Equity Research Alternative Energy – Market Underweight May 4, 2016 DO NOT REDISTRIBUTE and DO NOT FORWARD – This document is solely limited to clients of Axiom Capital Management. DISCLOSURES: Please refer to the end of this report for Analyst Certifications, Important Disclosures, and Other Disclosures. Gordon L. Johnson II Senior Analyst/MD 212-521-3811 [email protected]James A. Bardowski Senior Associate/VP 212-521-3852 [email protected]Source: Axiom Capital Research, Bloomberg Fundamental Data Price Target $7 Current Price $26.45 52 Wk Hi-Low $64-$16 Market Cap. ($MM) Shares Out (MM) 103 Float (MM) 64 Avg. Daily Vol ('000) 6,300 Exchange NASDAQ ROE (2016E) -12.4% Debt-to-Capital (current) 60.9% Dividend Yield (annualized) NA Price Performance YTD LTM SCTY -48.2% -57.1% S&P 500 1.0% -2.1% Price Performance 3YR (USD) $2,723 $0 $20 $40 $60 $80 2013 2014 2015 2016 The Good, the Bad, & the Ugly. In a widely anticipated move (evidenced by the recent outperformance of SCTY’s shrs), yesterday SCTY announced its first-ever cash equity deal w/ John Hancock Financial (“JHF”). Under the terms of the deal, SCTY will sell 95% of the cash flows generated from a portfolio of 201MW of residential & commercial solar projects to JHF over the next 20yrs. The Good: in return for the cash flows, SCTY will receive $227mn in upfront equity, while retaining a 5% minority interest over 20yrs; including tax equity investments + upfront rebates/prepayments, this transaction will raise $3.00/W in total financing (or ~$603mn), & reflects a blend of $2.35/W for commercial projects & $3.24/W for residential projects; the IRR is ~8.2%; the majority of the installations were completed in ’15; the projects are spread over 18 states, w/ no single state comprising >35% of the portfolio; & the avg. FICO score for the residential customers is 744. The Bad: when looking at just the cash equity proceeds from this deal ($227mn) – while we recognize an additional $376mn in cash, ~$346mn of which is tax-equity (“TE”), has already been received, while, technically, TE is available for general corp. purposes, given it’s largely been spent to offset the CAPEX of the systems themselves (meaning, in reality, it is not available), we feel the relevant metric to analyze is the cash equity received, or the cash available for new project investment/debt retirement – adjusting for SCTY’s 5% ownership, a more normalized ≥50% mix of SREC’s from CA, and then applying these metrics to SCTY’s existing installed base of 1.67GW (i.e., 1.8GW of cum. deployed GWs - 177MW of MyPower loans [MyPower loans have no tax equity]), adjusted for debt, the Silevo earn out, unrestricted cash, the book value of MyPower, the full renewal value, & a 35% tax rate, we derive a fair value for SCTY’s PowerCo of just $0.71/shr (Ex. 6). The Ugly: $2.71/W in costs (Ex. 7) - $1.38/W in tax equity (Ex. 8) - $0.07/W in rebates/repayments (Ex. 9) = $1.25/W in funding needs; yet cash equity proceeds from JHF were just $1.18/W, meaning SCTY sold at a loss. Caveat emptor. Dark Clouds Ahead? We believe a mild bookings trend borne out of SCTY’s decision to leave NV, & withdraw MyPower, will compel an annual guidance cut when the company reports earnings next week. SOLARCITY CORP. (SCTY – $26.45 – SELL) Is The Entire Sell-Side Incorrectly Giving SCTY Credit For Cash It Can’t Access? Note: (1) In accordance with SCTY reporting, non-GAAP EPS are based on consolidated net income. Source: Axiom Capital Research, company filings, Bloomberg EPS (Non-GAAP 1 ) 2014 2015 Prior 2016E Prior 2017E 1Q ($0.82) ($1.52) ($2.38) ($2.49) UR ($2.44) 2Q ($0.96) ($1.61) ($1.97) ($2.37) UR ($1.82) 3Q ($0.71) ($2.41) ($1.53) ($2.29) UR ($2.00) 4Q ($1.52) ($2.25) ($1.43) ($2.64) UR ($2.51) FY (Dec.) ($4.05) ($7.91) ($7.30) ($9.79) UR ($8.77) Consensus ($7.37) ($9.13) ($8.32) ($8.60)
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Equity Research
Alternative Energy – Market Underweight May 4, 2016
DO NOT REDISTRIBUTE and DO NOT FORWARD – This document is solely limited to clients of Axiom Capital Management. DISCLOSURES: Please refer to the end of this report for Analyst Certifications,
The Good, the Bad, & the Ugly. In a widely anticipated move (evidenced by the recent outperformance of SCTY’s shrs), yesterday SCTY announced its first-ever cash equity deal w/ John Hancock Financial (“JHF”). Under the terms of the deal, SCTY will sell 95% of the cash flows generated from a portfolio of 201MW of residential & commercial solar projects to JHF over the next 20yrs. The Good: in return for the cash flows, SCTY will receive $227mn in upfront equity, while retaining a 5% minority interest over 20yrs; including tax equity investments + upfront rebates/prepayments, this transaction will raise $3.00/W in total financing (or ~$603mn), & reflects a blend of $2.35/W for commercial projects & $3.24/W for residential projects; the IRR is ~8.2%; the majority of the installations were completed in ’15; the projects are spread over 18 states, w/ no single state comprising >35% of the portfolio; & the avg. FICO score for the residential customers is 744. The Bad: when looking at just the cash equity proceeds from this deal ($227mn) – while we recognize an additional $376mn in cash, ~$346mn of which is tax-equity (“TE”), has already been received, while, technically, TE is available for general corp. purposes, given it’s largely been spent to offset the CAPEX of the systems themselves (meaning, in reality, it is not available), we feel the relevant metric to analyze is the cash equity received, or the cash available for new project investment/debt retirement – adjusting for SCTY’s 5% ownership, a more normalized ≥50% mix of SREC’s from CA, and then applying these metrics to SCTY’s existing installed base of 1.67GW (i.e., 1.8GW of cum. deployed GWs - 177MW of MyPower loans [MyPower loans have no tax equity]), adjusted for debt, the Silevo earn out, unrestricted cash, the book value of MyPower, the full renewal value, & a 35% tax rate, we derive a fair value for SCTY’s PowerCo of just $0.71/shr (Ex. 6). The Ugly: $2.71/W in costs (Ex. 7) - $1.38/W in tax equity (Ex. 8) - $0.07/W in rebates/repayments (Ex. 9) = $1.25/W in funding needs; yet cash equity proceeds from JHF were just $1.18/W, meaning SCTY sold at a loss. Caveat emptor.
Dark Clouds Ahead? We believe a mild bookings trend borne out of SCTY’s decision to leave NV, & withdraw MyPower, will compel an annual guidance cut when the company reports earnings next week.
SOLARCITY CORP. (SCTY – $26.45 – SELL)
Is The Entire Sell-Side Incorrectly Giving SCTY Credit For Cash It Can’t Access?
Note: (1) In accordance with SCTY reporting, non-GAAP EPS are based on consolidated net income. Source: Axiom Capital Research, company filings, Bloomberg
EPS (Non-GAAP1) 2014 2015 Prior 2016E Prior 2017E
1Q ($0.82) ($1.52) ($2.38) ($2.49) UR ($2.44)
2Q ($0.96) ($1.61) ($1.97) ($2.37) UR ($1.82)
3Q ($0.71) ($2.41) ($1.53) ($2.29) UR ($2.00)
4Q ($1.52) ($2.25) ($1.43) ($2.64) UR ($2.51)
FY (Dec.) ($4.05) ($7.91) ($7.30) ($9.79) UR ($8.77)
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Exhibit 6: John Hancock Cash Equity Sale Implications for SCTY PowerCo Value
¹ Installed base is calculated by taking deployed MWs less 177MW in MyPower loans (we include a book value for MyPower as a credit, but exclude it from the
deployed base as we don't think they can sell these under the same economics – there is no tax equity, thus the math is different.
² We adjust the residential value slightly lower to reflect the fact that we are applying a value to the entire portfolio, yet don’t know where interest rates are
going (SCTY talked about a 4.5% blended cost of debt 4 months ago – rates have barely moved – and now SCTY's cost of debt is much higher… if rates go
up, the ASP will go down), or if its even possible to sell the entire portolio given counterparties.
³ $782M was the unlevered retained value as of C4Q15 for the renewal period; thus, we change the discount rate impact from 6% to 8% (using a real DCF, not
their numbers and not just taking 8% over 6% which is 33%), which is 31%; thus, the unlevered retained value at 8% comes to $540 million untaxed, or
$5.3/share. 4 We assume a 35% tax rate.
Source: Company documents, Axiom Capital research.
Polysilicon >40 players
Ingot/Wafer ~50 players
Cells ~100
players
Module ~ 400
players
System > 5,000
players
Total Portfolio 5/2/2016Profit $227MWs Sold 201Profit per MW $1.13% Sold 0.95Profit per MW - Adjusted $1.19Less: SREC Benefit on Mix (forecast) $0.06Profit per MW - Adjusted for SREC's $1.13
% BreakoutResidential 73.0%Commercial 27.0%
Profit per MW Breakout %Residential $/watt $1.20Commercial $0.95Blended $1.13Check $0.00
Total PowerCo Portfolio Size C4Q15Installed Base¹ 1,670
Total MW 1,670Total Value $1,830Taxes $0Total Value After Taxes $1,830Less: Recourse Debt $1,512Less: Silevo Earn Out $150Plus: Unrestricted Cash $394Plus: Book Value of MyPower $251Total Value $813Shares 101
Total Value Before Non-Recourse Debt 5/2/2016Total Value $813Total Value/Share $8.05
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Risks to Downside Price Target
While we have strong confidence in our views expressed throughout this report, we do acknowledge a number
of risks to our downside 2016 year-end price target. Below, we provide some perspective on these risks.
Net-Metering Prevails. Core to our thesis is our view that utilities are readily gaining ground against the
whole net-metering argument (i.e., whether customers with solar systems should be excluded from fixed
charges on their utility bills) and will likely eventually prevail. If, however, solar proponents somehow are
able to get everything they want, and the states currently reviewing net-metering policies either maintain or
even strengthen the status quo, our thesis would prove invalid.
Interest Rates Stay Lower for Longer. As we see it, low interest rates enable the beneficially low cost of
capital in SCTY’s solar loans. While higher interest rates would benefit traditional financial intermediaries,
which generate the preponderance of earnings based on where net interest levels are floating, we posit that
SCTY cannot simply pass on higher interest to its customers, as this would erode the costs savings of
installing rooftop solar. However, if the Federal Reserve indefinitely continues to refrain from raising interest
rates, SCTY would be saved from this inevitability, which runs contrary to our long-term thesis.
Financial Engineering...a Sentiment Play. As we have stated countless times before, we view SolarCity
as a specialty finance / leasing company, versus a solar company. We say this given the complex products
that SCTY offers and difficulty in modeling the company with any degree of precision. In other words, due to
the plethora of assumptions that are required to model SCTY, we see this stock driven more by sentiment,
versus fundamentals. Resultantly, following a similar “craze” that surrounded YieldCo.s last year, we
acknowledge that SCTY’s stock may go higher if the company can reinvigorate investor sentiment by rolling
out new, unforeseen financing products or engaging in more aggressive securitizations of its receivables.
While this is a risk that would certainly void our thesis, we believe it would itself be temporary.
High Short Interest and Inside Ownership. Given the high degree of SCTY’s shares already sold short,
we acknowledge that a potential short squeeze could result in a big move higher in the stock. Moreover,
downside to SCTY’s share price could be limited by a lack of selling when considering the high amount of
inside ownership.
Please contact your Axiom Capital Research sales person for our dynamic SCTY company model.
SolarCity Corp.
May 4, 2016
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Analyst Certification:
I, Gordon Johnson, attest that the views expressed in this research report accurately reflect my personal views about the subject security and issuer.
Furthermore, no part of my compensation was, is, or will be directly or indirectly related to the specific recommendation or views expressed in this
research report.
Explanation of Ratings
Outperform/Buy – We expect the stock to outperform the S&P 500 Index and post absolute price appreciation of at least 10%.
Neutral/Hold – We expect the stock to perform in line with the S&P 500 Index.
Underperform/Sell – We expect the stock to underperform the S&P 500 Index and post absolute price depreciation of at least 10%
Current distribution of ratings as of May 4, 2016
% Number Rating
40% 14 Outperform/Buy
17% 6 Neutral/Hold
43% 15 Underperform/Sell
Investment banking services were not provided to any of the companies with the aforementioned ratings. All current required disclosures are available
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how high or low a stock price may move before either overhead supply or underneath demand develops; Analysis of a company’s P/E ratio, price/book
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500 vs. the yield of the 10-year government bond; Individual sector analysis along with investor sentiment, and Federal Monetary Policy.
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Valuations are based on technical analysis techniques using some or all of the following inputs: trend recognition, pattern recognition, Japanese
candlestick formations, oscillator readings (short-term), relative performance, money flows, support and resistance levels, volume, sentiment indicators,
and seasonal analysis.
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SolarCity Corp.
May 4, 2016
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