What Went Wrong In The Solar Industry - And What Is Going Right?

 |  Includes: TAN
by: Troy Jensen

I've been asked many times over the past six months now in 2013 - what went wrong with solar? As we hear about solar manufacturers going bankrupt, solar panel overproduction and panel pricing at historic lows, and American manufacturers unable to compete with China's manufacturers, added to the fact the Natural Gas (a "cleaner" burning Legacy Energy generation source) prices are at all time lows - is solar doomed?

I spent over four years focusing intensely on the Clean Energy sector both consulting with and investing in various segments, with solar generation in particular (both distributed - so, individual smaller systems on residential and commercial buildings - up to the very large "Enterprise" utility-scale projects - think the giant acres of solar panel arrays lined up in the California desert ... these points below are directly addressing the distributed solar energy segment, the utility-scale issues I summarize quickly at the end). I started out focusing on all the stages of the production process for the solar energy generation sector in the U.S. in particular - so from the upstream processes such as the actual extraction and processing of the raw materials, the various manufacturers and their differentiated raw products, midstream manufacturing of the actual panel (or thin film, etc., etc.), all the way downstream to the distribution networks and smaller installation companies.

I can give my humble inside view on "what went wrong" if that fits the question (paradoxically, as least for a while, it "went right" for some downstream participants in the sector, like installers and consumers, due to several of the below points that caused the finished solar panel shipped to the U.S. becoming so incredible inexpensive so fast in a cost-per-watt basis it lead to installed projects costs dropping and therefore more sales ... another topic for another day is how that golden opportunity was fumbled in many cases as well).

1. The Glut of Manufacturers from China: At one point in 2011, there were over 300+ manufacturers of various sizes of solar panels (and thin film - from this point forward when I refer to solar panels let's just assume I'm referring to thin film and other more esoteric final solar energy generation products). Consolidation was inevitable. As is the Chinese way, they scaled-up production capacity as if - and indeed there was a lot of hype regarding the size and scope and potential of the U.S. Solar Industry - this was the "Next Bubble", something of Internet-sized or larger proportions. And so basic economic laws of gravity quickly took hold - prices in 2009-2012 were dropping from $4 cost-per-watt quotes to sub-$1 cost-per-watt quotes. Solar panels - literally, as I saw with my own eyes - were piling up at shipping ports. And quite frankly, the differentiation between the final products just were not enough to sway distributors, installers or consumers enough to justify one brand over another. And speaking of branding, another large fumble for a lot of players - many Chinese manufacturing facilities were literally white labeling their panels for several brands that were hoping perhaps their marketing acumen, distribution networks, or other downstream differentiators in the marketplace would be the difference maker. Alas, it just wasn't so. Manufacturers began losing money on every panel produced. In the end, there was simple way too much capacity added way too fast globally, and the resultant glut left much of the upstream portion operating at net losses. Consolidation and the quest for roll up companies into fully-integrated entities (owning the entire process, upstream manufacturing to downstream retail sales) are ongoing ... but in my personal view thus far, the margins are razor-thin and downward pressures are everywhere. There are a few exceptions, whoever, portions of which are explained further below.

2. Fractured Distribution and Retail Environment: There are a few stellar and growing players in the U.S. that I think have a real chance at cracking the market, but overall there are hundreds of distributors and hundreds and hundreds of retail-level installers, making for an incredibly fractured and befuddling environment to consumers. There are some fairly innovative ways to maintain the independence of these participants through cooperative strategies (I've been invested in one for several years) but herding cats is never fun.

3. Lack of Understanding at the Funding Level: So many venture capital firms, keen on jumping onto what is ultimately a multi-trillion dollar industry as a whole - the generation of energy - and what many in the mid-to-late 2000's saw as "The Next Internet Boom" jumped in feet first. But Clean Energy isn't even remotely close to the same type of business model that most Digital and Internet-related business models are - there is a ton of infrastructure, utilities, lots of regulations etc., etc. There are a million articles out there discussing the heavy losses VC firms have taken in solar, and a lot cut their losses. Needless to say, the funding environment for the Solar Sector is extremely poor, to say the least.

4. Lack of Large-Scale Consumer Financing: Huge deal here. Solar makes a ton of sense if financed at the user-level correctly. Without diving into massive granular detail, financing companies have been reticent to throw large amounts of money into solar leases and PPAs (Power Purchase Agreements, similar in many ways to leases), consumers are very confused about their options, and honestly many commercial CFOs in meetings I have sat in love the concept but truly believe "it sounds too good to be true" - honestly. Add in the lack of a secondary resale market (what do you do when the lease is up and the consumer wants to, for instance, simply turn in the system and install newer tech in 20-years? What is the value of the system on a used solar system market? etc. etc.), and the lack of a large and liquid securitization marketplace (Solar-Asset Back Securities - bundling multiple leases into securities for sale on a secondary debt market ... which to be frank some very intelligent and pioneering financial institutions are beginning to do - but it simply isn't of large enough scale yet to gain the real traction needed for mass-adoption) to provide the kind of financing liquidity needed for massive scalability in the residential and commercial distributed solar markets is a huge obstacle as well. I DO believe in time both will be overcome - bundled solar leases are a fantastic ABS-type security product for dozens of reasons I won't go into right now to keep this answer as short as I can!

5. Lack of Large-Scale Consumer Awareness: Big piece of the problem as well. Again, there are some players that are doing a good job at scaling-up this much-needed piece of garnering needed traction in the retail distributed solar markets. But overall, there is a very high-level lack of consumer awareness (both in the residential and commercial distributed marketplaces).

6. The Incredible Emergence of Hydraulic Fracturing and Natural Gas: One of the largest hurdles facing solar is the emergence of plentiful, cheap Nat Gas. Natural Gas has been touted for many years as a "Bridge Energy Source" between the dirtier Legacy Energy sources, like coal and oil, to a carbon-free Clean Energy future with Solar, Wind, Tidal, and the like leading the way. That said, consumers are consumers, and $4 Natural Gas, along with the fact that Nat Gas is indeed much cleaner than coal and other Legacy Fuels, has rendered solar a bigger loss than many realize. Natural Gas fits right into our existing electrical grid, and there are dozens and dozens of plans right now ongoing that are closing down coal-fired generation plants and replacing them with natural gas. It isn't far-fetched to think of natural gas-powered vehicles overtaking our gasoline-based infrastructure in place today. I honestly think, depending on the outcome of the "fracking" debate, how much we truly have in the U.S. in proven reserves of Nat Gas, and how expensive the further building out of Natural Gas distribution infrastructure (pipelines and the like) versus the potentially far more costly, and technically daunting, process of building out basically a completely new electrical distribution grid to accommodate the "intermittency" issue with most Clean Energy sources, especially solar (meaning the sun doesn't always shine and the wind doesn't always blow - so to "smooth" out the energy generation to meet the peaks and valleys and, most critically, the "always-on" necessity of electrical power generation, we have some large technical hurdles to overcome to go all Clean Energy - particularly energy storage, which technology-wise is slowly coming along but nothing breakthrough is in the near-term future ... ironically, Natural Gas was the ideal solution for solar proponents as the "bridge" to supply the needed energy to "smoothen out" those peaks and valleys that come with intermediate energy generation, but with natural gas costs, once estimated to be in the $30 per thousand cubic feet now in the $4.50 range (electrical power price) ... you can see how, when you factor in all the infrastructure costs, and technological hurdles, plentiful natural gas made possible by the incredible advances in hydraulic fracturing, explorative technologies, horizontal drilling, etc. ... you can see Nat Gas as a big headwind right now, in my opinion, for solar energy generation in the United States.

7. Political Headwinds: There has been almost no Federal legislative mandates on the pricing of carbon via marketplaces and the like; carbon credit, cap and trade, emissions pricing, etc. I am just stating my economic perspective here mind you, not my personal opinions on this subject. But obviously, the Federal government has been unable or unwilling (or both) to put together structured, cohesive legislation limited carbon emissions, which would be an obvious boon to the Solar Energy Segment.

8. Economic Environment: I'm a realist and a capitalist. And quite frankly, the economic environment for a myriad of reasons ranging from the recession and resultant collapse in lending that is just now beginning to regain some real momentum, to the high-profile Federal Government Solyndra Solar fiasco that makes Fed funding a hot potato no one wants to touch, to the natural gas reserves emergence and resultant downward pricing pressure making it a very inexpensive (and for the average American, the awareness is it is a much, much cleaner source of energy than coal or oil - almost a "Clean Energy Compromise" solution) ... economically, solar is having a rough time, even as its costs have been lowered to the point where it is coming close to the industry's almighty "Levelized Cost-of-Energy" (that the price of solar energy is low enough, without government subsidies, to equal Legacy fossil fuels energy sources), to justify itself from an economic standpoint because of the vast infrastructure and technology hurdles that still need to be overcome to make Solar Energy a substantial percentage of the U.S. energy generation source mix (in 2011, solar and other "Renewables" per the U.S. official data stood at 4.7% of the overall electrical energy production sources - Coal was 41.9%, Natural Gas 24.8%, and Nuclear was 19.1% as a comparison).

Notes: I didn't address utility-scale solar and the issues it faces; the biggest being the intermittency issue, the cost, and the infrastructure investments needed. I also wrote this as absolutely neutral as possible - I have investments in solar energy sector; and I purposely left out any debate in terms of environmental impacts and the like - this was simply an objective breakdown of what I have seen with my involvement in the industry. One last note is my involvement in the industry is by no means extraordinary in its depth of length of time, I spend much of my time with venture start-ups, but I have spent over five years now in the Clean Energy Industry so I thought I could offer my vantage point here from my point-of-view.

And last, this addresses a lot of the negatives brought up by the question. I do see many success stories in the industry, and know very personally of several companies and start-ups in the solar industry that are making very strategic intelligent inroads into becoming players in the U.S. Solar Sector. There is absolutely hope!

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.