SolarEdge Thesis Unchanged - Stock Should Recover Smartly

SolarEdge (SEDG) Q4 CY2023 results came below expectations with revenue of $316M falling below already low expectations. SolarEdge results painted a worse set of outcomes from Europe than what rival Enphase (ENPH) indicated, and this seems mainly due to SolarEdge’s much larger exposure to Europe and also because Enphase is a share gainer. On a megawatt basis, SolarEdge shipped over 900MW worldwide including 283 MW to the United States, 335 MW to Europe, and 283 MW to the rest of the world.

The main reason for the weaker than guidance revenue was that sell-through in Europe was down approximately 35% quarter-over-quarter with residential inverters and optimizers down 39%, and residential batteries down 16%. European commercial business sell-through was down approximately 40% quarter-over-quarter. These declines were worse than the 10% to 15% seasonal decline that management was hoping for. The sell-through of US residential products was down 8%, with inverter and optimizer sell-through down 12% and battery sell-through up 43%. Commercial sell-through in the US was up 22% quarter-over-quarter to hit a record high. While the US results look better, they were largely in line with expectations - including the strength in batteries.  

In total, sell-through from the Company’s distributors was slightly below $500 million, indicating that SolarEdge under-shipped demand by approximately $200M.

What was worse than the revenue miss was the gross margin miss. It was particularly bad compared to Enphase’s results and commentary and likely spooked the investors and took the stock to new 52-week lows. GAAP gross margin for the quarter was a negative 17.9% compared to positive 19.7% in the prior quarter. Non-GAAP consolidated gross margin this quarter was 3.3%, compared to 20.8% in the prior quarter. This was after the benefit of 210 basis points of IRA benefit!

As discussed in the previous quarter, the Company exited the light commercial vehicle business. The Stellantis contract termination generated an inventory write-off of $36.2M and additional discontinuation costs of $0.8M. SolarEdge discontinued manufacturing in Mexico and reduced manufacturing levels in China. GAAP results for Q4 included $23.2M of restructuring expenses, the majority of which relates to contract manufacturer charges and equipment retirement costs.

In Q4, SolarEdge shipped 133 MWh of residential and commercial batteries, with the majority shipped to Europe. Unfortunately, the shipments were heavily skewed to single-phase batteries that are manufactured using the Samsung cells and that carry significantly lower margins.

There were several reasons for the abysmal margins and the main ones were the under allocation of fixed overhead and non-variable costs in the face of lower revenues, high volume customers with favorable ASPs being a higher part of the revenue mix in the quarter, high cost Samsung battery cells, unfavorable warranty accrual spread on lower shipments,

One factor that management played down was ASP reduction due to competitive reasons. Management noted that there were no great ASP declines in the main solar business, but unfavorable product mix due to the inventory correction played a factor in ASP reductions. For example, management noted that while the typical ratio of inverters to optimizers is 1 to 24, the ratio this quarter was 1 to 30.

The battery ASP per KWh was $403 this quarter, down from $475 in the previous quarter. The decrease is largely due to first shipments of commercial batteries which carry a lower ASP per KWh and due to previously announced price decreases on residential batteries.

Company Is Improving Cost Structure

As to be expected, SolarEdge is reducing its cost structure to account for the new demand and subsidy realities. The Company implemented a 16% reduction in our workforce that was announced in January. SolarEdge also reduced its manufacturing footprint globally except in the US, where the Company is continuing to ramp up manufacturing.

Due to well-known US IRA subsidies, rapidly increasing US production is paramount. From its US facilities, SolarEdge shipped over 90 MW of energy hub inverters in Q4 and expects to manufacture over 200MW in Q1 and hit 500MW quarterly manufacturing run rate in Q2. The Company is also on target to begin producing the optimizers and commercial inverters at a second contract manufacturing location, with small quantities expected in the second quarter and significant volumes in the third quarter.

At peak demand, the Company made a deal with Samsung for battery cells at high prices. The battery prices have now collapsed but the Company is stuck with a contractual purchase and high inventories. The combination means the Company’s margins on the battery front will be low for the rest of the year. However, this too is transient and once the inventory and purchasing obligations run out, the cost structure should recover meaningfully.

While these moves are the right moves, note that, as previously discussed, SolarEdge management has not been as responsive to the market as Enphase management has been. Consequently, SolarEdge results will be inferior and lag that of Enphase’s.