relatively slow in addressing this opportunity, and ITM has been forced to look further afield for commercial outlets for its technology. In Germany, ITM has been working closely with the Thüga group of companies, which now operates a HGas plant in Frankfurt with ITM’s proprietary proton exchange membrane (PEM) electrolyser at its heart. In 2013, the plant became the first ever to inject electrolytic generated hydrogen into the German gas grid, which was followed by final acceptance of the plant in March this year, with all milestones met on time.

In the longer term, ITM is also looking to tap the nascent market for Hydrogen Fuel Cell Electric Vehicles (FCEVs), which looks set to expand rapidly as the economic and environmental costs of conventional transportation continue to rise. With several large automobile manufacturers including Hyundai, Toyota and Honda having either commenced production or about to enter production shortly, programmes are underway in the developed world to roll out hydrogen refuelling infrastructure necessary to sustain these next-generation vehicles. In this vein, ITM is now involved in the UK, Swiss, US and French hydrogen mobility programmes and is already building five refuelling stations for the UK (two for the Isand Hydrogen project on the Isle of Wight, and three for HyFive project in London). In the UK alone, the H2Mobility programme is looking to install 65 stations over the next few years.

Electrolyser stacks (pictures courtesy of ITM Power)

Meanwhile, across the pond, ITM Power Inc is a founder member of US Government’s hydrogen mobility initiatives, H2USA and H2First, which has led to the receipt of two orders for hydrogen refuelling stations, courtesy of the $200 million California Energy Commission solicitation process. The US presence is particularly interesting from an investment perspective, as US hydrogen tech firms have seen their share prices soar of late, with Nasdaq-listed PlugPower (PLUG) having jumped c.900% over the past year.

The reason? Many of these outfits are finally rolling out commercial programmes with industry, and some are even set to record maiden profits. Thus far, however, UK hydrogen firms have remained in the doldrums but ITM Power is almost alone in being on the cusp of turning a profit and having real market ready commercially viable products for sale.

The diagram below illustrates pretty succinctly what has happened to the sector in terms of valuation and, in contrast, the imminence of commercialisation.

We can see that just as products have moved to the commercialisation stage the sectors valuations have hit rock bottom. As a contrarian proposition they do not come much better than this.

What’s ITM worth?

The firm boasts billionaire Peter Hargreaves (of Hargreaves Lansdown fame) as a 9.2% shareholder and board member. Such a high-profile supporter comes with significant perks, not least of which is the financial clout Hargreaves can bring to the table. Hargreaves took 4,333,333 shares out of the 33,333,333 shares offered in a £10 million placing in January, which left the firm with a cash balance of just under £9.8 million as of 30th April 2014, versus a cash burn of just under £7.6 million for the financial year.

With £5.14 million of projects under contract at year end and a further £3 million in the final stages of negotiation, activity levels are picking up and seem to support CEO Graham Cooley’s assertion (at the time of the January placing) that the firm is now at “a key inflection point”. While the company’s broker Zeus does not have a price target for the stock, if even a fraction of the hoped for penetration of the power to gas market is snatched by ITM we could be talking about many multiples of the current stock price.

The importance of the Thuga Deal

The Thuga Group deal could be absolutely transformational for ITM. The German utility network supplies almost 5% of its domestic population and there are real hopes that ITM’s 1MW power to gas units tender that it won From Thuga will be rolled out across the 100 municipal members. Broker Zeus estimates upto 500 units could be required and at a retail price of £1.75m per unit and a 40% GPM this equates to circa £350m of gross profit alone. Set against a current market cap of £38m you can see why we view this stock as a classic asymmetric risk/reward offering.

CEO Graham Cooley

We caught up with Mr Cooley recently in which he commented: “This has been a very productive period for us with solid progress in technology, sales, partnerships and project income. We built, CE marked, commissioned and consented the world’s largest PEM electrolyser and have proved the Company’s technology and project management ability. We now have a major reference plant with the Thüga Group, the largest utility grouping in the world. This solid progress directly reflects the achievements of our highly talented team.”

Technical Picture

We can see in the chart below several positive technical signals: a large pick up in volume in recent weeks as the stock fell to just below 20p, this is indicative of ready buyers at this level and we can see a sharp reversal in the price – weak hands are likely to have been ashed out; a rising RSI and, at the close this week, the probing of the downtrend that makes up the upper line of a falling pennant formation and that are invariably resolved to the upside. A weekly close above resistance at 26/27p would be a strong signal to bulls that a run towards 40p is on the cards.

ITM Power 2 year weekly chart

Recent News

In recent weeks very positive news was released in relation to the funding of upto £11m by the Business Minister Matthew Hancock specifically for the creation of 15 hydrogen refuelling stations in the UK. At present Japan is way ahead of the rest of the world in this respect (unsurprising as they have no oil resources of their own yet hydrogen is abundant) and this renewed enthusiasm by the UK Government is positive for the indsutry. The full RNS can be see HERE. As the market leader in the UK in this space, it is logical to expect ITM to be in the vanguard of those companies receiving these orders.

An upbeat Trading Statement on the 7th October with details of mutliple revenue lines in the works can be read HERE.

Potential catalysts for a re-rating

It is worth noting also that peers in the U.S trade for 10 times and beyond the current enterprise value of ITM Power. There are, to us, a number of potential catalysts that could re-rate the stock – either an outright bid for the company as it languishes at effective pocket change for the likes of Ballard Power or Plug Power; a listing Stateside on Nasdaq as the ITM management increasingly look to increase their exposure in the States (and globally for that matter) or the arrival of a corner stone investor at a premium – perhaps one of the autoplayers such as Honda or indeed Thuga.

We leave you with comments from the company itself in relation to the market opportunity that is outthere in just the power to gas market and that puts the investment case into context:

On current pricing for ITM’s 1MW containerised power-to-gas unit and estimating 20% utilisation, this is a £16bn revenue, £6.4bn gross profit opportunity for ITM by 2020. This is just German wind now. In reality, the same situation and therefore opportunity exists in multiple geographies for both wind and solar. This power-to-gas solution makes large scale renewable storage possible and potentially permits full renewable generation.

James Faulkner & Richard Jennings, Titan Inv Partners