SolarCity: The Next Google?

 | Jan 17, 2014 | 6:00 PM EST
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In many ways, SolarCity (SCTY) is in a league of its own. It has only been public since December 2012, slightly more than a year. Unlike SunPower (SPWR) and First Solar (FSLR), SolarCity does not manufacture solar panels or equipment. SolarCity buys and owns solar panels others manufacture. It is  one of the few solar companies that actually owns solar panels and related equipment for the long haul.

While SolarCity owns solar panels, its real business is selling electricity, energy efficiency and financial products. Retail electricity consumers want SolarCity's electricity because they can realize immediate cost savings and achieve long-term price stability. During the marketing process, customers are upsold on SolarCity's energy efficiency products and services.

However, for SolarCity, financing is a critical success factor. To finance installations, SolarCity uses a process once cherished by the home mortgage industry. SolarCity bundles customer systems into financial packages, which may include tax equity and future cash flow. SolarCity sells those bundled packages to third parties.

As of March, SolarCity had 24 financing funds and financing facilities established with banks and other large companies such as Credit Suisse (CS), Google (GOOG), PG&E (PCG) and U.S. Bancorp (USB). Since March, SolarCity created additional funds. Today, it has added public offerings. In addition, SolarCity recently acquired Common Assets and Mosaic's crowdfunding platform. Expect more financing offers from SolarCity.

It is clear financing is costing the company margin. In fact, significant shareholder value is exported to third parties when those creative packages are sold. SolarCity has no choice. Without financing, the company cannot grow.

For the long-term investor, SolarCity's financing challenges could become an opportunity. Because of accelerated depreciation rules, third party financiers may exit positions within a three- to five-year timeframe. As they exit, they release liens, which could mean SolarCity inherits high margin cash flows.

SolarCity may need higher margins to offset damages states may impose on unregulated distributed generation or net metering. The odds states will impose new regulations, fees and tariffs over SolarCity's 20-year contracts are significant.

While there are significant threats, there are also huge opportunities. SolarCity could become the new Google. A hint is found in its SEC Form 10-K filed last March.

In its filing, SolarCity mentions energy efficiency. It also mentions energy storage, its proprietary electronic monitoring equipment and protected software. Add them together and the company may have a fascinating demand-response strategy. Not only is it fascinating, it could be hugely profitable. 

SolarCity could be readying its platform for the future. By aggregating thousands of small customers and managing their demand, SolarCity could be in a strong position to negotiate with grid managers. When put together in one package, SolarCity could present federally regulated grids with a large demand-response footprint. That large footprint could earn SolarCity additional revenue for capacity and energy. In this case, instead of megawatts, it would be negawatts.

These new revenues cost SolarCity next to nothing. Customers, equipment and software are mostly in place. As more customers and equipment are added, SolarCity becomes a cost leader and market leader in an evolving infrastructure that few know exist.  

There is nothing preventing traditional utilities from competing. Yet, most remain on the sidelines. It appears SolarCity has a clear field with virtually no competition.

Before investors jump in, investors should understand the risks. For every Google, there were hundreds of disappointments, failures and losses. SolarCity will face huge obstacles. In all likelihood, there could be some rough quarters ahead.

For the year, SolarCity's stock is up by about 380%. It was about $11 a year ago. Recently it blew past $75 after reporting months of negative leveraged free cash flows and negative earnings. Investors are jumping in.

This may not be the right time to jump in. Soon, its fourth quarter earnings will be reported. Their weakest revenues should be the weeks around Dec. 21, the winter solstice. SolarCity's earnings for the fourth quarter and first quarter should be relatively weak. Their strongest revenues should be in the weeks around June 21, the summer solstice. Its second quarter and third quarter revenue could be strong. If so, its stock could jump.

No matter when the investment is made, investors should know that buying this company is buying a story. It is not about fundamentals. It is not about financial performance. But, it is one heck of a story.

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