Spa Day
It’s the distant past — the year 2010. Delightful eddies of steam rise from the pool thick with minerals as you bath at a hot spring and wonder: "Iceland is so lucky to have geology that supports renewable energy without wild swings in capacity, thorny beginning and end-of-use issues, and decreasing generation over time." Then Eyjafjallajökull explodes and you have different, more pressing thoughts as you dodge molten rock screaming down around you.
Iceland draws about two thirds of its power from geothermal sources. Geothermal power is great as long as you're OK living on top of an active volcano. Probably.
No volcanos needed
The volcano problem looks likely to go dormant. Fervo Energy is the furthest along of a handful of companies pursuing geothermal solutions that don't require sitting on top of a volcano. It'll spin the turbines on its first commercial plant later this year.
The idea is simple: drill down deep enough until you get to the part of the earth that's hot. Pipe that heat to some turbines. That way you don't need to be right next to the heat source. The turbines turn and generate electricity without burning anything. Simple idea. Technically complicated. Fervo's first power plant is drilling 9,000 feet deep, then making a left turn and drilling 5,000 feet sideways to gather as much heat as possible.
It's still a science project today, but there's lots of smart people and smart money behind it. What's interesting today, though are the pieces that go into that science project. It needs lots of pristine, immaculately reliable, unfathomably durable pipes.
Pipe down
Enter Vallorurec. It's a French pipe company. It makes pipes in the US. It's historically supplied those to US frackers.
The fracking business is not a great one. The business attracts a certain stripe of oilman prone to boom and bust. Vallourec went through its own restructuring back in 2020. Since then its improved its business. It's shed debt. It's shed commodity operations like rolling mills. It's focused on what it does best: making really good pipes.
It also makes money, something its sometimes struggled with. But given its checkered history and the dubious reliability of demand for fracking pipes, investors don't give it much credit.
New geothermal outfits need similar pipes, but way better. They need to last 30 years. They need to operate in 500 degree Celsius environments and endure drilling through molten rock.
In April, Fervo agreed to a long-term supply agreement for Vallorec's pipes. Vallourec thinks it's geothermal kit will chip in up to 15% of the business' earnings by 2030. Today they bring in close to nothing.
There are a few important takeaways:
The geothermal branch of the business will move forward under much more structured terms than the fracking business — long term contracts improve visibility.
Customers value certainty — Fervo and its primary offtake customer, Google, want certainty — it'll be less risky.
Fewer competitors are able to deliver the specifications geothermal customers need — its less competitive.
The margin on these highly engineered solutions is higher than the company's conventional menu — it'll be more profitable.
And, if geothermal solutions take hold, there's room for a massive market. The Fervo contract runs $800M over five years, but only covers a fraction of its 41GW capacity ambitions. Its geothermal peers will need pipes too.
Vallourec's price gives investors a chance at the full treatment: The comfort of having restructured its debt. The peace of mind that it's sold off underperforming assets. The dream of what it might become if even some of these geothermal projects commercialize and become a success. The new geothermal adventure is a much better business than its old one, one that could pipe in much greater value to shareholders. Right now, the market is offering it up gratis.
Disclaimer: None of this is investment advice. It's meant to illustrate ways LCM thinks about investing. Things that LCM decides are good investments for LCM and its clients are based on many criteria, not all of which are covered here. Some or all of LCM's ideas may not be suitable for other investors. LCM does not recommend investing either long or short any position mentioned. LCM may own positions in some of the companies mentioned. Some of its ideas will lose money — investing entails risk. See full disclaimer here.