Does SunEdison’s bankruptcy mean ‘lights out’ for solar investing?
The big news in the solar power industry over the past several months has been the disaster unfolding with SunEdison (OTCMKTS: SUNEQ). SunEdison’s fall from grace has been nothing short of stunning: it was formerly the fastest-growing solar company, and a poster child for the renewable energy movement. The stock was a darling of Wall Street and hedge funds, and attracted some of the highest-profile investors on the planet.
But now, all this looks like a distant memory. The company couldn’t properly manage its growth. It embarked on huge, wasteful acquisitions, eventually taking on far more debt than it could repay. The saga finally came to an end on Apr. 21, when SunEdison filed for Chapter 11 bankruptcy. The fallout from SunEdison’s decision was far and wide. It cast a dark shadow over the entire solar industry. Billions of dollars of shareholder wealth were wiped out.
The SunEdison debacle could cause investors to think twice before investing in solar. However, that would be a mistake.
The solar power industry is worthy of investment. There are still publicly-traded solar companies that are responsibly managed, with sound balance sheets, profitable business models, and long runways of growth ahead.
The sun sets on SunEdison
Many high-profile investors were burned by SunEdison. A few of its major institutional holders included Oppenheimer Funds with an 11 percent stake, and The Vanguard Group with a 6 percent stake. In addition, legendary investor David Einhorn was heavily invested in SunEdison. Einhorn’s Greenlight Capital lost 20 percent last year, due largely to a significant stake in the now-defunct company.
The solar industry has had a difficult road. Even companies that have exhibited rapid growth, including SunEdison, can run into trouble because for many years their operations were not profitable. This is true of most start-ups, but is particularly the case in the solar industry, where economics have remained challenged for many years. This is compounded by the fact that many companies, including SunEdison, had high levels of valuable assets, including technology and intellectual property, which were often used to secure loans to pursue acquisition. That can be a disastrous mistake, because value of intangible assets can be written down over time.
In 2014 and 2015, SunEdison made several acquisitions. Its highest-profile attempt was its acquisition offer for Vivint Solar Inc. (NYSE: VSLR). In hindsight, it is clear that SunEdison characteristically overpaid for acquisitions. The merger value of $2.2 billion to acquire Vivint is far above the combined market values of the companies today. For example, Vivint’s current market capitalization is just $400 million. The deal was eventually terminated, after an uproar from SunEdison’s investor base, but it serves as an example of SunEdison’s mismanagement.
By the time SunEdison went bankrupt, it had accumulated more than $7 billion of long-term debt.
If investors can take anything from the SunEdison case, the critical task for high-growth solar companies is to not use revenue growth or asset value as justifications for pursuing large acquisitions and taking on burdensome amounts of debt.
Don’t give up on solar yet
SunEdison’s bankruptcy blows a hole into the solar power investment thesis. But there are still very strong companies in the solar industry. One is First Solar (Nasdaq: FSLR), the largest solar company in the world. First Solar is not just another high-flying speculative company that might be here one day and gone the next. It is a $6 billion company by market capitalization, and has a proven business model with sustained profitability.
And, the company reported very strong first-quarter earnings figures on Apr. 28. Sales soared 80 percent from the first quarter last year, and perhaps more importantly, the company is solidly profitable. First Solar earned a $262 million gross profit last quarter, compared to just a $38 million gross profit in the same quarter 2015. In addition, the company has gotten a handle on operating costs. First Solar’s net profit of $170 million last quarter completely reversed the $60 million net loss in the year-ago period. First Solar’s quarter was an important indication that the company is firmly on the road to steady profitability.
Going forward, First Solar management expects $3.8-$4 billion in full-year 2016 sales. That would represent another year of growth, from the $3.5 billion in sales generated in 2015. Importantly, debt is not a major concern for shareholders. First Solar is sufficiently capitalized. It ended last quarter with $1.9 billion in cash and cash equivalents. That amounts to approximately 31 percent of its market capitalization. It holds just $205 million in long-term debt, which equates to a very healthy 3.5 percent long-term debt to equity ratio.
Analysts have become more positive on the company as well. On Apr. 13, the stock was initiated with a ‘Buy’ rating at Guggenheim. Overall, analysts are very bullish on the stock. The average price target for First Solar is currently $77 per share. At its current price of $58 per share, that represents 32 percent upside potential for the stock. The bottom line is that First Solar is profitable, growing, and is in sound financial condition. Analysts are quickly becoming more bullish on the stock. Investors interested in the solar industry should consider buying First Solar.
Why solar can lead the fight against climate change
Solar still has great promise, and continued growth of the industry would be a huge accomplishment in the climate change movement. Traditionally, electricity is derived from fossil fuels such as natural gas and coal. But solar power utilizes clean energy. As a result it does not contain nearly the same level of harmful emissions.
SolarCity Corporation (Nasdaq: SCTY) states that one of its average solar power systems offsets 178 tons of carbon dioxide over a period of 30 years. That is the equivalent of saving the amount of gas it takes to drive 390,000 miles, or saving 174,000 pounds of coal from being burned. Increasing nation-wide use of solar panels, such as the ones provided by First Solar and SolarCity, at both the consumer and commercial levels would be a huge positive step to prevent global warming and climate change.
Companies to watch
SolarCity Corporation: SolarCity is a smaller player in the solar industry, and as a result is not as established as First Solar. It has not demonstrated consistent profitability, and its share price has declined 33 percent year to date. However, it could be a compelling turnaround stock. Its revenue soared 61 percent in the fourth quarter, but it lost $56 million last year. Still, the company expects to become cash-flow positive by the fourth quarter of this year. Analysts overall are bullish; the average price target is 26 percent above SolarCity’s current share price.
SunPower Corporation (Nasdaq: SPWR): Like SolarCity, SunPower has had a difficult performance in 2016. The stock has declined 27 percent year to date, and has mirrored SunPower with challenging financial performance. SunPower is a more speculative company, and as a result investors should expect continued volatility. But it is a growth stock worth watching. Analysts expect the company to grow earnings by 36 percent next year. This is why the average analyst target price for SunPower stock is 63 percent above its current share price.
Bob Ciura is an independent equity analyst. Since 2012, his work has focused on fundamental investment analysis of publicly-traded companies in the energy, technology, and consumer goods industries. Bob has a Bachelor's degree in Finance and an MBA in Finance.