Is this small-cap energy stock a better buy than Royal Dutch Shell plc?
The energy demands of the world are growing and changing. A rising population means that the pressure on natural resources is unlikely to abate, while concerns for the health of the environment mean cleaner forms of energy are likely to become increasingly popular in the long run.
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While natural gas is a relatively clean fossil fuel and could therefore provide Shell(LSE: RDSB) with growth potential, could a cleaner energy company prove to be a superior investment in future years?
A changing landscape
While the election of Donald Trump as US president may have caused spending and focus on climate change to reduce, it is likely to remain a constant theme in political and economic spheres in future years. This is partly because of population growth, with the world's population forecast to rise by around 34% between now and 2050. This is likely to cause even greater levels of carbon emissions in future years unless the types of energy used change significantly.
Shell is therefore relatively well-placed to benefit. It has invested heavily in natural gas production, particularly with its acquisition of BG. This could help to improve Shell's sustainability since gas is a much cleaner-burning fuel than other fossil fuels such as oil and coal. And since the company has a highly diversified asset base and sound finances, its overall investment potential remains sound.
An even better option?
However, the reality is that clean energy could be an ever stronger growth sector than natural gas. Reporting on Tuesday was manufacturer of integrated hydrogen energy solutions, ITM Power(LSE: ITM). It announced an increase in projects under contract of £5.66m in the last 11 weeks, which takes its total to £22.6m. This has been aided by progress made on cost reductions of ITM Power's technology. Further sales could lie ahead, with various exhibitions and showcases planned over the coming months.
Clearly, hydrogen energy solutions are not yet mainstream. There is uncertainty as to whether they will ever become so - even in the long run. However, ITM seems to have a sound strategy to improve its financial performance, with investors having bid up the price of its shares by 67% in the last year. And with the UK government announcing a £23m funding competition for hydrogen refuelling stations, it could prove to be a growth area in the long run.
Risk/reward
Clearly, ITM Power lacks the financial strength, diversity and stability of Shell. However, it also potentially has higher rewards in the long run. Therefore, it could be worth a closer look for less risk-averse investors.
Despite this, Shell may still offer the superior risk/reward ratio. It has a dividend yield of almost 7%, is expected to generate significantly higher free cash flow in the next few years and there remains high growth potential within the natural gas sector. Therefore, while ITM Power may be a worthwhile investment, Shell seems to offer the better balance between risk and reward.
Five growth shares
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Peter Stephens owns shares of Royal Dutch Shell B. The Motley Fool UK has recommended Royal Dutch Shell B. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
