Enphase Energy's (ENPH -2.17%) slowdown took a noticeable turn for the worse in the first quarter of 2024 as sales fell below $300 million for the first time in over three years, and Enphase reported a net loss. However, management is seeing signs of a recovery and reiterated the optimism it shared on prior earnings calls about the second half of this year.
Investors who have stuck with Enphase over the last few years are likely doing so because of the long-term investment thesis centered around increased solar adoption and the energy transition. Let's dive into the earnings call to understand the state of the business, what management is seeing in the marketplace, and whether the growth stock is worth buying now.
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Enphase's changing business
Enphase is known for making microinverters that convert the direct energy produced by solar panels from the sun into the alternating current used by appliances and other devices in our homes. But the company has made a noticeable transition to serve the entire home energy system through its IQ8 series microinverters, IQ batteries for energy storage, IQ system controller, IQ combiner, and IQ electric vehicle charger -- all connected through the Enphase Cloud and visible through the Enphase app.
Enphase reports two main items in each earnings report -- the number of microinverters shipped and the megawatt hours of IQ batteries shipped. The increased focus on IQ batteries is a response to the need for energy storage, which has really accelerated due to the new California energy policy.
Califorina's Net Energy Metering (NEM) 3.0 replaced NEM 2.0 in April 2023. It includes a new net billing tariff that makes hourly export rates 75% lower, meaning residential solar systems are now incentivized to use their own energy instead of selling it back to the grid. The solution is to improve energy storage so that solar can power the home even during non-peak times or at night.
The launch of NEM 3.0, paired with higher interest rates that reduce the return on investment of a solar system, has been challenging for Enphase and its installers. Enphase CEO Badri Kothandaraman said the following on the recent earnings call:
Let me provide some color on NEM 3.0. In the last three to four weeks, I've been on the road, we have visited over 25 installers in California to really understand how their businesses are doing. Many reported that their businesses are down by 50% or more from last year's high and they have all adjusted by becoming much leaner. They are getting better at selling NEM 3.0. They can clearly articulate what works and what doesn't. They are hungry for high-quality leads.
During both its Q3 2023 and Q4 2023 earnings calls, Enphase referred to California as a "wild card," which isn't exactly what investors want to hear, given the importance of the state for Enphase's U.S. business. Especially during times of uncertainty, investors want clarity on the path toward a turnaround so that they know what to expect and won't be blindsided by worse news.
The question marks surrounding California due to NEM 3.0 have been a recent wrench in the Enphase investment thesis. Kothandaraman referred to California as a wild card for the third consecutive earnings call, but this time in a more optimistic light:
We have been managing through a period of slowdown in demand. We believe Q1 was the bottom quarter. Europe has already begun to recover, and we expect the non-California states to bounce back in Q2. California is becoming less of a wild card, and we expect demand to stabilize and increase in the back half of 2024. We are bullish about NEM 3.0 in the long term. The payback is attractive for solar plus batteries. The utility rates are going up steeply and the sales teams are learning rapidly.
Enphase's optimism was reflected in its guidance, which calls for $290 million to $330 million in Q2 revenue, a significant increase from $263.3 million in Q1. Enphase is also guiding for 100 to 120 megawatt hours (MWh) of IQ battery shipments compared to 75.5 MWh in Q1 -- a 46% increase at the midpoint.
The market is forward-looking
If Enphase can show signs of growth, more certainty in Q2, and chart a path toward further growth in the second half of the year, it could turn the stock around and mark a step change to what has been a weakening investment thesis. However, investors shouldn't expect Enphase to resume its pre-downturn growth rate overnight.
Cyclical companies like Enphase should be judged on how they manage through downturns in the cycle just as much or even more than how they capitalize on expansion periods. To its credit, Enphase has done a good job investing through the cycle and focusing on its long-term growth potential while maintaining a strong balance sheet. It finished the quarter with $1.63 billion in cash, equivalents, and marketable securities -- more than its outstanding debt.
Enphase looks expensive based on financial metrics like the price-to-earnings (P/E) ratio or price-to-sales ratio. But the stock market is forward-looking, so it's more important to value Enphase on where it will be in a few years and what the recovery looks like rather than where it is today.
Analyst consensus estimates call for 2024 revenue of $1.5 billion and $2.96 in earnings per share (EPS), followed by $2.17 billion in 2025 revenue and $5.14 in EPS. For context, Enphase booked record calendar year EPS of $3.08 in 2023 and sales of $2.29 billion -- but its best 12-month period was from Q2 2022 to Q2 2023, when it notched $2.8 billion in sales and $3.97 in diluted EPS.
The analyst consensus estimates show Enphase not just recovering but also putting up record results in less than two years. It's a tall order, but if it does happen, Enphase stock will look inexpensive. At a price of around $111 a share, Enphase would have a mere 21.6 P/E ratio based on consensus 2025 earnings estimates. However, because of unforeseen challenges derailing or delaying the turnaround, it would be a big mistake for investors to bank on these projections.
Enphase remains in "prove it" mode
A major risk for Enphase is a period of higher interest rates for longer. And that could happen if the Federal Reserve delays rate cuts or slows the pace of cuts, which could make rates stay higher than pre-pandemic levels.
Another concern is how Enphase's margins will hold up during a recovery. During the last expansion period, the narrative was breakneck sales growth paired with high margins, which supported profitability. The actual earnings could fall significantly short of projections if Enphase's margins decline. Tax credits also impact the margins, so there's some regulatory risk for Enphase as well.
Overall, Enphase remains a high-risk/high-potential reward investment with a ton of question marks. Most investors would probably be better off keeping Enphase on a watchlist and seeing how the turnaround plays out rather than diving in headfirst right now.
Investors who are highly optimistic about the solar market could consider the stock now, but only with the understanding that it will likely remain extremely volatile and reactive to interest rates, Federal Reserve policy, and the pace (or lack thereof) of its turnaround.
