Critical Review Of Valuation Modelsa Valuation Of The Intrinsic Value Of Vestas Wind Systems

24 Figure 5: Self-reinforcing relation: Government support, Demand, and Cost reductions...24 Figure 6: Industry Analysis using the Five Forces Framework – Overview...27 Figure 7 In-depth

Executive Summary

This thesis is motivated by the challenges of contemporary finance in appraisingcompanies according to their underlying, intrinsic value Scholars and practitioners withinthe field of financial analysis have searched in futility for an efficient and accurate valuationtechnique; a single, magic wand that could estimate companies’ intrinsic value accurately.Instead, several competing contemporary valuation methods occupy the literature today The purpose of the thesis is to find the intrinsic value of Vestas To do so, this thesis willevaluate and discuss contemporary valuation models in order to choose the mostappropriate models Vestas is of particular interest being a Danish market leader within amajor growth industry Under the current momentum that wind power enjoys, it isrelevant to examine if the intrinsic value of the company deviates from the current marketprice

In order to answer the thesis statement, the environmental, competitive, and internalsituation of Vestas will be addressed The strategic analyses reveal the profitable prospectsfor the industry, but also disclose an enormous dependence on political support Vestasalso faces an increasingly tougher competition A historical financial analysis reveals thatVestas’ has increased profitability, mainly due to low working capital and an improvedgross margin

By synthesising the strategic and financial analyses, the intrinsic value of Vestas is thenderived under three different scenarios The estimates are then examined via a sensitivityanalysis, which is supplemented by a simulation and a peer group analysis

The thesis finds an intrinsic value estimate of 53.91 EUR but also note significant,theoretical issues within the employed financial theory This thesis therefore stresses thatestimates, share price targets, buy/sell recommendations, and so forth should be treatedextremely critically and one must not be seduced by precise formulas with impreciseassumptions (Graham 1974)

The concept of future prospects and particularly of continued growth in the future invites the

application of formulas out of higher mathematics to establish

the present value of the favored issue.

But the combination of precise formulas with highly imprecise assumptions can be used

to establish, or rather justify, practically any value one wishes.

Harper and Row, New York, pp 315-316

Brief Table of Contents

EXECUTIVE SUMMARY I

PART I – THESIS INTRODUCTION 1

PART II - CRITICAL REVIEW OF VALUATION MODELS 5

PART III – STRATEGIC ANALYSIS OF VESTAS 21

3 COMPANY PROFILE 21

4 EXTERNAL STRATEGIC ANALYSIS 22

5 INTERNAL STRATEGIC ANALYSIS 36

PART IV – FINANCIAL STATEMENT ANALYSIS OF VESTAS 42

6 HISTORICAL FINANCIAL ANALYSIS 42

PART V – VALUATION OF VESTAS 48

7 ESTIMATING THE COST OF CAPITAL 48

8 VALUATION 54

9 CONCLUSION 69

10 BIBLIOGRAPHY 71

11 APPENDICES 77

COMPREHENSIVE T ABLE OF CONTENTS

PART II - CRITICAL REVIEW OF VALUATION MODELS 5

PART III – STRATEGIC ANALYSIS OF VESTAS 21

3 COMPANY PROFILE 21

4 EXTERNAL STRATEGIC ANALYSIS 22

4.1 E NVIRONMENTAL A NALYSIS – U SING THE PESTED F RAMEWORK 22

4.2.2 Putting Porter into Perspective – Dynamic Analysis 31

4.3 C OMPETITOR AND D EMAND A NALYSIS – A W ORLD M ARKET U PDATE FROM V ESTAS ’ PERSPECTIVE 32

5 INTERNAL STRATEGIC ANALYSIS 36

PART IV – FINANCIAL STATEMENT ANALYSIS OF VESTAS 42

6 HISTORICAL FINANCIAL ANALYSIS 42

PART V – VALUATION OF VESTAS 48

7 ESTIMATING THE COST OF CAPITAL 48

8.1 I NTRODUCTION 54

9 CONCLUSION 69

10 BIBLIOGRAPHY 71

11 APPENDICES 77

11.10 Three peer group analyses: Wind, Solar, Industrials 87

LIST OF FIGURES

Figure 1: Displaying the two main groups of valuation approaches 5

Figure 2: Displaying the four main categories of valuation models 7

Figure 3: PESTED-analysis - Overview 23

Figure 4: Impact of PTC expiration on annual installation of wind capacity on US market 24

Figure 5: Self-reinforcing relation: Government support, Demand, and Cost reductions 24

Figure 6: Industry Analysis using the Five Forces Framework – Overview 27

Figure 7 In-depth presentation of Threat of Substitutes analysis 28

Figure 8: Relative energy prices for different energy sources 29

Figure 9: Five Forces Framework in a time-oriented perspective 31

Figure 10: BTM Consult’s figure showing the top ten suppliers’ market share and presence in 2008 33

Figure 11: The leading suppliers in the top 10 markets in 2008 34

Figure 12: Value chain activities as well as their competitive and financial implications .37

Figure 13 Summarising SWOT-analysis 41

Figure 14: Historical growth rates – Geographical segments 43

Figure 15: Decomposing ROIC-tree for Vestas based on 2005-2008 annual reports 44

Figure 16 Expense groups in Vestas in percent of total revenue 2005-2008 45

Figure 17: Vestas’ Credit Risk in the Lundholm Framework 47

Figure 18: Estimated market premiums in recent research - S&P 500 49

Figure 19 Rolling 2-year beta regressions against the MSCI World index 51

Figure 20 Historical and future decomposition of Vestas’ WACC 53

Figure 21 Overview of forecast drivers in the different valuation periods 55

Figure 22 Development in growth, ROIC, EBITA and gross margin in the base case scenario

57

Figure 23: Development of EP and FCF in the detailed forecast period 58

Figure 24 Development in growth, ROIC, EBITA and gross margin in the bearish scenario 59 Figure 25 Development in growth, ROIC, EBITA and gross margin in the bullish scenario 60

Figure 26: The three scenario share price estimates and the weighted share price estimate 61

Figure 27: Sensitivity Analysis – Effect on share price, table and graph 63

Figure 28: Histogram of simulated share price estimates 64

Figure 29 Peer Group analysis of Vestas against Wind Energy Peers 66

Figure 30 Overview of the price targets in EUR from analysts and this thesis 67

Part I – Thesis Introduction

1.1 Introduction

Central within renewable energy is wind power Despite Denmark’s small size and lack ofheavy industrial tradition, the global market leader within the field is Vestas Wind SystemsA/S (Vestas) Danish (BTM 2008: 25) The company is the third largest Danish companymeasured on their 10.2 % market weight (Bloomberg: 14/04-09)

The main motivation behind this thesis the challenges of contemporary finance inappraising companies according to their underlying, intrinsic value (Penman 2007: vi)Vestas’ position is within a growth industry entailed by huge potentials but also major risks(BTM 2008: vi) Under the current momentum that wind energy enjoys, it is relevant toexamine if the intrinsic value of the company deviates from the current market price This paper is also motivated by the abundance of competing, contemporary valuationmethods and their different, theoretical foundations Although residual income, abnormalearnings, and real options models are prominent within academia, practitioners oftenrevert back to multiples and discounted cash flow models (Barker 1999) Therefore,contemporary valuation models will be evaluated and discussed in order to provide athorough overview of the valuation models

1.2 Thesis statement

The purpose of this paper is to find the intrinsic value of Vestas, which is of particularinterest being a Danish world market leader within a major growth industry This paperwill answer the thesis statement:

What is the estimated, intrinsic value of a Vestas’ share in a stand-alone case?

In order to answer the thesis statement, the following issues will be addressed

Contemporary valuation models and their theoretical backgrounds will be examined Theirdifferences, advantages and disadvantages, as well as their usage by practitioners will also

be critically reviewed The review will result in a selection of appropriate models for thevaluation of Vestas

In an external strategic analysis, the external factors that can affect the profitability of windenergy will be discussed The competitive situation of Vestas will also be addressed Aninternal strategic analysis shall discuss and clarify Vestas’ competitive advantages.

A historical financial analysis will reveal both past and current drivers of Vestas’profitability

Prior to the valuation, the problematic, theoretical issues concerning cost of capital will beaddressed in order to estimate Vestas’ cost of capital Synthesising the strategic andfinancial analyses will then enable a forecast of the pro-forma budgets Using the cost ofcapital, the intrinsic value of Vestas will be derived under base, bearish, and bullishscenarios The value estimates’ sensitivity to changes in key variables will be examined via

a sensitivity analysis, which will be supplemented by a simulation and a peer groupanalysis

1.3 Sources and literature

The paper is based on both qualitative and quantitative data The strategic analyses areprimarily based on qualitative, secondary data from market reports, journals, news papers,but also Vestas’ own publications and has therefore been treated very critically The sameapplies to the financial analysis, which is mainly based on quantitative, secondary datafrom Vestas’ annual reports Even though Vestas’ reports have been verified by publiclychartered accountants, all the material from Vestas is expected to be of a subjectivecharacter and displaying Vestas in the best possible light within the limitations of the law(Clatworthy 2005: 63-77)

One of the most significant providers of market information within wind energy is DanishBTM Consult BTM Consult, however, was founded in 1986 by two former Vestasemployees and maintains a strong cooperation with Vestas (Jensen 2003: 237) Forinstance, Vestas also recognises BTM as their market information provider (AR 2008:17).Therefore, special attention has been paid to any bias in the provided information fromBTM

A profound literature research was conducted in order to form the theoretical basis Most

of the relevant literature has been incorporated in the making of this thesis, althoughadditional texts could always have been included

The thesis has been performed from an external, long term investor’s perspective withoutany access to information from internal compartments of Vestas

The different valuation models will be reviewed and discussed in order to have anoverview of the different theoretical models, as opposed to using any arbitrary model.However, to maintain focus, there will be no empirical studies of the models’ accuracy orpractitioners’ usage of these models The discussion will be based on previous studies Thefinancial markets are also assumed to be efficient according to Fama’s Efficient MarketHypothesis, as there will be no in-depth discussion of this topic (Fama 1970) The thesis’focus within the finance area also means that the accounting standards and techniques ofVestas and shall remain largely uncommented

The terms “intrinsic value of Vestas” and “intrinsic value of Vestas’ share” can obviously beused interchangeably, as it is just a question of dividing by number of shares Still, focuswill be on the latter

The strategic analyses could easily have been extended in size, but the limited space hasbeen spent in other areas Therefore, the strategic analyses will be concise and summarised

in figures Nevertheless, all major findings have been included and the analyses stillprovide a comprehensive picture

This thesis has been written using British English Also, inclusive first person pronouns,

“we”, will also be employed to include the reader in the thesis for the purpose of linguisticvariation even though there is a single author

The annual report for 2008 was published February 11, 2009 The next quarterly report ispublicised April 28, just 3 days before the hand-in of this thesis Therefore, April 14 hasbeen chosen as the cut-off date.

Part II - Critical review of valuation models

2.1 Introducing the valuation conundrum

People working within the field of financial analysis have for decades been searching for anefficient and accurate valuation technique, the magic wand that can estimate companies’intrinsic values accurately (Gentry 2003: 3) Academics have sought after the wand inscientific endeavour, whereas professionals and investors have sought after competitiveadvantages and comparatively superior returns Both groups have been unable to develop

a universally applicable and accurate technique although various different models havebeen put forward (Gentry 2003: 3-4)

Ideally, the balance sheet of a company would precisely depict the current value of the firmand thus be traded at a P/B ratio of 1.0 As Penman notes, no such perfect balance sheetexists, hence the need for valuation techniques in the first place (Penman 2007: 199).Being able to valuate a firm accurately can make the difference between financial success

or failure, both for investors, acquiring firms, and so forth The purpose of this part of thethesis is to compare and evaluate all major valuation techniques in order to choose themost appropriate for a valuation of Vestas

2.2 The technical versus fundamental conundrum

Generally, we can divide valuation into two supra-groups, technical and fundamentalanalysis techniques

Figure 1: Displaying the two main groups of valuation approaches.

analysis is the method of analyzing information, forecasting payoffs from that information, and arriving at a valuation based on those forecasts… instead of market prices” (Penman

2007: 84 & 73) This is supported by Bauman (Bauman 1996: 1)

Within the fundamentalist approach, buying a share is not just buying an arbitrary piece ofpaper; it means that the investor is buying a piece of a business Therefore, Penman states

“If you are going to buy a business, know the business” (Penman 2007:14) Consequently, the

starting point in the fundamentalist’s valuation process is a thorough strategic analysis ofthe firm A comprehensive understanding of the firm’s economic factors is necessary beforeusing valuation models (Penman 2007: 16-17)

Contrary to the fundamentalist’s approach, technical analysts believe that share prices aredetermined entirely by supply and demand in the stock market (Clatworthy 1996: 50).Technical analysis involves studying the historical actions of the market instead of studyingthe firm, its goods or its surrounding market (Edwards 2001) Several scholars haveconfirmed technical analysis’ predictive powers (Canegrati 2008, Bettman 2009) Irwinalso conducted a meta-study of 96 studies regarding technical analysis and concluded that

56 studies yielded positive results in favour of the technique However, Irwin also stressesthat there are serious, problematic issues with data snooping within these studies (Irwin2007) Bettman suggests a triangulation of fundamental and technical analysis tosynthesise the strengths of the two methods into one superior approach (Bettman 2009).Bettman’s suggestion is interesting, but further studies are needed within the area tovalidate the findings

In conclusion, for the matter of this thesis we regard technical analysis as a tool mostbeneficial to day traders and the like, with no or very little benefits to long-term investors.Fundamentalist investors are often very dismissive of technical analysis As the American

investment guru Warren Buffett expresses “If past history was all there was to the game, the

richest people would be librarians”.1 The focus in this thesis will be entirely onfundamentalist techniques Fundamental investors focus on long-term profitability andignore short-term volatility in stock prices (Penman 2007: 19)

1 http://www.guardian.co.uk/world/2008/apr/20/usa.subprimecrisis

2.3 Four categories of models within fundamental valuation

Within the fundamental valuation approach, scholars put forward the following fourcategories of models

Figure 2: Displaying the four main categories of valuation models.

Based on Plenborg 2000: 4 and Damodaran 2006: 9.

With such a wide range of contemporary valuation models, it is essential to have anoverview and critically scrutinise the models prior to any usage (Penman 2007: 18-20).Penman believes a good valuation model has three main ingredients: good thinking, goodapplication and a good balance between costs and benefits (Penman 2007: 21) Plenborgproposes four criteria: the model’s precision, realistic assumptions, usability, and a fairvalue that is easy to understand (Plenborg 2000: 2-3) Their tenets will form the basis forthe assessment of the models, which will follow in the next section, starting with asset-based valuation models

2.4 Theoretical foundation

Asset-based valuation models values all assets of the firm at an estimated fair value, which

V firm 

Based on Penman 2007: 82.

Although the model may seem simple, it can be time-consuming to assess all assets ofespecially larger firms Penman also points out several theoretical weaknesses Market

values may be unavailable for illiquid assets Even if market values are available, they maynot be correct measures for the intrinsic value of the specific assets in a particular goingconcern Finally, the value of brand assets and firm synergies are notoriously difficult toestimate (Penman 2007: 82)

The models are, however, applicable to smaller firms with a high value of inherent goodwillsuch as restaurants and so forth The models also apply to valuation of asset-heavycompanies, often within primary industries, as most of the assets in these firms aretangible goods with relatively precise market values Asset-based valuation is also ofrelevance for firms that are soon expected to be liquidated (Penman 2007: 82-83) Still, themodels have a limited scope for usage and are therefore only discussed briefly

In the 1930’s, Graham and Dodd argued that analysing firms’ key ratios could revealinvestment opportunities (Gentry 2003) Multiple-based valuation today forms a part ofmost text-books within valuation (Koller 2005, Damodaran 2006, Penman 2007)

The reason for the multiples’ popularity is their apparent simplicity (Koller 2005: 362).Multiples are simply a market price variable, often stock price, divided by one of the firm’svalue driver; earnings, book value or sales to name a few Algebraically, this is expressed as

Based on Liu 2002, and Plenborg 2000.

Investors can quickly compare firms’ multiples based on the market values for comparablefirms within the same industry, the so-called peer group Multiples are mainly used tocompare publicly traded firms across industries The models can also be applied toprivately held firms In acquisitions or IPOs of private firms, investors can use multiplesfrom existing publicly-traded firms to estimate the firm’s potential market value As acomplement to more complex valuation techniques, practitioners regularly present

valuations partially based on multiples, such as the price to earnings multiple (Koller 2005:61).

The necessary steps in the model appear simple First, comparable firms, the peer group,are identified Next, the relevant value multiples are chosen Finally, the multiples are thenaggregated into single numbers by choosing a weighing of the peer group figures andapplied to the corresponding value driver of the firm being valued (Penman 2007: 76.)Multiple valuation models do not require detailed multi-year forecasts concerning complexnumbers such as profitability, growth, and risk The belief is that the market is efficient inpricing these

The models’ simplicity is, however, deceiving The selection of “truly” relevant valuedrivers and identifying the “truly” comparable peer group is highly problematic Decidinghow to calculate the firm multiples and how to weigh the combined, peer group multiplesalso cause much problems (Schreiner 2007: 2-4)

During the research for this thesis, the amount of literature dealing with multiple-basedmodels is immensely less than literature dealing with accounting-based models.Paradoxically, the most frequently used models in real life receive the least attention fromscholars (Schreiner 2007: V)

Most importantly, by basing its foundation on market prices, multiple-based modelsassume that the markets are efficient in their pricing (Fama 1970) This is a highlydebatable topic according to fundamentalist investors, and one could discuss if the method

is within the fundamental approach in the first place, although “pure” fundamentalistvaluation without referring to market prices at some point is difficult (Penman 2007: 76-82)

Researchers differ in their view on multiples Penman dismisses multiples referring to thetenet that a valuation of the intrinsic value can under no circumstance be based on existingmarket prices (Penman 2007: 77) However, both Koller and especially Damodaranapprove of the method as a valid and almost necessary sanity check to any accounting-based valuation and also as a source of insight into the value drivers of the firm (Koller2005: 378 and Damodaran 2005) Koller and Schreiner agree on the superiority offorwarded multiples, that is, estimation of for instance forwarded earnings, instead of using

historical data However, they also disagree, as Koller argues heavily in favour for usingadjusted enterprise value multiples to avoid biases from capital structure and non-operating profit and losses (Koller 2005:366) This makes sense logically, but Schreiner’sempirical data indicate that equity value multiples are superior (Schreiner 2007: 100).There is obviously no consensus within area To conclude this discussion, we note thatstand-alone multiple evaluation can rarely be used except in special cases such as inacquisitions or IPOs of private firms Some scholars also approve it as a quick complement

to other models Koller is the strongest proponent, arguing that multiple valuation shouldreceive as much attention, as the model it supports (Koller 2005:380) Penman andPlenborg, however, oppose multiple valuation and remain very critical of the model(Penman 2007: 77-78, Plenborg 2000: 24-26)

Prior to dealing with the different forms of accounting-based valuation, a few issues thatapply to all models within this category will be addressed All models assume some form ofdiscount factor based on the cost of capital To estimate these unobservable costs of capital

2007: 471-76)

The most commonly used model is Sharpe’s one-factor CAPM model (Sharpe 1964) Twocommon alternatives, Fama-French’s three-factor model and the arbitrage pricing theory

models shall not be used, as Penman points out, even the one-factor CAPM is demanding…

we really don’t know what the cost of capital for most firms is” (Penman 2007: 114-16) The

focus in this thesis will therefore be on Sharpe’s CAPM model

market and thus the only firm specific measure in the model

E(r i ) = r f +  i [E(r m ) – r f ] Source: Koller 2005:294.

2 The choice naturally depends on whether the model presents firm or equity value, respectively.

Especially beta and the market risk premium are highly difficult to estimate (Koller 2005:298) The risk-free rate is relatively easy to assess, as ten-year government bonds can beused as a proxy For more on this topic, see section 7.2 Estimating the Cost of Equity, page

48

The brief introduction to cost of capital shows the huge uncertainty in any estimate of thecost of capital or equity Unfortunately, the estimates play an integral part of all the models

as the discount factor in the denominator, as we will see briefly The issue constitutes one

of the major weaknesses in all the accounting-based models (Penman 2007: 476)

All the models expect for the Discount dividend model also contain problem in theestimation of their terminal value The idea is that growth tends to mean-revert in the longperiod (Plenborg 2009: 7) In order to maintain focus on the differences of the models andfor the sake of simplicity, infinite valuation periods are assumed for all the followingaccounting-based models

2.4.3.1.Dividend Discount Models

The accounting-based valuation models all build on Williams’ Dividend discount modelfrom 1938 which was extended with the classic Gordon Growth Model (Gentry 2003: 3).The discounted dividend model (DDM) is as follows

Based on Plenborg 2000: 6.

The model provides the equity value of the firm by discounting all future dividends by therequired return on equity of the investors This is the basic idea in all the followingaccounting-based models The model seems simple and intuitively correct, as shareholdersfocus on dividends, at least in the short term (Penman 2007:122) The weakness of thedividend model is precisely its focus on dividends; it ignores value creation in the firm(Plenborg 2000: 6) Its main applicability is to firms in stable industries with stableearnings and fixed payout ratio (Penman 2007:122) In practical terms, such conditionsapply to few firms, which partly explain why the model is uncommonly used bypractitioners

2.4.3.2 Cash-Flow Valuation Models

Various types of cash flow models exist Koller presents enterprise, capital and equity cashflow models, but the focus will here be on the enterprise discounted cash flow model (DCF)(Koller 2005:102) DCF provides the total value of a firm and its operations from anenterprise or entity perspective, whereas DDM focuses on the equity perspective In the

DCF, free cash flows to both equity and debt holders are discounted by a weighted average

cost of capital (WACC)

Based on Plenborg 2000: 7

The model is popular and appears logical as cash flows as physical entities that are easy tothink about (Penman 2007: 127) Another strong point is the model’s incorporation of taxshield effects by using WACC (Koller 2005:111) Despite its popularity amongstpractitioners, the model has serious theoretical flaws It assumes that all liquidity afterpayments of dividends is invested in projects returning a rate of return equal to the cost ofcapital Historically, some firms tend to “hog” excess liquidity for unprofitable projectsinstead of paying it out or buying back shares (Plenborg 2000:9) Penman also points outthe highly problematic issue that necessary, sound investments are treated as a loss ofvalue, at least in the short term In real life, investments are necessary for firms’ survival,even if the returns may lie years ahead Long forecast horizons are therefore needed which

is another weakness of the model (Penman 2007: 127) Penman finds the model applicableprimarily to firms with stable cash flows or constantly growing cash flows, which arerather unrealistic assumptions (Penman 2007:127) Koller disagrees with Penman andmaintains his primary foundation in the DCF framework (Koller 2005: 101-02)

2.4.3.3 Economic Profit Valuation Models

century (Penman 2007: 186) The models were revived in the 1990’s as severalconsultancies and accounting firms started using the framework Examples includeMcKinsey’s Economic Profit model, Stern Stewart’s Economic Value Added model, or

KPMG’s Value Added model (Penman 2007: 89) Here, focus will be on McKinsey’s EPmodel Via algebra, the DCF model can be reformulated to the following formula.

t firm

WACC

IC WACC ROIC

IC V

Based on Plenborg 2000: 9

The model shows that a firm is only able to provide an economic profit if its return oninvested capital (ROIC) exceeds its costs of capital, WACC Otherwise, firm value equals

Whereas DCF treats even sound investments as declining cash flow, EP provides a betterinsight into the actual economic performance of the firm Thus, both DCF and EP modelsprovide relevant and valuable information, but in different ways (Koller 2007: 116) Theadvantages and disadvantages of EP models will be discussed in the following sectionconcerning RI models, which are the equity counterpart of EP models

2.4.3.4 Residual Income Valuation Models

The recent popularity of the residual income model (RI) is attributed to the analytical work

of Ohlson (Ohlson 1995) In the same way DCF is the enterprise equivalent of the based DDM, EP is the enterprise equivalent of the equity-based RI model (Plenborg 2000:10) The formula reflects the difference

*

*

t e t t

eq

r

Eq r REq Eq

V

Based on Plenborg 2000: 10

The model shows, that a firm is only able to provide residual income, if the rate of return on

The more accounting-based EP and RI models assume clean surplus accounting (CSA) inthe accounts, which are not required in the more flow-based CF models CSA requires thatall income and expenses are placed on the income statement and not on the statement ofequity (Plenborg 2000: 11) The most common examples of breaches of CSA include

unrealised gains and losses on securities, derivatives, and foreign currency translations(Penman 2007: 269)

If CSA is fulfilled RI and EP can be used across different GAAPs If not, it can have dramaticconsequences As an example, Daimler-Benz’ 1993 annual reports showed a profit of 168mDEM in Germany but a loss of 1 bnUSD on NYSE (Plenborg 2009: 5) If the assumption ofCSA can be maintained, however, EP and RI models can like DCF models be applied acrossdifferent types of GAAP and accounting methods (Plenborg 2000:11)

EP and RI models possess several advantages according to Penman Highlights include thefocus on the value drivers; profitability and growth in investments It forecasts a moregraspable term, earnings, instead of cash flow which may fluctuate depending on the level

of investments (Penman 2007: 175) Analysts and businesses also typically forecastearnings not cash flows This also makes it easier to validate RI and EP forecasts with thefollowing years’ income statement It is harder to validate CF forecasts, as investments mayalter the picture dramatically

In RI and EP framework more value is also recognised in the short term, which enablesshorter forecast horizons RI and EP models are more robust to value-destroyinginvestments that may grow earnings but at rates less than the required rate of return(Penman 2007: 176) The RI and EP framework is also more robust against earningscreating by accounting manipulation If earnings are increased via accountingmanipulation, it will be offset exactly by the lower book value (Penman 2007: 178)

The models, however, requires a profound understanding of accrual accounting and relies

on accounting numbers, which necessitates an accounting analysis (Penman 2007:175,Plenborg 2000:15)

2.4.3.5 Abnormal Earnings Growth Valuation Models

The Abnormal Earnings Growth model (AEG) is the latest newcomer among theaccounting-based models and originates from the 1995 Ohlson framework (Ohlson 1995,Penman 2007:206) The model provides the value of the equity by discounting accounting-based earnings with the cost of equity

Earn V

Based on Plenborg 2000: 12.

The model is intuitively simple, as it also focuses on earnings, which is what manyinvestors focus on and it is also indifferent to different GAAPs (Penman 2007:213).Contrary to EP and RI models though, AEG models do not provide any insight into thedrivers of growth, particularly the balance sheet It also requires an understanding of cum-dividend earnings which equals the sum of earnings of the firm and earnings of paid-outdividends (Penman 2007: 213, Plenborg 2000: 13)

Finally, real options have received much attention in recent years’ academic literaturewithin valuation A real option is the business’ option to make or abandon a capitalinvestment in a business project Real options are options based on a “real”, tangible assetand have many similarities within financial options For instance, the exercise and shareprices from financial options are equal to, respectively, present value of the fixed costs overthe lifetime of the investment and present value of cash flows expected from theinvestment (Leslie 1998)

Significant theorists within the field are Trigeorgis (1993, 2005) and Copeland et al.

(2001) They put forward that real options can play an important role in the net presentvalue capital budgeting processes that many firms use to choose among projects The mainclaim is that traditional net present value budget analyses (NPV) are unable to incorporatethe future value of options in a capital budgeting analysis (Trigeorgis 2005 & Block 2007:

255) On future projects, firms may ignore their option to cancel a project A budget

analysis may then inaccurately provide a negative NPV, which then causes the project to bediscarded However, by including the option value inherent in the project, the project mayhave a positive NPV

Still, practitioners within equity valuation continue to use accounting-based models Theeffects of real options are therefore often ignored in contemporary equity valuation(Atauallah 2009: 57) This can lead to seriously flawed investment decisions, as highlyprofitable investments can be overlooked

For valuation of projects on a business level, Trigeoris formulates the “new” NPV equation

as follows

) (

) ( )

The strategic S(NPV) equals the findings of a traditional P(NPV) plus the option valueROV(FV+SV), which is the sum of the flexibility value and strategic value inherent in anyproject (Trigeoris 2005: 32)

As an alternative, McKinsey & Company proposes finding the strategic NPV using a stage process The idea is that the value of the real options should be added to the value ofthe firm provided by a DCF model (Trigoris 2005, Ataullah 2005: 58, and Ashton 2003:424)

four-Therefore, the DCF analysis is first applied Then uncertainty in the project is modelled byidentifying cash flows in different scenarios Next, the inherent flexibility in themanagement’s different options is then modelled into a decision tree, which can also beestimated using real option valuation (Leslie 2000)

As a technique, it is mostly relevant for oil companies in for natural-resource discovery orfor IT-companies in technology-related investments and so forth As several scholars pointout, real options are also ideal for medical and biotech companies for example (Block 2007:255) In these cases, the existing real options framework justifies the relatively highcomplexity and uncertainty inherent in real options models For other types of firms, themodel is rarely applicable

2.5 Concluding discussion of the four groups of valuation models

The first section will briefly discuss the usage of the models among practitioners Someresearchers find that multiples valuation is the most frequently used method bypractitioners and accounting-based valuation only second Barker, for instance, states thatthe P/E ratio the most important driver and FCF only secondary (Barker 1999) This isbacked up by Demirakos, who finds that the multiple P/E is present in 90% of analysts’reports, whereas DCF only is employed in 40% of the reports (Demirakos 2004: 230).However, more recent research contradicts these claims For example, Imam finds that DCFhas grown in importance among practitioners and is now, although the study focuses on

UK analysts (Imam 2008) Block finds that only 14 % of American firms use real options

within in their budget analysis, indicating the low dispersion of the method amongpractitioners (Block 2007: 10)

The empirical findings are somewhat in line with the discussions in the previous,theoretical sections Here, the main conclusion was that accounting-based models stoodstrongest, while they could benefit from multiples providing a sanity check

Given that all the accounting-based models are based on the same underlying DDM, thechoice of model should not matter, as all models should provide the same result In real life,however, the RI and EP (hereafter just RI) models are less sensitive to changes in thebudget variables The DCF model first dissolves the accounting figures and then rebuildsthem into cash flows The DCF model therefore has to estimate both “normal” and residualincome, which increases the sensitivity to changes in variables Residual income is the solefocus of RI models Several studies around the millennium proposed that RI outperformsDCF in term of predictability and estimate accuracy, and RI were therefore recommended.(Penman 1998, Olsson 2000, Plenborg 2000: 15) The claim was contested by Lundholm in

2001, as he argued that the whole valuation literature comparing the accuracy of DCF and

RI was misguided He stresses that the theory prescribes that both models provideidentical valuations, if implemented correctly (Lundholm 2001) Penman acknowledgesLundholm’s findings, but claims that practice is the final arbiter of competing models(Penman 2001) In other words, the theorists within the field are very dispersed in theirviews

Generally, there is a somewhat established consensus that the merits of asset-based andreal options valuation are only applicable to special cases (Koller 2005:131, Penman2007:83, Plenborg 2009:16) Little focus is currently given to asset-based and cash flowbased models in academia Koller focuses on using both DCF and EP, stressing that DCF isless sensitive to accounting principles (Koller 2005: 101) Penman is in favour of RI modelsand criticises AEG models intensely (Plenborg 2000, Penman 2007) Ohlson, one of themain proponents of AEG, still maintains its merits and is supported by other scholars(Jorgensen 2005, Ohlson 2005)

2.6.The author’s synthesising conclusion

Summarising the different views provides the following conclusions Asset-based and realoptions models can be useful but only under special circumstances Multiples valuation canprovide a quick and dirty sanity check, but also has severe methodological and practicalissues, which are only exacerbated by the model’s heavy reliance on market’s pricing of thepeers The accounting-based models stand strongest, and although DCF is most commonlyused by practitioners, it receives little attention within academia Focus is definitely on the

RI versus AEG model discussion

For general purposes, the RI and EP models are the most preferred model by the author.They are easy to explain to readers outside the finance area, as it avoids the rather complexterm of cum-dividend earnings (Penman 2007: 213) Whereas the RI model is strong intelling the story of a firm’s economic performance, DCF reveals the development of cashflows Therefore, for general purpose valuations, a combination of the RI or EP model with

a DCF model is a theoretically strong It includes their respective advantages, although italso adds complexity

2.7.Summarising the Critical review of Valuation Models

The following figure summarises the previous, theoretical discussion Enterprise-based EPand equity-based RI have been put together, as they share most of their advantages anddisadvantages, although the models are not completely similar

Figure 3: Summarising the critical review of valuation models.

Category Model name Advantages Disadvantages Useful for

Asset-based Replacement Focus on assets Cannot capture brand value Asset-heavy companies

Cannot capture synergies etc Small businesses with goodwill Pricing all assets takes time

Liquidation Focus on assets No "market" liquidation values Firms soon to be liquidated

Pricing all assets takes time

Multiples Various Relatively quick Assumes market pricing Private firms going public

No proforma budgets Difficult to choose peers Private firms as target firms

Difficult to choose variables Sanity check to other models Challenging to weigh variables

Accounting DDM Simple, only dividends Reliance on cost of equity Stable firms with fixed pay-out ratios

Affected by pay-out ratio

DCF CF is easy to think about Reliance on WACC Firms with stable CF

Incorporates tax shield effects Terminal value calculation Firms with constantly growing CF Indifferent to different GAAPs Assumes reinvestment at WACC

Investments = value-destruction

EP & RI Focus on economic perf Reliance on WACC / cost of eq All other firms

Earnings -> easier to forecast Terminal value calculation Forecasts can be validated Requires CSA

Shorter time horizons Understanding of accrual acc.

If CSA, indifferent to GAAPs Requires accounting analysis Robust against earnings

manipulation by accounting Robust against earnings manipulation by investments

AEG Shorter time horizons Reliance on cost of equity Unrecommendable

Investors "buy" earnings Terminal value calculation Ignores earnings drivers and Indifferent to different GAAPs Complex cum-div earnings balance sheet

Requires earnings analysis

No insight in value drivers

Real RO Captures value of options Complex Oil companies in resource discovery

Options Requires replicable portfolio Medical and biotech companies

Rarely applicable Other special cases

2.8 Applicability of valuation models to a valuation of Vestas

The choice of valuation models for Vestas will now be discussed based on the previous,theoretical discussions

Vestas is neither an asset-heavy company nor a very likely candidate to go bankrupt, as will

be demonstrated in section 6.4 Credit Risk page 46 Therefore, the asset-based models areirrelevant for the remainder of the thesis

Applying a real options model to Vestas would include replicating the portfolio of Vestasand its projects (Koller 2005: 131) Modelling the portfolio is possible, but would posesevere, time-consuming difficulties for a large, industrial firm like Vestas Penman pointsout that a model must have a good balance between cost and benefit (Penman 2007: 21).Subsequently, real options models are not suitable for Vestas, and will not be included inthe valuation

As mentioned in the discussion of the models, accounting-based models stand the strongesttheoretically The EP models appear to have the most advantages and their main strengthlies in their indication of the firm’s economic performance, whereas a DCF model focuses

on the cash flows The two models shall be used in combination, partly for validation, butmainly because they provide different but valuable information (Koller 2005: 116) Themodels’ results will of course be thoroughly scrutinised using scenario and sensitivityanalyses, and a simulation of the value estimates Still, multiples will also be applied as auseful sanity check Especially forwarded multiples models are highlighted as providing auseful sanity checks to the value found via other models In conclusion, the valuation willemploy DCF, EP and Multiple valuation models

Part III – Strategic Analysis of Vestas

The purpose of the strategic analysis part is to identify and discuss both external andinternal factors which will then enable an evaluation of Vestas’ future growth and profitpotentials (Penman 2007: 14) The analysis will have a top-down approach The externalfactors will be analysed first and followed by an analysis of Vestas’ internal factors Thestrategic analyses will be summarised in a SWOT analysis, which will provide an overview

of the analyses

the product development, manufacturing, turnkey delivery and maintenance of windturbine installations The company’s sale of wind turbines is by far its main activity andconstituted 92 % of its 2008 revenue as sale of services constituted the remaining 8 % (AR2008: 62)

Vestas was originally a hydraulic crane manufacturer which entered the wind turbinemarket in the oil crisis of the late 1970s The wind energy market expanded and Vestasentered the US market, in which they invested heavily When tax advantages on windturbine investments were removed in the US in 1986, Vestas was forced to sell off all non-wind -related assets and re-emerge as Vestas Wind Systems A/S In the 1990s, Vestasbought Danish Wind Technology A/S Germany, Denmark and Spain emerged as the majorEuropean markets Vestas then went public on the Copenhagen Stock Exchange in 1998 In

2001, Vestas sold its 40 % stake in Gamesa Eólica, a Spanish joint-venture from 1994 In

2004, the Danish rival, NEG Micon, was then acquired

In 2008, Vestas supplied 5581 MW of wind turbine capacity, a 19.8 % market share (BTM2008: 24) Vestas reports sales in more than 40 countries and maintains production

3 Still the largest, one might add, as Vestas has been losing market share in recent years The runner-up,

American GE Wind, is only 1.2 pct points from Vestas’ 19.8 % market share (BTM 2008: 24) For more on this topic, refer to section 4.3 Competitor and Demand Analysis – A World Market Update from Vestas’ perspective., p 32

facilities in Denmark, Germany, Italy, India, the UK, Spain, Norway, Sweden and China.Vestas’ core competence is within the larger >1.5 MW segment of wind turbines, whichconstituted 92 % of Vestas’ total supplied MW in 2008 (BTM 2008: 32) 80.4 % of globalsupply in MW in 2008 was within the segment The company, via its ambitious “10 by2010” plan, targets to increase its production capacity to 10,000MW by the end of 2010(AR 2008: 16).

4.1 Environmental Analysis – Using the PESTED Framework

Vestas’ profitability, growth potential and value are highly dependent on external factors,which will be analysed using a PESTED model adapted to Vestas based on Grant andIreland (Grant 2008: 66 & Ireland 2007: 35) The model differs from the more traditionalPESTEL, as the political and legislative segments have been combined into one segment.Oppositely, the demographic and socio-cultural segments are split into two separatesegments The summary will precede the actual discussion to provide an initial overview.All the segments, their underlying elements, and the conclusions are summarised in thefigure below In the figure, the sign of the underlying element as well as its importancehave been indicated by the coloured cells to the right

Figure 3: PESTED-analysis - Overview

Generel Segment Underlying element Effect

Change in EU/US politcal attitude towards the environment +3

US goal to reduce dependence on foreign oil +1 REFIT in EU and PTC in the US +3 Dependence on politicians' subsidies Without, WE is expensive -3 Economic Current financial crisis > Fewer developers can find finance -3

Dependence on the state of the market -2

WE Short time-span > Short-term interest > Higher risks -1 Dependence on prices of raw materials - notably steel -1 Global business > Currency exposures -1 Socio-cultural Changed attitude towards the enviroment +2

Increased focus on ethical issues +1 Neighbors to wind mills and animal activists -1

Potential in +5 MW offshore wind energy +1 Wind research is expected to lower $/kw cost +2 Development of alternative, cost-efficient renewable energy -1 Economies of scale expected to lower $/kw cost +1 Demographic Population growth in countries with high energy consumption

as mentioned in section 3 Company profile, page 21 To illustrate just how sensitive windenergy still is to changes in the political support, the following graph depicts thedevelopment on the American market in recent years where the PTC scheme expired threetimes

Figure 4: Impact of PTC expiration on annual installation of wind capacity on US market.

Source: American Wind Energy Association.

The existing political support has a positive, self-reinforcing effect, which is crucial to thewind industry for the time being The major threat is obviously if political supportdisappears before wind energy is competitive on an unsubsidised basis

Figure 5: Self-reinforcing relation: Government support, Demand, and Cost reductions.

Source: Hoogwijk 2008, REN 21.

In the economic segment, there are many negative elements and the current crisis isobviously the most urgent issue Developers have a hard time finding the finance for theirprojects, as Vestas’ CEO Ditlev Engel also acknowledges (AR 2008:05) The consequences ofthe crisis are exacerbated by the 1-2 years of typical lead time depending on the project’ssize That is, the full consequences of the crisis will not be revealed before the end of 2009,

4 Refer to http://www.vestas.com/en/investor/announcements/company-announcements.aspx

for practical examples on lead times within wind energy.

The change in the socio-cultural attitude towards the environment can be regarded as thereason for the political change Still, the socio-cultural change is given a lower importance

in the summary The reason is the obvious fact that no policies are implemented before apolitical majority in favour for “wind-energy” friendly policies The socio-cultural change isstill important and is assigned a magnitude of +2

The technological segment also brings positive prospects for Vestas The future potential ofoff-shore wind farms can solve both the lack of available land and also improve efficiency,

as wind speeds are typically higher offshore than onshore The wind is also more stableoffshore, as hills and other land obstacles can create turbulent winds for onshore windturbines Still, the current off-shore price €/kw is much higher due to the increasedinstallation and maintenance costs Ditlev Engel also acknowledges that the off-shore willnot play a major part in the short-term (AR 2008:04) Developments in the technologicalsegment could also paralyse the whole industry, if for instance the solar industry was toachieve an enormous, technological breakthrough which would lower the solar power’s €/

kw price dramatically The element is only given a magnitude of -1, as the probability ofsuch a rapid development in the short and medium term is relatively low These issues will

be discussed much further in section 4.2.1.1 Threat of substitutes, page 27

The demographic segment is also interesting The energy consumption and populationgrowth in the two key markets US and China will impact the wind energy industry in years

to come The countries’ growing need for energy has positive prospects for Vestas (BTM2007: 71)

Finally, the environmental segment includes many positive elements for Vestas Recentresearch is more often in favour of an environmentalist view against global warming,which is believed to be caused by fossil fuels among other things The issue still remainshighly debatable In Denmark, the debate was temporarily bi-polar due to the “scepticalenvironmentalist” Bjørn Lomborg His school of thought occupies very little space in the

as the movement obviously is in favour of renewable energy

5 http://www.lomborg-errors.dk/ Biologist Kåre Fog scientifically disproves Lomborg’s claims.

In conclusion, the external analysis of Vestas’ environment shows a somewhat optimisticprospect for Vestas There are, however, also some potentially very damaging elements Inthe short term, the paradox is that while the political climate has not been much better, thefinancial climate could not be much worse, as customers struggle to find raise finance (AR2008: 04-05) In the longer run, the biggest threat is if political support disappears beforewind energy is competitive on an unsubsidised basis A major, technological breakthroughwithin other energy sources, especially solar energy, could pose a serious threat.

4.2.Industry Analysis - Using Porter’s Five Forces Framework

For the later valuation, it is essential to evaluate the industry’s attractiveness, intensity ofcompetition and level of future profitability The chosen theoretical framework is Porter’sFive Forces Framework (Porter 1985) The following figure provides a concise overview of

my analysis of the wind turbine industry using the Five Forces Framework The firstcolumn displays the type of competitive force dealt with The second column provides theoverall conclusion on the level of the threat The third and fourth columns deal with theunderlying elements in depth The final column indicates the effect for Vestas in which ashort, green bar is positive and a long, red bar indicates a negative outlook The five forceswill now be dealt with separately

Competitive Force Overall Underlying element Level of threat

Substitutes Medium Nuclear power Low-Medium

Low price on fossil fuels Medium-high Other renewable energy sources Medium Customers' propensity to substitute Low-Medium Wind energy price relative to "broad" substitutes High Rivals Medium Relatively few global competitors Low-Medium

Excess capacity and high exit-barriers High Different target segments - Low/High MW Low-Medium Dominant national competitor in major markets Medium-high Ability to copy patents and products Low Entrants Low-Medium Economies of Scale Low-Medium

High capital intensity Medium High R&D costs Low-Medium High product differentiation Low-Medium Suppliers Medium-High Few suppliers Medium-high

Suppliers' ability to downstream integrate Low Suppliers' business outside wind energy Medium-high Buyers Medium Fewer, bigger suppliers Medium-high

Operational reliability is imperative Low-Medium Buyers' ability to upstream integrate Low-Medium

Adapted by the author to fit Vestas (Theory is based on Grant 2008: 72 and Porter:1980)

Effect for Vestas

Figure 6: Industry Analysis using the Five Forces Framework – Overview

4.2.1.1.Threat of substitutes

Threat of substitutes in the broad sense includes all sources of electricity including thecheaper, more traditional substitutes, such as nuclear power and fossil fuels In the narrowsense, however, only sources of renewable electricity are true substitutes The followingfigure provides an overview

Energy Type Pros Cons

Fossil + Cheap - if no environmental taxes - Carbondioxide

+ Cheap to install - Other pollutants

- Dependence on foreign states - Middle East

- Potentially facing heavy taxes

Nuclear + No carbondioxide - Massive installation costs

+ Long time span of 40 years - Dependence on uranium import and prices + Cheap running costs - Waste management problems

- Security problems - Terrorist threat

- Expensive to shut down plant

Wind + No carbondioxide - Requires available, windy area

+ Quick Installation - Volatility requires advanced electricity net + "Unlimited supply" - Dependent on political/financial support + No dependence of supplying countries

Solar + No carbondioxide - Requires lot of space

(thermal) + Decreasing costs - Less developed than wind

+ Less volatility than wind production - Dependent on political/financial support + "Unlimited supply" - Requires available, sunny area

+ No dependence of supplying countries - Seasonal fluctuations in production + Largest renewable technical potential

Hydro + No carbondioxide - New locations are very limited

+ Relatively cheap within renewables - Large installation costs

- Often disrupts wild life and agriculture

- Requires massive political support

Biomass + No carbondioxide - Large production requires huge area

+ Cheap setup costs - Drives food prices up

- Ethical issue - Starvation in poor countries

Figure 7 In-depth presentation of Threat of Substitutes analysis

problem in addition to the ever-present post 9/11 “terrorist threat” That is, fear ofterrorists either bombing nuclear plants or using “dirty” nuclear bombs (Congress Report2005) Biomass’ impact on global food prices poses an ethical issue in the Western world,especially its consequences for the world’s poorest Solar power has a huge technicalpotential, but is currently very expensive (REN 21:40) As the following figure shows, other

6 The figure is based on Australian data from 2006, but it is the author’s judgment that it is somewhat representative of the global situation today.

power is cheap, but poses no severe threat to wind energy due to the very limited locations

Figure 8: Relative energy prices for different energy sources.

Levelised costs for energy sources

Nuclear Small Hydro power Wind power (Optimal) Solar thermalBiomassGeothermal Solar Photovoltaics

4.2.1.2.Rivalry among competing firms

The threat from rivals is deemed to be of medium threat and consists of opposing forces.Few truly global competitors exist, especially in the growing >1,5 MW segment of windturbines (BTM 2007: 27 & 32) On the other hand, the exit-barriers are high, due to thehuge investments necessary for wind turbine production Participants could be forced tocontinue despite neutral or negative economic performance, potentially makingcompetition fiercer Especially Siemens Wind Power and GE Wind could stay in businessfor an elongated time since the major industrial conglomerates behind them could choose

7 The US government-run U.S Geological Survey points out “…most of the good spots to locate hydro plants have already been taken.” http://ga.water.usgs.gov/edu/wuhy.html

to supply them with capital injections The competition is also anticipated to be fierce inthe near future with the entrance of several Chinese players.

4.2.1.3.Threat of new entrants

Next, the threat from new entrants is overall estimated to be of a low to medium level.There are large economies of scale in the production of wind turbines Being a successfulwind turbine manufacturer requires investments in factories, and R&D departments, often

in several countries (BTM 08:V) Finally, there are several different types of wind turbinesdepending on the speed and type of wind, creating a diversified product portfolio which isharder for new entrants to copy

These observations, however, mainly apply to the case of “truly” new entrants, that is,companies inexperienced within the energy sector Traditional, large oil companies have acompletely different starting point, as their cash flows from fossil fuels could provide thenecessary financial funds Even if a renewable energy subsidiary should provide negativecash flow initially, it may be regarded as a necessary long term investment for many of thelarge oil companies However, some traditional oil companies claim they will no longerinvest in renewable energy (Guardian 17/04-09) It is difficult to validate such pressreleases, as they could be made for strategic reasons Still, this circumstance raises the level

of threat to the overall low to medium level

4.2.1.4.Bargaining power of customers

In recent years, buyers of wind turbines tend to be less and less private and professionaldevelopers and more often large utilities (BTM 2008: 33) These experienced, professionalcustomers buy much larger quantities and possess much more bargaining power Still, atleast so far, the market has been a seller’s market, and therefore, the force is still within thelow to medium range

4.2.1.5.Bargaining power of suppliers

The bargaining power of suppliers is medium-high, There are relatively few suppliers inthe industry, for instance one out of three wind turbines currently in operation is fittedwith wings from Danish LM Glasfiber, making the supplier a key player in the industry(BTM 2008:114) Hansen Transmissions, now acquired by Suzlon, accounts for 30 % of the

world supply of gearboxes, which further adds to the monopolistic situation within some ofthe components (BTM 2008:115) Also, these suppliers often have major business areasoutside wind turbines granting them more bargaining power However, the suppliers areoften unable to integrate downstream, that is, acquire wind turbines manufacturers ormanufacture turbines themselves, which does lower their bargaining power slightly.

In order to make Porter’s framework more dynamic, a time-orientation analysis willsupplement the previous analysis The analysis will deal with both short term profitabilityand long term profitability

Figure 9: Five Forces Framework in a time-oriented perspective

As the figure shows, Vestas is already within an attractive industry Wind energy willmaintain its potential if the technological developments within the different renewableenergy sources are assumed to be evenly distributed As wind becomes more pricecompetitive, the threat of substitutes should decrease in particular from the currentlycheap fossil energy sources The bargaining power of suppliers should also decrease Moreupstream integration is anticipated This could be either via acquisitions or for certaincomponents via organic growth Also, lack of key components should be a thing of the past,

8 A reference to the crisis of 2006, in which shortage of crucial components hit the industry ( Business.dk 20/03/07)

Short-term Long-Term 2009-2013 2014-2023

Rivals Medium Medium-high Negative

Substitutes Medium Low-Medium Positive

Entrants Low-Medium Low-Medium Neutral

Suppliers Medium-High Low-Medium Positive

Buyers Low-Medium Medium Negative

Overall profitability Medium Medium-High Slightly positive