The solar energy industry is rapidly changing from an industry reliant on government subsidies to a disruptive force driven by competitive costs and rapid innovation. One company at the center of the solar revolution is SunPower (NASDAQ:SPWR), manufacturer of the world's most efficient solar panels. The company builds solar energy systems as small as a handheld device and as large as a power plant that will power 255,000 homes every year.
At SunPower's recent Analyst Day, the company announced it would triple production capacity over the next five years and is doubling down on the growing residential solar market. After the meeting I sat down with CEO Tom Werner to discuss SunPower's future in this booming industry.
A full transcript follows the video.
Travis Hoium: Hi Fools, I'm Travis Hoium with The Motley Fool. Today we're lucky enough to have with us Tom Werner, CEO of SunPower. Tom, thanks for being with me.
Tom Werner: It's great to be here.
Hoium: You had Analyst Day yesterday and a lot of really exciting announcements in the last couple of weeks, but before we dive into that I want to get a little bit of a feel for what the solar industry is, how big the opportunity is, and where SunPower fits in it.
Werner: When we did Analyst Day we did talk about some specific things we are doing but we talked about the backdrop we're operating in and it's really phenomenal. I mean if you think about how solar has a 30% annual compound growth rate for 20 years. So, you say this is a really big industry, it must have a huge impact or a big market share. But in fact, in the electricity generation industry we're 1%. So, while we've grown 30% a year, we're 1% of a $2 trillion market. Really we're just at the beginning. It's a $120 billion solar industry that's just at the beginning. When you look at out to 2035 the electricity generation industry will be twice as big, $4 trillion, and we think -- and industry analysts think -- that solar distribution will be 10 times what it is today. So were just at the beginning; this is a massive opportunity.
Hoium: So, huge opportunity. And there are a lot of companies that compete in the space in different ways. How does SunPower differentiate itself from competitors?
Werner: Well, at our foundation, SunPower is a technology company; we're Silicon Valley-based. [A] Stanford professor founded us 30 years ago, we're heavily influenced by semiconductors, Cypress Semiconductor. So, at our heart we're a technology company, we make the world's best solar technology because it's the highest conversion efficiency. So, over time we are making that solar cell, then we made panels, then we made systems, and now we make solar energy and what our customers buy, solar energy. And where we're going is to be an energy company more of an energy solutions company.
So we'll still be great at solar panels, and we will advance that technology, but to that we'll add electronics, storage, energy management, and be [a] solutions company for our customers. So we'll be a technology company. We also forward integrated in our sales channel 10 years ago and so we own the channel for residential, commercial, and utility scale. And we're international. So we're diversified across all segments, across all geographies. At our base, though, we're a technology company.
Hoium: And I think that technology is key. To put a few numbers to that, your X-Series panel is 21.5% efficient versus a commodity panel that's 14% to 16% efficient, and you highlighted that a few times that you're getting about 50% more power from SunPower panels if you put them on your roof, for example, but that's not quite the whole story because the degradation is lower as well. Is that correct?
Werner: Well, as you move to selling energy then what matters is the energy production over the life of the system. So if you start with a 50% advantage, then you're interested in how does it perform over the life of the system? And our advantage grows over time as our panel produces more energy per rated watt.
It also degrades more slowly because it's fundamentally a different architecture. And it lasts longer, so you might sign a PPA [power purchase agreement] or a lease for 20 years, but the system is going to last 25, 30, even 40 years. So we have a higher residual value as well. And so, as the industry moves to becoming an energy industry, that's to our favor because that's what customers buy.
Hoium: And that's really highlighted in some of the changes you've made in the residential market. Can you go into why you've really vertically integrated, not quite to owning the trucks, and I think there are some reasons behind that, but you're doing more of the sales yourself, more of the engineering, and then getting into things like batteries. And you highlighted that a little yesterday that now we're going to be controlling our energy with apps and things like that and solar will be a huge piece of that.
Werner: Well, you know, you look at the pace of change in solar and it took decades, but now it's rapidly changing, and I think you go out a few years and we're going to look back and say that we were just shipping these systems and it's going to look kind of archaic.
This is all about complete energy solutions because today when you pay your energy bill you just pay it -- in fact, it's probably auto pay -- so it's something that just happens. But people that buy solar energy want to control their own destiny. They want freedom. They want to make an impact on the environment. So, what we're going to do is we're going to add storage and energy management so that a consumer will control when they use solar energy and they're going to control load. And when you do those two things you have total control of your energy bill.
And so what you're going to see is it's going to be incredibly exciting because as a consumer you go from no control to freedom, no control to total control over the next near term, within the next 10 years for sure and probably the next five years.
Hoium: And that really takes away some of those peaks and valleys that solar energy has. That's always one of the criticisms I hear is, "Well, it's an intermittent energy source," but if you can store a little of that energy and you're providing an energy solution that's not quite the same impact it used to be on the grid.
Werner: Yeah, it used to be five years ago that solar costs too much and it's intermittent. We're solving the "costs too much," and we hear that a lot less because it's competitive with conventional electricity. Now you have intermittency. So, no you have intermittency. Well, if you can store, you can solve that and, of course, capitalism works. If you have a problem and it's worth something it's going to be solved. So, storage is going to be economical. And now I essentially have my own power generation at my disposal and I can control it and of course you add software to that and you can do amazing stuff.
Hoium: You're growing in the residential market, something you're really focusing on. But one thing I think that's interesting is the commercial market for you guys. And this is a really large market. Residential gets a lot more publicity, but commercial is just as big, if not larger, especially here in the U.S. And what I think is interesting is that you have very sophisticated buyers in the commercial market who really understand that long-term value proposition.
You're working with companies like Verizon, Target, some of the biggest solar buyers in the world. So, how is that an advantage for SunPower and how are they understanding this long-term value proposition that you're making?
Werner: Well, you named some of our important commercial customers; add Macy's to that list, add a whole bunch of tech companies, Brocade, Marvell, Applied Materials, Hewlett-Packard, Agilent, you know there's a whole bunch. Why do they do business with us?
A.) They want a future proof product, they want something that's not like a plasma TV where I wish I wouldn't have bought it where they reduced the price or changed and I could buy something better. You want a product because you bought it and put it on your roof for 20 years. You want the best.
You want a company that will be there for 20 years so that if they say they're going to produce a certain amount of energy they're there to prove it and to guarantee it, to service it, even though there's very little to service. You want financing and as you pointed out it's a sophisticated buyer, so they want to know about levelized cost of energy, they want to know about cost per kW-hr whereas a less sophisticated buyer they're sort of "what does it cost"? What's the sticker?
Hoium: What's the down payment?
Werner: Yeah, what's the down payment, exactly. And so what you have there is a commercial customer that understands why to buy SunPower and, as we said yesterday at Analyst Day, we're a premium brand and people pay more for a premium brand because they get more and commercial customers completely understand that.
Hoium: The other business that you're very large in, a majority of your business, is utility scale, and this is another business that doesn't quite get the same publicity but this is actually the largest segment in the solar market not only here in the U.S. and worldwide as well. You're really doubling down on that with a product called C7 and eventually C12, so tell us a little about the expansion there and how those products fit into that.
Werner: Well, you said commercial buyers are sophisticated take it one step further with a utility buyer, right, because that's what they do, energy. And a more sophisticated buyer is good for SunPower because our product is the best. So, when we can explain that and they appreciate it that's good.
We also have the longest history of any solar company building large scale solar plants, so utilities can look back and say, "How's that one performing? How's that one performing?" so they have a track record they can count on and that becomes bankable. And bankability is a huge factor in the economics of a utility scale solar system. So, when a utility looks at SunPower they say, "OK, I get the best technology, I know they're going to do it on-time, I know it's going to work, and I know I can finance it at very economic rates."
The other factor is that I know they're going to continue to innovate. We're doing things like going from a one sun, no concentration, to using mirrors to shine more sunlight onto a solar cell. So, we're going from seven times magnification, as you pointed out, to 12 over the next 18 or 24 months, which means that I get more energy out of the same system. And we're primarily deploying that in China and we have some really interesting work there where there'll be massive power plants built.
So, we have these options, C12, concentrated 12 times, concentrated seven times, or just a normal tracking system with direct sunlight and utility customers will say, "You're economic, you're blue chip, I can count on you," and that's how we're positioned.
Hoium: And one of the things that I think is key about that is that it really leverages the cells that you make because capacity has been an issue really over the last 12 to 18 months. You've been running at full capacity and you're expanding that capacity with a 350 MW plant and then another one, Fab 5, again next year. But the C7, C12, basically building the same number of cells you can magnify the amount of megawatts you're building from a utility scale project.
Werner: Yeah, I think the people that track the company financially will really like the C7 and C12 products because C12 is 10 times the capital efficiency of a normal one sun product and that can be big numbers.
If you look at the forecast we gave yesterday and you go out five years that could be as much as a billion dollars of fab capacity that we get for free with magnification, or virtually for free. So, it's a huge deal in terms of capital efficiency over the next five years and our customer wins, too, because they're going to get economic energy that's really reliable, so it's one of those things that everyone wins.
Hoium: So, you brought up China, especially with the utility scale projects. I'm curious about international expansion because you're one of the largest international solar companies, but you don't operate everywhere. You're very focused on places like Chile, South Africa where you're building a small manufacturing plant, and China. Why do you choose those markets and not other markets, for example, India. They're planning on building 25 GW and that's not even a market you have in your focus. So, what's the reason you choose some markets and not other markets?
Werner: So, our strategy as a company is to only sell our product, the product we make because it's the best technology. So that means almost always we're on allocation, so we have to choose where we're going to sell. Where we sell is where we have strategic advantage and where the customer values a better product and a long-term relationship. Chile, Mexico, Middle East, South Africa all have those attributes, a long-term relationship, value a quality product, and places we'll do business long-term, so we choose to allocate there.
China was twofold. One, it will be -- it is and will be, for the next several decades, the largest new energy generation market in the world. For several decades. So, if you're going to be a big energy player you have to be in China, in our view. It was strategic to say, "We need to be there." Second, we had a great partnership with a state-owned enterprise called TZ Group and they're a $30 billion state-owned enterprise and they proved they were great technologists, so it was a great match because they're good at technology, we're good at technology. So we've been able to work with TZ Group and expand in China into two JVs that have the potential, the probability, for 3 GW of SunPower systems over the next five or so years.
Hoium: And that seems like it could potentially be your biggest market in the next three to five years. One of the things you've really changed over the last year is this HoldCo/YieldCo strategy and one of the criticisms on the market is that SunPower isn't growing and from a revenue perspective that's correct. But what's hidden in that is that you're holding more and more projects on the balance sheet and that's something you're planning to do next year, 300-400 MW you're going to build on the balance sheet. What's the driver of that and why is that good for shareholders long term?
Werner: Yeah, first of all, when you do the math -- and unfortunately it takes a little bit of work -- when you do the math, we are growing. We're going to grow next year and we're going to triple capacity over the next five years and our revenue that we showed yesterday is going to grow dramatically over the next five years.
You're right, over the next 14 months we're also holding projects on our balance sheet, which will lower the amount of revenue because they're on our balance sheet we haven't taken them through the P&L [income statement]. The reason we do that is the NPV of the project goes up dramatically. The risk premium of solar has come down so that building projects on your own has a much higher economic value.
What investors need to focus on is when we tap that balance sheet potential, either through selling later or through a YieldCo there will be great shareholder value generated, significant shareholder value generated, but it'll be equity shareholder value if we choose to do YieldCo. So, it's delayed, but it's delayed because it's a higher NPV so it's not, not growth, it's growth or stability plus delayed shareholder value that's significant and it's not that far away. We are talking about making a decision in the first quarter of next year and in 14 months, even with a YieldCo, we'll be growing revenue. So, you can get both. You can get YieldCo and revenue growth in 14 months and in the interim you get the untapped potential of the balance sheet.
Hoium: Something that is sort of different for you from other companies is that you're keeping this on the balance sheet, but at the same time you're also profitable. Which I think is sort of notable in an industry that's full of a lot of companies that aren't profitable right now.
Werner: Well, you know, we've been here before right? In 2000, it was all about new metrics: don't look at the P&L, look at clicks. It reverts back to fundamentals always and we're not going to go chase some new metric. We're a fundamentals company, you're right; we're going to deliver our P&L and we're going to deliver a HoldCo strategy, so you can get both with SunPower.
But because it will be a reversion back to financial metrics, everyone knows that, and it's just can you exploit or work in a different paradigm. We don't need to chase that paradigm; we're going to deliver fundamentals because we've got 10 years of mass production, we've developed a business model that works.
Hoium: We've talked a lot about the diversification of your business model; you're not tied to one market and I think that's really something that's key for long-term investors like us at The Motley Fool. And one thing that's coming up in the next couple years is the ITC, investment tax credit, is expiring in 2017. That could have a huge impact on the U.S. market and that's something we've seen in the past. You can look back in just the last five years, Germany has been boom and bust, Spain is boom and bust, this happens over and over again if you're very reliant on one market. You talked yesterday that you've very intentionally diversified your business, not only in residential, commercial, and utility but internationally as well. Is that a big reason why?
Werner: It's a huge reason why. We have several senior executives that have been in solar for over 30 years and solar has gone through several boon and bust cycles, or boom and less boom cycles because of incentives changing. As we get costs down we're less sensitive to incentive, but we still are.
As you point out the ITC is a big deal. And even without incentives you have policy. Policies can change, access to the grid could be inexpensive or expensive, rate structures can change, get less credit or more credit. So, if you become overly dependent on one market you're counting on managing both incentives and policy, which has risk associated with it. So, we diversify risk by being purposely geographically diversified, segment diversified, and we're adding a new dimension, which is business plan diversification. Meaning we'll sell solar electrons but we'll also do energy solutions like storage and energy management and what that means is that we're less sensitive to boom, to great cycles and down cycles.
We're building a fundamental company, that has the potential to be a really massive company because of the approach we take, which is the five-year or 10-year perspective, not a one-quarter or three-quarter perspective.
Hoium: Yeah, that's really interesting. If I can kind of put all of these pieces into one investment thesis I think the big thing that separates SunPower is like you said early on is the technology. [By] the same token, the biggest risk with SunPower is technology risk. You're making silicon-based solar panels that's essentially what Chinese companies are making commodity silicon solar panels. But why is your panel fundamentally different and why is it that I shouldn't be worried about the latest press release of a world record solar cell that seems to come out every other day or they're putting solar cells in windows? Why is this a durable competitive advantage for you?
Werner: When I started 11 years ago I said to my founder, "There's an announcement everyday about higher efficiency or paint on solar," and he said, "Tom there's a lot of materials that can turn sunlight into electrons, there's just not many that can do it efficiently." And it turns out it's extraordinarily hard to keep increasing efficiency, it's just like a lot of things, coming up from a really low number to a higher number is not that hard but when you're at 20%, going to 21%, and 25% that takes a system. You can improve one thing but it affects another thing.
We have a fundamentally different architecture that's more challenging to make so the key to the lock is unique architecture at scale. And nobody has our architecture, we're the only one with a back contact, back junction solar cell, fundamentally harder to make. So, when you say other silicon companies, they're making a different architecture. And the challenge for them is how do I take a lower efficiency architecture and tune it to higher efficiency and it's really hard to do because when you tune one variable another variable changes.
You have to change the fundamental architecture, we have that. And we have tons of patents, but more importantly it's just really hard to mass produce. We introduced a 20% cell in mass production in 2004. It's news that one of our competitors is going to introduce a 20% cell next year. That the difference. We're moving to 25% over the next few years in mass production. This is hard to do.
Hoium: And if I'm not mistaken, it comes down to the engineering of every single piece of the manufacturing process. It isn't just one thing somebody else could copy. You mention the back contact, well, that's a piece of it, but your silicon is a little higher quality: there's the back contact, there's the way the cells connect to each other, and there's all of these pieces that go into it. It's not just one thing and you would have to engineer, or reverse engineer multiple things to make the same product.
Werner: Well, for sure our solar cells have been cross-sectioned every year for 10 or 15 years and it's maddening for competitors because, "Ohh I'm going to copy their front surface passivation, I'm going to copy their back surface mirror, the way they do contacts with their metal and you can't copy one piece." It's a system and it took a brilliant man like Dick Swanson to think through the complete system, and then we have great engineers that have refined the inherent concept.
So, you can't copy a piece of it, you need to understand the whole system. What's great about our engineering is that they're fundamentally and theoretical based. We don't do trial and error; we start with physics, device physics, we start with how an electron travels. And so a lot of our competition is trying to copy or take ideas but you can't, you have to start with physics.
Also, you have the benefit of mass production, so you have the benefit of, well the physics work, but it's a little different in the real world and we take that learning and build it in. So our IP protection, our trade secrets, our systems knowledge is completely a durable competitive advantage. To that we add the software, storage, energy management, and we add that to other areas.
Hoium: Well, a very interesting industry to follow and I've enjoyed following the solar industry and SunPower in particular. I think there is a lot that goes into your business, but a lot of potential over the next few years as you talk about growing into a trillion dollar market, which is a huge market potential. I thank you for being here and spending the time with me.
Werner: Yeah, I really appreciate it. The opportunity here is unbelievably big.
Hoium: That's all for now but we have more coverage on Fool.com. Lots of coverage on SunPower and the solar industry.
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Travis Hoium manages an account that owns shares of SunPower, Target, and Verizon Communications. Travis is personally long shares and options of SunPower. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.