Why SolarCity Has Seen Its Stock Price Lose More Than 60% Over The Past 6 Months

| About: SolarCity Corp. (SCTY)

Summary

The energy sector downturn has increased risk aversion towards capital intensive energy companies with long dated cash flows.

The stock market is not happy with SolarCity's capital concerns and soft forecast.

Nevada ruling has negatively affected the stock performance.

Stock is looking more reasonably valued and could bounce back from here.

As expected, SolarCity (NASDAQ:SCTY) stock price shot up following the ITC extension in December end, but declined again due to the Nevada solar price revision in January 2016. The Nevada case, which has literally punished customers going solar has forced SolarCity to exit that state. Nevada's erstwhile friendly solar policies and SolarCity's lucrative lease policies helped many customers go solar. However, more than the Nevada case, the major decline is SolarCity's stock price fall has been the increasing aversion to energy business models, which are dependent on high capital requirements and long dated cash flows. SunEdison (NYSE:SUNE) had a similar model, where it was buying renewable energy assets around the world using high amounts of debt. The market has suddenly turned for these companies, leading to a battering of their stock prices. SunEdison has been the worst performing stock in the last one year and SCTY seems to be following SunEdison. The halo of being associated with Elon Musk also seems to be wearing off, as the market conditions have turned adverse. I have never rated SolarCity as a buy since its IPO days, when I found it too expensive. However, I think a lot of market concerns have been priced into the stock and the stock should bounce. However, my money on solar stocks at this time would go to stronger companies such as First Solar (NASDAQ:FSLR), Trina Solar (NYSE:TSL) and SolarEdge (NASDAQ:SEDG).

Why the stock has been mauled

1) The Nevada Ruling - According to the Nevada state ruling, there will be an increase in the monthly charges for NV Energy customers with rooftop solar from $12.75 to $17.90 per month in the first year of the phased increase, and they will eventually reach $38.51 at the end of five years.

Nevada's decision has killed SolarCity's business model in the state, as utilities are fighting the growth of residential solar by lobbying regulators. Though I don't think other states are going to put such onerous charges on solar energy, there is a fear amongst investors. Most of the solar companies and investors were not expecting a ruling against solar energy and that too at a time, when solar energy is getting global support. There are concerns that other states too might replicate Nevada's ruling, which would lead to growth slowdown. SolarCity and other companies such as SunRun (NASDAQ:RUN) have fired their workers in Nevada and are shutting down their operations. This not only will lead to lower revenues (20 MW a quarter for SCTY) but also lead to losses as the past investments in the state will have to be marked down.

"Since December we have seen a paradigm shift on the world's approach to electricity, with the Paris climate agreement, extension of the federal Investment Tax Credit, and now a decision from California that will continue the successful net metering policy while ensuring rooftop solar users begin to provide valuable services to the grid. This new paradigm is one in which our most important goal is to deploy renewable energy as fast as possible. SolarCity looks forward to working with everyone to exceed the world's expectations on how fast we can do it." - SolarCity CEO Lyndon Rive

Source: SCTY PR

2) Capital Constraints - SCTY has been constantly raising capital to fund its future growth. In the past when the environment was good, SCTY had no trouble in raising debt or equity to fund its future growth. However, the recent market environment has made the management change its stance. The company is now focusing on the "DevCo" part of its business which deals with the sales and installation of solar systems. The management is considering selling some of the company's PowerCo assets to fund its core business. In this risk averse environment, the company sees no benefits in either its cost of capital or in manufacturing. We have all seen how market punished SunEdison for its aggressive acquisitions, which led to capital concerns for the company.

3) Manufacturing rethink - SolarCity is setting a huge gigawatt solar module manufacturing facility in New York. Though this factory could have helped in bringing down the overall cost of production, it is still a year away from going online and has faced delays. The management is rethinking its solar panel making strategy which will lead to a drain of precious capital, without adding too much value. I think it would be better for SCTY to sell off this plant and focus on its core business of installing solar systems.

4) Discounting Factor Issue - According to SolarCity, the NPV of its levered project cash flows is based on a 6% discount rate, which is questionable in this environment. If the discount rate is higher, than the market value of its future cash flows generated from its solar assets would be much lower.

5) Stock also fell because of the low guidance - SolarCity stock fell on a steeper-than-expected loss for its current quarter. Shares fell more than 30% after the announcement. SolarCity also fell short of its installation goals.

For the current quarter, SolarCity expects a loss of $2.55-2.65 per share, as against analyst forecast of loss of $2.36 a share. The first quarter installations are also expected to decline 34% from the prior quarter.

Upside Possibilities

a) Elon Musk positive about the Chinese solar - One of the biggest issues with SolarCity is that it is limited to the USA markets. Countries like China, India, and many others are showing massive growth. While China aims to reach 150 GW of solar PV capacity by 2020, India has plans to install 100 GW of solar power by 2022. Elon Musk who is the chairman of SolarCity recently made positive statements about the solar market in China and commented that solar energy could power the whole of China. While nothing was said clearly, the management may be hinting that SolarCity could expand in China.

"China Can 'Easily' Support All its Energy Demand Using Homegrown Solar Power, Says Tesla's Musk in Hong Kong"

Source

b) USA solar market continues to grow strongly-Solar accounted for 30% of USA's new electric generating capacity brought online during the first three quarters of 2015. Solar power is expected to hit 95GW mark by 2022 that will be enough to power 19 million homes according to SEIA. USA expects to install 13 GW in 2016 and 15 GW in 2017 as estimated by IHS Research. Since SolarCity is the largest residential installer in USA, it should benefit from the rising number of installations. Residential solar installations in USA is also increasing at a steady rate as can be seen from the table below.

Residential (in MW) Total (in MW) As a % of Total
Q1 15 400 1329 30.1
Q2 15 463 1393 33.24
Q3 15 519 1361 38.13
Click to enlarge

Stock performance & Valuation

SCTY is currently trading near ~$18, which is a decline of almost 71% from its 52 week high price. The stock reached ~$60 levels in December 2015 following the ITC extension news, but fell 13% following Nevada's decision to hike fees on solar homes. This was the biggest decline in SCTY prices since October'15. The stock lost more than 60% in the last six months. The stock performance has been the worst amongst peers. The P/B and P/S are 1.9x and 4.2x respectively, which is still high when compared to Sunrun's 0.9x and 1.5x respectively.

Click to enlarge

Source: Google Finance

Conclusion

I was never a big fan of SolarCity as its capital structure has lacked transparency and valuation has remained high. That said, the solar industry is an extremely dynamic industry where even the strongest companies have faltered. Despite the stock price volatility, investors can reap big rewards, given the massive growth expected in solar energy over the long term. USA is set to be a big market for solar growth and companies like SolarCity will leverage from this growth. Risk aversion has increased and solar companies with back dated cashflows are more vulnerable. In the current environment, this stock might face more pressures compared to other companies. Though the company is the largest residential solar installer in USA and has the backing of Elon Musk, I still feel it will have to face hard days in the near future. Capital is the biggest concern for solar companies and Mr. Market is starting to react negatively towards companies facing a credit crunch. Though the stock might bounce after such a steep fall, I will advise investors to wait for some time before investing.

Disclosure: I/we 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.