What happened 

Solar energy stocks dropped on Wednesday and the biggest reason was Enphase Energy's (ENPH -2.30%) earnings report. The company reported first-quarter 2023 results after the market closed on Tuesday and while there was plenty of growth, guidance left a lot to be desired and had investors wondering if the stock was too expensive. 

Shares of Enphase fell as much as 27.2% in Tuesday trading, Sunrun (RUN -0.59%) dropped as much as 10.1%, and SolarEdge Technologies (SEDG -3.93%) was down 11%. The stocks were down 26.3%, 9.8%, and 10.6% near the end of trading. 

Home with solar panels.

Image source: Getty Images.

So what 

On the surface, quarterly results didn't look too bad. Revenue jumped from $441.3 million a year ago to $726 million and net income nearly tripled to $146.9 million, or $1.02 per share. But revenue was only up slightly sequentially and earnings were down from $153.8 million in the fourth quarter.

Guidance for the second quarter of 2023 showed that results would continue to weaken. Revenue is expected to be $700 million to $750 million with gross margin under generally accepted accounting principles (GAAP) of 41% to 44%, down from 45% in the first quarter. In all likelihood, that means that earnings well be flat or even down next quarter. 

The concern is that revenue growth is slowing and margins will come under pressure. That would be terrible for a stock that still trades for 48 times trailing earnings. Investors are clearly pricing in more growth at that price. 

SolarEdge was caught up in this because the company makes a similar product to Enphase. While Enphase makes microinverters, SolarEdge makes power optimizers and then inverters that pull together the power from multiple solar panels. If there's a structural drop in demand or pricing pressure, it will affect both companies. 

Sunrun is downstream of these product companies, actually performing solar installations, but it would be hurt if overall demand is down. 

Now what 

Solar energy stocks have been soaring the last few years on hope for growth because of improved economics and government subsidies. But that growth story may be coming unraveled a bit. 

I think the core problem is that valuations got way out ahead of the fundamental value being driven by these companies. Inverters and power optimizers can be great pieces of the value chain, but paying in excess of 50 times earnings (before today's drop) was too much. 

Investors will learn in early May how other companies performed, but right now it looks like demand is slowing and there's some pressure on margins. If that continues, don't be surprised if these stocks continue to slide in coming months. Long-term, the solar energy is in growth mode, but it's not a straight line up for these stocks.