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3 Reasons Why You Shouldn't Buy Fuel Cell Stocks Right Now

Fuel cell stocks' astronomical rise has surely captivated investors' attention. Among top fuel cell stocks, Plug Power (NASDAQ: PLUG) has risen the most. After rising more than 1,000% in 2020, the stock has already nearly doubled this year. While hydrogen fuel cell technology looks promising to reduce carbon emissions, it faces numerous obstacles in its widespread implementation. Here are three key reasons why jumping on the hydrogen bandwagon may not be the best idea right now.

1. Fuel cells are not energy efficient

Hydrogen fuel cells use hydrogen to produce electricity. Considering that the only byproduct of this process is water, it looks like the most environmentally friendly way to generate power. However, that isn't so. To begin with, the hydrogen fuel used is commonly produced through a process called steam reforming, which uses natural gas as input. As much as 95% of hydrogen in the U.S. is currently derived using natural gas. Due to the carbon emissions associated with this process, alternative ways to produce hydrogen are getting increased attention.

Image source: Getty Images.

These include hydrogen production through electrolysis (called green hydrogen), where water is decomposed into hydrogen and oxygen using electricity. Essentially, you produce hydrogen using electricity and then use it as an input to produce electricity back. This could have been an interesting way to store energy for later use. But it isn't as simple as it sounds. A lot of energy gets wasted in each of these steps, making it a very energy inefficient process. Studies suggest that as much as 70% of energy is lost in the process of electrolyzing water to produce hydrogen and then using this hydrogen to produce electricity back to drive vehicles.

Even after production, hydrogen needs to be stored and distributed at low temperature and high pressure, which again require substantial amounts of energy. Finally, the process of generating electricity using hydrogen in the vehicles is again accompanied by energy losses. In comparison, current battery technology is more energy efficient.

Having said that, it's worth noting that electricity used to charge batteries could also be fossil-fuel based. So, it can be as unclean as fossil-fuel derived hydrogen. Again, hydrogen production could be efficient, especially when there is excess power that can be used to produce hydrogen and store it. However, hydrogen storage and transport have their own challenges. There are a lot of unknowns here, and hydrogen cannot become a viable alternative without government incentives and policy support. In comparison, battery technology seems to be already ahead in many respects.

2. Adoption of fuel cell technology is slow

Hydrogen fuel cells are still at an early stage of adoption. On the other hand, falling costs and increasing efficiency have led to a greater adoption of lithium-ion batteries, especially in transport segment. At the end of 2019, there were only 25,210 units of fuel cell electric vehicles (FCEV) in use globally. By comparison, 7.2 million battery electric vehicles, in the passenger light-duty vehicle segment, were on the roads globally by the end of 2019. This includes plug-in hybrid electric vehicles, which have both a gasoline engine and a chargeable battery. Plus, more than 3 million electric vehicles were sold in 2020, taking the total number of EVs currently in use to well above 10 million.

One of the key barriers in the adoption of FCEVs is the absence of supporting infrastructure, such as filling stations. FCEV costs are expected to fall when the scale of production is increased. But as battery-powered vehicles get increased adoption, the incentive to promote hydrogen fuel cells may not be huge. That does not necessarily mean that fuel cell technology is doomed. With advancements in technology, combined with governmental support, fuel cells can see increased adoption in specific segments and geographies. As an example, Plug Power's planned joint venture with French automaker Renault reflects the enthusiasm for hydrogen in Europe. However, battery-powered vehicles are surely leading new low-carbon vehicle sales right now.

3. Fuel cell companies trade at high valuations

Top fuel cell companies, including Plug Power, FuelCell Energy (NASDAQ: FCEL), and Ballard Power Systems (NASDAQ: BLDP), have all been generating negative margins for years. Yet they are all trading at incredibly high price-to-sales ratios. If fuel cells get increased adoption, these companies may become profitable over time.

PLUG Profit Margin (Quarterly) data by YCharts

While there could be some research-based advancements that could be protected by patents, the basic technology behind fuel cells is open for all. Bigger companies, including oil and gas, utilities, or even battery companies, can potentially commercialize viable products faster than small fuel cell companies such as Plug Power. For fuel cell companies to live up to their sky-high valuations, they need to consistently offer technologically better products at reasonable costs. At the same time, with increased competition, margin pressure in the future could be intense.

With the numerous risks fuel cell companies face, buying their stocks at current valuations isn't exactly enticing right now.

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Rekha Khandelwal has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.


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