Sunrun (RUN -4.37%) is now the No. 1 residential solar installer in the U.S., growing its customer base by 24% year over year to 271,000 homeowners through the third quarter of 2019. Growth has driven the stock up more than 35% over the past year, and it seems like the company can do no wrong. But beneath the headline numbers, there are problems brewing in Sunrun's renewable energy business. Here's how Sunrun may be destroying value as it pushes for more growth.
Sunrun's value problem
Since Sunrun finances solar installations itself, it tries to approximate value by calculating the present value of its cash flow. It does that with what it calls "net earning assets," or the "estimated future cash flows from assets deployed." This includes both contracts signed with customers and the assumption that customers will renew those contracts beyond the initial 20-year term.
I think the renewal assumption of this calculation is flawed because it's not backed by any historical data. Residential solar leases and power purchase agreements are new within about the last decade, so we have no idea whether a customer will want to renew a PPA on 20-year-old equipment. Why would they when newer equipment would be better and likely cheaper?
So if we just pull out the renewal assumption from Sunrun's earning assets, I think this gives us a better idea of the value Sunrun is creating. And in the past year, there's a disturbing trend in contracted net earning assets. Here's what contracted net earning assets look like after pulling out the renewal assumption.
|Metric||Q3 2018||Q3 2019||Change|
|Net earning assets||$1,389 million||$1,438 million||3.5%|
|Gross earning assets, renewal||$917 million||$1,106 million||20.6%|
|Net earning assets, contracted||$472 million||$332 million||(29.5%)|
Over the past year, contracted net earning assets have fallen $140 million. This is offset by cash increasing by $106 million from a year ago, as Sunrun has sold nearly $500 million in project-level debt, but still, value is being destroyed by Sunrun's own measure.
Why is Sunrun losing value?
There's a very simple explanation for why Sunrun is having a hard time growing contracted value: Its costs are rising.
In the first three quarters of 2019, total costs increased by $0.05 per watt installed to $3.35 per watt. That may seem like a small increase, but the reason costs are higher is an $0.08 increase in sales and marketing costs to a whopping $0.81 per watt.
The reason rising sales and marketing costs are so jarring is that they show that incremental growth is becoming increasingly expensive. Sunrun has chosen to spend on growth rather than retain value on its installations.
We've seen this happen before
Holding a top market share position in the U.S. hasn't been kind to residential solar companies, especially when they try to keep growing. SolarCity took the No. 1 market share spot nearly a decade ago only to need a bailout from Tesla because it grew too fast. Vivint Solar was on a similar path to the No. 1 spot, but ran into financial problems when it agreed to be acquired by SunEdison.
When residential solar installers get too large, they're forced to spend more to find growth. That increases costs and reduces the value that ultimately flows to the company and shareholders. We're seeing that again with Sunrun, so buyer beware.