Octopus VCT 3 plc : Half-yearly report

Octopus VCT 3 plc

Unaudited Half-Yearly Report for the Period Ended 29 February 2016

23 May 2016                                                                                                                     

Octopus VCT 3 plc, managed by Octopus Investments Limited, today announces the Half-Yearly results for the period ended 29 February 2016.

These results were approved by the Board of Directors on 23 May 2016.

You may, in due course, view the Half-Yearly Report in full at www.octopusinvestments.com by navigating Investors, Octopus VCT 3 plc.  All other statutory information will also be found there.

Financial Summary

Chairman's Statement  

I am pleased to present the half-yearly report for Octopus VCT 3 plc for the period ended 29 February 2016.

Performance
Due to the nature of the Company's investments, which have a planned 25 year life, the NAV is designed to fall to zero over the life of the Company. This is because the Company intends to pay annual dividends and the value of the investee solar companies reduces as their remaining years of operation decline over time. Because of this factor and others explained below the underlying NAV has decreased from 85.7 pence per share at 31 August 2015 to 78.1 pence per share at 29 February 2016, while the Total Value per share, including dividends paid to date of 15p stands at 93.1p (down from 95.7p at 31 August 2015).

The power generating companies which together comprise the portfolio have been revalued to reflect current market conditions and the reduction in their revenue generating lives since inception. To date they have performed in line with expectations, and have made total distributions of £1,239,000 (equivalent to 12.5 pence per share) to the Company.

The drop in NAV is slightly higher than expected because valuations have been affected by falling power price forecasts in response to the reduction in global demand for energy. Projected power prices over the remaining life of the assets, as prepared by an industry expert, have been applied to forecast revenues with the result that the targeted NAV of 90p at the five year point is most unlikely to be achieved. In addition, if forecast power prices do not recover the continued payment of an annual dividend of 5p over the complete life of the Company is under threat. Forecast energy prices are volatile, so this conclusion may change over time. The current forecast energy price leads to a projection showing that the Company could pay an annual dividend of circa. 4.4p until the end of the investment horizon.

Regarding revenue generation, the level of irradiance during the winter months was lower than anticipated resulting in some under-performance leading in turn to a reduction in revenues over the past six months. On the other hand, the technical issues which affected two sites in the portfolio are being resolved and production is gradually returning to expected levels. Furthermore, the Company has entered into Power Purchase Agreements (PPAs) for sale of electricity at a fixed price which is higher than the current wholesale electricity price.

While recent performance has been below budget, revenue generated since the start of operations is greater than that budgeted, due largely to better than anticipated electricity revenues negotiated through the fixed price PPAs.

Please see the table below for movements in NAV from 31 August 2015 to 29 February 2016, including dividends paid during the period.

The focus remains on generating revenues to pay the targeted 5p annual dividend. In order to maintain returns to investors the fixed running costs of the Company are carefully controlled, but the smaller than anticipated amount of funds raised for the Company in 2011/2012 and the resulting reduction in economies of scale leaves less margin for protection of the dividend than would otherwise have been the case.

Investment Policy & Portfolio
The Company is fully invested into seven companies, each containing an operational solar site. These sites have a range of capacities between 1 and 2MW and benefit from either the Feed in Tariff (FIT) or Renewable Obligations Certificates (ROCs), which form part of their revenue stream alongside the electricity they sell on the wholesale market.

The sites have been operating for over three years and have been performing satisfactorily as a portfolio since the start of operations. However, as mentioned in the Year End Financial Statements in August 2015, two sites in the portfolio had experienced a number of technical issues which resulted in under-performance and loss of revenues for those specific sites. The issues are being resolved and overall, the portfolio companies are generating revenues in line with their forecasts and receiving revenues on a regular basis.

There are no plans to make any further qualifying investments as the Company intends to hold the assets for their full operating lives of 25 years.

The Company also holds a small portion of funds for making short term non-qualifying loans from which it earns interest. Within the period under review repayments were received in from Daubree Energy (£172,000), Debes Energy (£102,000) and Lacaille Energy (£43,000), together with accrued interest.

There has been a change in legislation by HM Treasury in response to European regulations whereby the Company will no longer be able to make non-qualifying investments. All new investments have to be qualifying and there are restrictions on the type of investments used for liquidity management. However, the existing holdings of non-qualifying loans to Delambre Energy and Huygens Energy may continue until maturity.

Cash and Liquid Resources
Cash is held on deposit with HSBC. As the Company is fully invested the amount of cash held by the Company at the period end is modest. Cash is paid from the solar companies up to the Company as and when needed to fund expenditure or pay dividends and the Company therefore currently holds no other deposit accounts or money market funds.

Principal Risks and Uncertainties
Now that the Company owns a portfolio of fully operational assets the number of risks faced is reduced as the core construction phases have been completed. Indeed all sites have now passed and signed off their final acceptance certificates (full two year performance testing), largely releasing the Engineering Procurement Construction of their contractual obligations to the site. The key risks on the ongoing operations are:

• Power Prices - Revenues are derived from two sources; first, the Government backed subsidies such as the FIT or ROCs and secondly; from selling the wholesale electricity produced by the solar sites. The wholesale electricity revenues, which represent over 40% of the total revenues are variable and will be subject to market forces. The Investment Team uses industry recognised forecasts to predict the electricity prices for the life of the sites. It also mitigates price fluctuations in the short term via forward selling the electricity by Power Purchase Agreements (PPAs) to reduce income volatility. However, it should be noted that long term power price forests can rise and fall, and therefore can have an impact on the value or NAV of the underlying solar sites.
• Site Technical Issues - all sites are potentially vulnerable to unforeseen technical issues and, to the extent possible, all equipment is warranted to industry standard levels. In addition, each site has insurance in place so that, in the event of a fault occurring that causes the plant temporarily to cease operating and generating revenues, the insurance coverage can be invoked to claim for such losses.
• Weather - all forecasts are based on an assumed level of sunlight each year, but this does vary significantly year-on-year, with a concomitant effect on revenues. However, a prudent approach is taken in the revenue forecasting to reduce the likelihood of this occurring.
• Site Market Value - there are a number of drivers of the value of a solar site. Underlying assumptions are continually revised for macroeconomic changes (e.g. inflation), industry specific drivers (e.g. electricity price forecasts, business rates, embedded benefits) and track record of specific site performance.
• Business Rates -business rates are due to be assessed and determined by October 2016. Currently, there is uncertainty over the potential impact which this revaluation may have, but given the proportion of the site operation costs it represents, it could affect future dividends and the NAV.  

VCT Qualifying Status
PricewaterhouseCoopers LLP provides the Board and Octopus, the Company's Investment Manager, with advice on the ongoing compliance with HMRC rules and regulations concerning VCTs.  The Company's portfolio already exceeds the HMRC threshold which requires that 70% of the VCT's investments must comprise 'qualifying holdings' by the end of its third accounting period. As at 29 February 2016, qualifying investments represented 92.31% of the Company's portfolio. Octopus expects the required investment hurdle to be maintained.

Outlook
Over the preceding six month period the oil and gas price, the key market driver for the wholesale power price, has suffered a steep decline and forecast electricity prices have followed suit. The negative impact of low energy prices has affected the whole industry.

As it stands today and as highlighted in the annual report for the year ended 31 August 2015, the downward pressure on energy prices means that the 5p per annum dividend and the total return of 110p per share at the five year point are under threat. As a reminder, the 110p total return comprises of the sum of four annual dividends of 5p each and targeted NAV of the solar assets of 90p at the five year point (i.e. 5p x 4 + 90p = 110p).

It should be highlighted that the announcement by the Government in respect of ending the various subsidy regimes for large scale solar PV in the UK has had positive effect on the value of existing portfolio of those assets which continue to attract the subsidy. Prospective buyers of such assets have lowered their earnings expectations by a marginal reduction in the discount rate they apply to purchases, and this has been reflected in the valuation of the two ROC sites in your portfolio.

Gregor Michie
Chairman
23 May 2016

Responsibility Statement of the Directors in respect of the half-yearly report

We confirm that to the best of our knowledge:

• the half-yearly financial statements have been prepared in accordance with the statement 'Interim Financial Reporting' issued by the Financial Reporting Council;

• the half-yearly report includes a fair review of the information required by the Financial Conduct Authority Disclosure and Transparency Rules, being:

• an indication of the important events that have occurred during the first six months of the financial year and their impact on the condensed set of financial statements;
   
• a description of the principal risks and uncertainties for the remaining six months of the year; and
   
• a description of related party transactions that have taken place in the first six months of the current financial year, that may have materially affected the financial position or performance of the Company during that period and any changes in the related party transactions described in the last annual report that could do so.

On behalf of the Board

Gregor Michie
Chairman
23 May 2016

Income Statement

There is no other comprehensive income for the period.

• The 'Total' column of this statement is the profit and loss account of the Company; the revenue return and capital return columns have been prepared under guidance published by the Association of Investment Companies.
• All revenue and capital items in the above statement derive from continuing operations.
• The Company has only one class of business and derives its income from investments made in shares and securities and from bank and money market funds.
• The Company has no recognised gains or losses other than the results for the period as set out above.
• The accompanying notes are an integral part of the half-yearly report.

*Held at fair value

The statements were approved by the Directors and authorised for issue on 23 May 2016 and are signed on their behalf by:

Gregor Michie
Chairman

Company Number: 07744056

  Statement of Changes in Equity