Please note: This newsletter is for general informational purposes only and should not be construed as financial, legal or tax advice nor as an invitation or inducement to engage in any specific investment activity, nor to address the specific personal requirements of any readers. (Full disclaimer below).

Key Takeaways:

• The rapidly growing battery energy storage system (BESS) market is projected to expand ~7x to 3 TWh globally in the next decade to support expansion of renewable power

• BESS has some key advantages: falling costs, improving energy density, zero emissions, scalability, stackability (ability to generate multiple revenue streams: trading, ancillary services, capacity markets) and rapid response

• Key grid-scale BESS value drivers include power market volatility, spare generation scarcity, location, duration and availability

• Industry risks include revenue volatility, connection delays, dispatch order, duration congestion, market design, interest rates, availability of finance, disintermediation and gas price fluctuations. Key mitigations involve diversifying the size, duration and location of projects, operating across uncorrelated markets and using different contract types and commercial models.

• The three London-listed and primarily GB-focused BESS specialist investment trusts (GSF, GRID and HEIT) have all faced challenging conditions over 2023-24, leading to significant discounts to NAV. These are risky investments given their exposure to unpredictable market conditions, their small capitalisations and limited ability to raise new capital.

• However, there are signs the market could steadily recover over 2025-26. GSF looks best placed to benefit due to its newly enlarged and more diversified portfolio, evolving commercial model, lower leverage and capex flexibility.

Disclosure: Based on the below analysis, a small investment in GSF has been added to the Energized portfolio.

Batteries’ role in the evolving energy system

It’s no secret that renewable power is quickly gaining market share around the world as capacity rises and installation costs fall. But for consistently high shares of power supply, solar and wind need clean flexibility to balance variable output. That’s why battery energy storage systems (BESS) are rapidly emerging as a highly scalable, commercially viable solution that can provide the rapid response to unlock a future of reliable clean power.

While clean electricity is taking larger shares of supply, power demand is set to enter a new phase of growth, estimated at 4% annually over coming years. Electrification – notably the growth of electric vehicles, heat pumps, air conditioning and data centres – is a fundamental driver. At the same time, grids need to be cleaner and more secure. The result is rapidly increasing BESS investment, which rose 36% to $54bn globally last year, according to Bloomberg data, leading to 69 GW / 161 GWh (44%) expansion in capacity and output respectively. Wood Mackenzie forecasts the global energy storage market to grow by nearly 7x to 1 TW / 3 TWh by 2035.

Here in the UK, the Clean Power 2030 target to increase clean electricity from a 45% share last year to 95% over just the next 5 years implies very high battery storage demand. The Department of Energy Security and Net Zero (DESNZ) expects that to require battery capacity to increase by 6-7x, from 4.8 GW today to 29-35 GW by 2030. Whether or not such ambitious targets are achieved, the direction of travel is clear. Likewise in Europe, battery storage capacity is also forecast to grow around 5x by 2030 from around 10.8 GW today.

Energy storage: encouraging fundamentals

Besides their lower emissions than natural gas, batteries are also getting more cost competitive thanks to lower critical mineral prices, growing manufacturing capacity and greater economies of scale. Once installed, they are relatively cheap and straightforward to operate. The energy density of batteries is also steadily improving, meaning better efficiency and performance from each pack.

Key commercial attributes of BESS systems include:

• Stackability: an asset’s ability to generate multiple independent revenue streams such as trading price volatility while providing various services to the grid

• Scalability: more scope to scale up than pumped hydro schemes, which are very long-lead projects limited to specific geographies

• Rapid response: the ability to react instantaneously to supply and demand fluctuations or unexpected changes in frequency

Grid-scale storage can also support energy security: by increasing the share of local renewable supply they can limit the call on fossil fuels, reducing import dependence. That should ultimately make power systems more resilient and better value in an increasingly polarised and fractious world.

The economic case for BESS

Grid-scale storage can benefits from diversified revenue streams, enabling a variety of monetisation strategies:

• Wholesale energy trading: trading the volatility in power prices between times of low and high demand relative to supply. More weather dependent power systems mean greater volatility in supply and therefore pricing, enabling battery operators to trade the spreads between often very predictable price peaks and troughs. Batteries can be particularly profitable during the brief, irregular periods of weather and/or demand driven extreme market tightness that can drive sky-high prices.

• Ancillary services: frequency regulation (e.g. 50 Hz in UK), voltage control, reserve services, black start capabilities

• Capacity markets: ensuring adequate generation capacity is available to meet demand peaks – usually subject to longer-term contracts

Key value drivers for BESS assets include:

• Scarcity: less spare grid capacity implies a higher value for available flexibility solutions as the potential for price spikes increases. With UK coal-fired power now gone, nuclear capacity dwindling and little new pumped hydro capacity on the horizon, batteries will increasingly compete with gas to be the marginal source of flexibility. High electricity bills – fundamentally driven by high gas prices – are a major issue in the UK. Increasing use of batteries rather than gas to balance the grid is one way to mitigate it.

• Volatility: absolute power price levels matter less than how much those prices fluctuate. In wind-heavy markets like the UK, battery revenues tend to be correlated with wind generation, which drives pricing volatility. Negative power prices, periods of excess supply, are on a rising trend – reaching 176 hours in the UK last year. As that volatility increases, so does the price of curtailment: the amount paid to switch off UK wind turbines reached c.£1 billion in 2024 and could reach £6 billion by 2030.

• Location: value can be higher where there is significant grid congestion or high renewable supply – hence the increasing trend towards co-location with renewables, which drives higher value for both assets

• Duration: longer-duration systems are typically more differentiated and valuable than shorter duration

• Availability: being available consistently where and when required to capture value, which can be sudden and unexpected during unplanned outages

Key risks

This picture also brings with it several industry-wide risks:  

• Revenue volatility: volatile merchant revenue (driven by periodic price extremes) rather than steady contracted revenue can be unreliable and difficult to match with servicing debt facilities

• Connection bottlenecks: significant backlogs in connecting new assets to the grid is a major problem across many markets

• Dispatch order: BESS utilisation is a function of how well the system operator is set up to use them – this has been a major problem in the GB market

• Duration congestion: higher supply of short duration (e.g. 1-hour) assets reduces their relative value. This is leading operators to invest in augmentation as longer duration assets can extract more value.

• Market design: in some countries, the power market is national, in others it is regional or even more local. This is a big debate with advocates for each approach. Any switch from a national to a zonal pricing regime could change BESS economics depending on their location.

• Interest rates: as with renewables, higher capex relative to opex means greater exposure interest rate risk

• Availability of finance: required to support further portfolio growth. In particular, investment trusts cannot issue new shares below NAV, which means a heavy discount effectively closes the door to any new equity capital to strengthen a balance sheet.

• Disintermediation: the trend towards renewable & battery co-location could limit the scope for pure BESS projects to maximise utilisation and value

• Lower gas prices: if gas prices fall, as looks likely over coming years, this could incentivise higher use of gas for grid balancing and make it harder for batteries to compete on cost.

For BESS operators, riskmitigation strategies typically involve diversification of:  

• projects (size and location)

• markets (regional, national, international)

• contract types (merchant vs longer-term or tolling)

• durations (2-hour and 4-hour now becoming increasingly common)

• commercial models (actively or passively managed, pure-play orintegrated, level of development or operating risk).

How to invest: energy storage investment trusts

One way to gain exposure to BESS in the UK is via pure-play energy storage investment trusts, of which there are three listed in London:

• Gore Street Energy Storage Fund PLC (LON: GSF)

• Gresham House Energy Storage Fund PLC (LON: GRID)

• Harmony Energy Income Trust PLC (LON: HEIT)

The objectives of these trusts are broadly similar: to construct and operate balanced, diversified, technology-agnostic portfolios of utility scale storage assets, generating attractive and sustainable dividends as well as providing some capital growth. Collectively, they represent around one third of total UK BESS market capacity.

However, these three trusts have all had a torrid time in the past couple of years:

• GRID: peaked at 179.50p in Sep 2022 and has since fallen steadily, now trading at around a quarter of that peak price.

• GSF: likewise fell from a 2022 peak of 123p to a recent low under 45p.

• HEIT: from late 2022 to early 2024, it lost nearly 80% of its value, falling from 125p down to a low of 33.50p, before recovering to ~65p.

What went wrong?

Over 2023-24, UK grid-scale battery revenues fell by up to 70%, forcing these funds to modify or suspend dividends entirely. Market conditions became more challenging for several reasons:

• Declining gas prices after the 2021-23 energy crisis contributed to lower wholesale power price volatility, reducing price arbitrage opportunities

• Oversupply of BESS for ancillary services reduced clearing prices

• The UK National Electricity System Operator (NESO)’s systems were not set up to prioritise BESS over gas-fired power. Upgrade of the Open Balancing Platform (OBP) had been expected to start mitigating this in 2024 by enabling more efficient utilisation of BESS assets, but this has been affected by technical problems.

• New projects were hit with commissioning delays due to grid connection bottlenecks, leading to under-utilisation.

These factors have caused deepening investor pessimism on the UK listed battery fund sector, reflected in extremely deep discounts to NAV. Assessing the impact on each investment trust in turn:

Gore Street Energy Storage Fund

Launched in 2018, GSF has to datebuilt up a 753.4 MW / 924.1 MWh operational portfolio across 28 projects in the UK, Ireland, Germany and the US (California and Texas), with another ~500MW in the pipeline. Revenues have been historically generated mainly in Ireland and the UK, split 85% grid balancing, 8% trading and 7% peak shifting. Average revenue fell from over £15/MWh to below £11/MWh in 2024, which GSF forecasts to recover slightly to £12.32/MWh in 2025.

GSF’s September 2024 Net Asset Value (NAV) per share is 100.5p, down from 107p in July 2024. The current share price around 47p is therefore an eye-watering 53% discount to NAV. Clearly, the market doesn’t give much credence to the latest NAV. It was trading at a small premium until April 2023, but the discount has steadily widened ever since.

On the plus side, GSF is less financially leveraged than its peers: its debt facilities comprise a fund-level £100m RCF with Santander and a project-level $90m loan for its newly operational Big Rock asset in California. GSF’s revenues are also more diversified across different markets than the other two trusts, albeit still quite concentrated in GB.  

GSF describes recent headwinds asdriven by the “mismatch between investor expectations (fixed dividends) and the product’s merchant nature”. In other words, power price trading revenues have been too low and unreliable to service debt and support steady investor payouts. In July 2024, GSF reduced and reweighted its dividend towards Q4, to match it more closely to actual cash flow generation.

More positive news arrived in January 2025 with the successful energisation of the 200 MW / 400 MWh Big Rock asset, which raised GSF’s fully energised capacity by nearly half, from 421 MW to 621 MW and more than doubled it on a MWh basis. This project should provide more predictable long-term revenue thanks to a 12-year fixed price Resource Adequacy contract from June 2025, with an estimated value of over $165m.

Two further development assets, Dogfish (75 MW / 75 MWh, Texas) and Enderby (57 MW / 57 MWh, UK), have also just been completed, bringing GSF up to 753.5 MW / 924.1 MWh total capacity, which should support stronger cash flows going forward. In parallel, GSF is looking to recycle capital via disposal of lower-value assets while adding lower cost new capacity where available.

Gresham House Energy Storage Fund

Likewise launched in 2018, GRID has an 845 MW / 1,207 MWh portfolio across 26 projects solely in the GB market. Further additions are projected to reach 1,072 MW by the end of Q1 2025, giving it a market share of ~20%. Revenues are split across trading, frequency response, capacity market and a new tolling agreement with Octopus Energy. The current share price represents a huge 57% discount to the September 2024 NAV of 109.9p/share.

Over 2023-24, market headwinds also meant GRID struggled to match its debt service requirements with weak and volatile cashflows. Management had to cancel the final 2023 dividend payment, suspend 2024 dividends, start rebalancing the portfolio towards long-term contracts versus merchant revenues and initiate a debt refinance. If the latter completes and 2025 EBITDA is on track for the guided £45-55m range (generating cash flow of 4.5-6.2p/share), GRID aims to reinstate its dividend in Q3 2025 with a view to sustainable, full coverage after costs, with three equal smaller distributions and one larger one at year end.

In an effort to reboot the investment case, in late 2024 GRID laid out a new three-year plan aiming to triple earnings to £150m by 2027. Core elements include balancing capital allocation between growth and income, disposals to help deleverage, shifting towards contracted revenues and augmentation of certain projects – e.g. from 1 to 2 or even 4 hours.

For now, though, key risks for investors include whether market conditions will recover to restore revenues to a sustainable level, whether the debt refinance will be successfully achieved on reasonable terms, the timing and level of any dividend reinstatement, and how to manage single market (UK) concentration risk given the exposure to NESO’s Open Balancing Platform.

Harmony Energy Income Trust

Founded in 2021, HEIT is a smaller fund with only 8 projects in its portfolio, all UK-based and 2-hour in duration, giving it a total of 395.4 MW / 790.8 MWh, with a 369.4 MW pipeline of development projects.

Over January 2024 alone, HEIT’s shareprice halved from around 80p to below 40p, since when it has been steadily recovering to the current level in the mid-60s. The current share price is a lower, but still substantial 29% discount to the October 2024 NAV/share of 88.51p.

In such a difficult GB operating environment, HEIT was forced not only to scrap its dividend in May 2024 but also launch a sale process, which is expected to reach fruition in the coming weeks. GSF or GRID could be interested to acquire HEIT’s portfolio, subject to available funding, as 2-hour duration projects may fit their portfolios fairly well.

How does the investment case look now?

Overreliance on merchant revenues has been a failing strategy for these funds over 2023-24. Perhaps a more accurate view is that those two years were a reversion towards the mean after an exceptional 2021-22 period of extreme gas and power price volatility. Either way, lack of diversification backfired particularly for GRID and HEIT, with weak trading margins, an oversupplied frequency response market no ability to mitigate exposure to NESO’s trading system.

Strategic responses to these challenges have been in three main categories:

• Financial refocus: cash preservation, suspension of dividends, capital discipline, debt reduction, opex savings, share buybacks – all in all the typical shift in approach from volume towards value

• Commercial refocus: re-weighting towards long-term contracted revenue, asset augmentation (quicker and cheaper upside than greenfield projects), and more proactive strategies to maximise value based on each asset’s size, location and duration

• Portfolio refocus: limiting new development risk, upgrading and diversifying portfolios, seeking asset disposals and/or selling out entirely.

A second wind?  

So will such deep NAV discounts continue indefinitely or can these strategies bring a recovery? Could this be a timely long-term entry point? There are signs of cash flow recovering, which if sustained could lead eventually to more sustainable dividend payouts and share price revaluation. GB BESS revenues started to rebound in late 2024. At £84k/MW/yr, December 2024 saw the highest average revenues in in two years, compared to an average of around £50k/MW/yr over the rest of the year. It remains to be seen if this proves an anomaly or the start of sustained recovery. For context, average revenues prior to 2023 were typically over £130k/MW/yr.

Meanwhile, costs are decreasing. Arguably these funds have suffered from something of a first mover disadvantage, building earlier projects at higher prices. But that is changing. For a 2-hour UK system, capex fell from >£800k/MW to ~£600k/MW from 2022 to 2024. There are clear parallels between the (Chinese dominated) solar and battery supply chains: costs have been falling in both with significant economies of scale and manufacturing oversupply of these highly modular systems. This should continue to steadily reduce project development costs.

Beyond this, the logic of exposure to GB power price volatility looks compelling given the rise in intermittent renewable supply and the strong state support behind it. There is a fundamentally growing need for flexibility solutions. The real question is, who benefits? Recently, perhaps gas plants more than BESS, but that should change. While December 2024’s higher revenues were driven by two days of very high prices, NESO’s introduction of the Quick Reserve service, designed to enhance frequency management, also played a role. Access to Quick Reserve is to be expanded over the first half of 2025.

As for the OBP upgrade, key to unlocking higher BESS utilisation, NESO’s public statements suggest incremental improvements over 2025-26 until full completion by 2027, creating a steadily more BESS-friendly GB market.

So who looks best value?  

Despite what should be significant tailwinds for the BESS industry, it’s clear that these investment trusts remain a complex, volatile and unpredictable sector in which to invest. On balance, GSF currently looks the most attractive prospect for several reasons. First, while the share price remains close to its recent all time low and below half the NAV, unlike the other two it has at least to date not had to suspend dividends, perhaps partly thanks to its lower leverage than the peer group (15% of GAV). The originally stated dividend target of 7% of NAV (i.e. ~7p) implies an unrealistic yield of over 15%. The actual level will be driven by cash generation, so a more realistic 3.5-4p would still make an attractive 7-8% yield. That said, there remains a clear risk that no dividends will be possible without sustained improvement in market conditions. GSF states that it: “continues to explore the optimal dividend strategy to meet the merchant nature of the asset class”.

Second, GSF has the benefit of operating across five uncorrelated grids, rather than only one (soon to be six with expansion into Japan), with 61% of its 753.4 MW now being ex-GB. This diversification should help to keep revenues more stable and potentially higher per MW than the peer group.

Third, the recent addition of three key assets, Big Rock, Dogfish and Enderby, in three different grids has the potential to be, if not quite a portfolio gamechanger, then a substantial step up in scale and ability to generate predictable revenues. While their completion did require additional debt finance, it could allow flexibility in future capex spend as GSF refocuses on boosting cash flow.

Finally, GSF is not just an investment manager, it has experienced development, technical and commercial teams to build and derive maximum value from the portfolio. Their traders use a purpose-built in-house platform to optimise revenues from each asset based on location, duration, configuration and size, while their in-house procurement capabilities should help them deliver the 500 MW pipeline at reasonable cost.

All that said, another year like 2024 would put GSF under liquidity pressure, potentially forcing cancellation of the dividend, which was not covered by cash flow last year. After a few years of steady earnings per share in the 12-16p range, GSF fell to a 1p/share loss for the financial year ending 31 March 2024. It now forecasts revenues to rebound from £37.7m or £10.83/MWh in calendar 2024 to £72m or £12.32/MWh for the financial year ending March 2026 - still some way below the £15.1/MWh for 2023-24.

On that note, GSF expects to receive $60-80m during 2025 from selling qualifying US Investment Tax Credits (ITCs), thanks to its US investments under the Inflation Reduction Act. While this was pre-Trump, GSF states that eligibility has not been affected by the new administration. However, any unexpected issues with monetising these ITCs could be a real setback for liquidity.

One other potential weakness is GSF’s relatively low average duration at around 1.23 hours, which may limit scope to generate higher returns. GSF argues that it has become progressively cheaper to invest in augmentation and that it will do so opportunistically in the GB market where this can add value.

Besides all the usual risks of small-cap single-company investment, it’s worth reiterating that the BESS industry risks identified above make this a risky proposition. Those are: revenue volatility, connection delays, dispatch order, duration congestion, market design, interest rates, availability of finance, disintermediation and gas price fluctuation.

For further background on GSF, founder Alex O’Cinneide has been interviewed on various podcasts, the most in-depth of which can be viewed here:

https://www.youtube.com/watch?v=o3knOh7VJ4E

The chart below shows the relative performance of the GSF, GRID and HEIT share prices over the past two years, up to 27 February 2025: