Earlier this month there were rumors floating through the industry that downstream solar company Sunrun was for sale. Power Intelligence reported that Goldman Sachs had been hired to do a "strategic evaluation" of the company, sparking hope that another downstream solar company may come public after the solid success SolarCity (NASDAQ:SCTY.DL) has had on the market.
Alas, Sunrun isn't for sale or planning an IPO. Yesterday, I had a chance to talk to co-CEO Edward Fenster about the rumors, what may prompt the company to go public in the future, and how the company is different from other companies participating in the residential solar market in the U.S. Let's start with the beginning and learn a little bit about how Sunrun is -- and isn't -- similar to its public competition.
Just who is Sunrun?
Sunrun is one of a small handful of companies rapidly growing the residential solar leasing market in the U.S. The company doesn't make panels like SunPower (NASDAQ:SPWR), and doesn't own the installation equipment like SolarCity, but it provides financing, training, software, and other services to residential solar installers.
The big difference between Sunrun and other solar companies is its level of vertical and horizontal integration. SolarCity has taken a vertical integration path by doing financing, design, and installation while SunPower is vertically integrated by making panels, financing, and training installers.
Horizontally, SunPower and the other big finance company, Clean Power Finance, have taken the approach that they'll work with a broad range of installers. Sunrun works with just 30 companies to help them originate and construct installation. In short, Sunrun is highly focused on a smaller segment of the market than many competitors, but they think this specialization creates a better experience and lower costs for customers, which will result in higher returns.
So, is Sunrun for sale?
To clear up the rumors I asked Fenster if Sunrun was for sale or considering an IPO. He said that the company is not for sale but Goldman Sachs has been engaged to facilitate financing that will allow the company to fund more solar installations. This is the normal course of business for Sunrun, which has raised sufficient capital to finance $2 billion worth of solar projects.
One of the reasons Fenster said he's not looking to sell the business is that their venture capital investors -- who have pumped $150 million into the business -- aren't eager to sell right now. The company expects the residential solar business to grow between 30% and 70% over the next decade -- as long as it doesn't need the capital there's no big driver to sell.
When might an IPO be attractive?
One of the drivers of an IPO in the future might be the same 30%-70% growth rate that makes holding Sunrun attractive to venture investors. When companies grow that quickly, operating costs can often grow so fast that additional capital is needed just to keep up.
The advantage for Sunrun is that it's a pretty capital-light business model. It doesn't "own the trucks" the way SolarCity does or make panels like SunPower, and it doesn't need to hold inventory either, a big capital drain for growing businesses. That model will allow the company to grow without needing capital that other solar models need to expand. But eventually the operating cost growth may still force an IPO.
The other driver may be the ability to attract and keep top management. For example, the company just hired Thomas J. Holland as COO from Bain & Co. and Anne Brennan as CFO from Unwired Planet, two high-profile hires that normally come with stock options (their compensation package wasn't disclosed or discussed). To liquidate stock grants or options often requires an IPO. This dynamic eventually forced companies like Microsoft and Facebook to go public despite not needing the capital to expand their businesses.
Venture capitalists also won't have an infinite timeline, so in time they'll want an exit plan. But if the company can grow 30%-70% annually without needing new investors, why sell?
In short, Sunrun isn't going public now, but it will likely do so sometime in the future. What may be attractive is finding ways to use public markets to lower financing costs.
Could securitization, MLP, or REIT structures bring Sunrun's assets to the market?
One interesting alternative to going public would be selling assets to an investment vehicle. The industry has been pushing to allow solar MLPs or REITs, and Fenster said having a public entity to push assets down to may be attractive. The challenge is in the tax consequences because equity financing is usually used to build residential solar today.
Securitization is another interesting option. Like many others, Fenster thinks SolarCity will likely lead the way there. The challenge with securitization would be the terms required by investors. If a company could securitize 95% or 100% of an asset the way a mortgage is sold this may become attractive. If companies like Sunrun are expected to keep 30% of the asset on their balance sheets, then they're borrowing 70% at a low cost and 30% at a high cost of capital makes it financially unattractive. Eventually, the industry will likely move in this direction, but until securitization is proven to investors, Fenster doesn't think it will be all that attractive to lease companies.
My personal expectation is that eventually the REIT or MLP structure will be prevalent in the industry, just like it is in oil and gas. This may require assets that are beyond the tax benefit portion of their lives but eventually I think investors will be able to buy a company that invests in residential solar assets, generating a fixed return per month.
Demand for solar investments is growing
Sunrun may not come public this year, but there is a growing demand for solar investments. I think in the next year we'll see securitization, a federal bill allowing solar REITs or MLPs, and potentially the sale of lease receivables. These financing options will help lower the cost of building solar and therefore lower the cost of solar power. That should help everyone from Sunrun to SolarCity to SunPower and everyone in between.