ORA - Massif Capital - Ormat Technologies: Keep An Eye Out For A Catalyst

Summary

• We shorted Ormat Technologies last year as the firm appeared to be unprofitable.
• We probably should have never shorted Ormat in the first place.
• Shorting on pure valuation is challenging and rarely works in a way that allows the short seller to hold the position with conviction through the realization of the return.

The following segment was excerpted from this fund letter .

Ormat Technologies ( ORA )

We shorted Ormat Technologies last year as the firm appeared to be an unprofitable geothermal-focused independent energy producer borrowing money to grow an even less-profitable U.S. renewables energy business. Along with eroding the company's margins, we expected numerous executional challenges in the build-out of Ormat's new U.S. renewable business. We got impatient as it increased from our short price of roughly $75 to $100, and we closed out the position. At the time, we noted the following:

"Reviewed earnings [3rd Qtr 2022] and found that although execution had struggled, the impact was minimal, the future impact of the IRA [Inflation Reduction Act] on the firm's independent power production is uncertain (although almost assuredly positive), as such the business appears likely to maintain, at least for some period, its high earnings margins relative to independent power producing peers. We cannot find a reason to question the high margins' near-term sustainability, but long-term sustainability should be in question. Nevertheless, we do not see a catalyst in the future to prompt a repricing or reevaluation of the multiple being placed on unsustainably high earnings or a catalyst that will send the high margins lower in short order, despite the fact the stock is clearly overvalued on fundamental earnings and cash flow basis. Absent a catalyst, it seemed prudent to exit the position."

Given the weakness of our initial catalyst, a rather vague, non-specific idea that the firm would struggle to execute its build-out of a U.S. renewable business and struggle in a sufficiently public way that management could not paper over those struggles with a positive outlook, this should probably be summed up as a valuation short. The longer term issue of margin dilution via the introduction of a new lower-margin business that would eventually be sufficiently sized to drive the firm's margins is still a reality, but the timeline associated with it is somewhat difficult to judge.

As such, we probably should have never shorted Ormat in the first place, as it lacked a material catalyst that would result in a long-term fundamental trend getting incorporated into the immediate narrative surrounding the company. Shorting on pure valuation is challenging and rarely works in a way that allows the short seller to hold the position with conviction through the realization of the return. Many readers will be familiar with the old Wall Street adage that the market can stay irrational far longer than you can remain solvent; this adage seems to encapsulate the challenge of shorting based on valuation. Ormat can stay afloat a while longer and probably far longer than we are happy sitting on a roughly 33% draw down on a 3% position, but we will keep an eye on it; one never knows when a useful catalyst may appear.

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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