Description
Overview: The Sunpower 0.75% converts are currently a compelling investment offering a Yield-to-Put of approximately 21% annualized to August 1
st, 2010 at current pricing of 71 cents on the dollar despite the company having no other debt aside from an additional convert that puts two years subsequently and nearly as much total cash as total debt. In addition, if one is bearish on the solar industry, the equity can be shorted as a hedge as the company has a market cap of over $2bn. This market cap is significantly greater based on where the non-voting Class A shares trade. As for the gap in valuation between the Class A and Class B shares, it is not clear why it exists to such a degree.
Balance Sheet / Market Cap:
Unrestricted Cash & Short-Term Investments: $296mm
Restricted Cash (customer deposits, etc.): $48mm
Long-Term Investments: $25mm
Subtotal: $369mm
Total Convertible Debt at Face: $425mm
Equity Market Cap based on Class A Shares: $2.8bn
Equity Market Cap based on Class B Shares: $2.2bn
Business: Sunpower also has a business that is very profitable with a long term tail wind.The company designs, manufactures and sells solar panels and systems for the residential, commercial and utility markets in roughly equal proportions. The business is split roughly 50 / 50 in Europe and the US. In early November, the company issued EPS guidance for 2009 of over $3.00. Revenues have grown dynamically in recent years and are expected to be up over 80% in 2008 and over 40% in 2009 based on company guidance. This growth is largely being driven by government mandates to increase sources of alternative energy. In the US, the recent 8 year extension of the solar ITC and its expansion to enable utilities to utilize solar related tax benefits should help to keep demand rising going forward. In the case of Sunpower, the company has signed large development deals in the US with PG&E and Florida Power & Light among others as utilities seek to achieve their alternative energy mandates by appointed dates. In addition, the company recently signed a large deals in Australia and Malaysia and has significant projects in place in Europe where energy prices are significantly higher to begin with.
Current Issues: There are several reasons to consider at least a partial hedge of the common in the current environment. The decline in the prices of oil, gas and other fossil fuels makes relative pricing of traditional power sources versus solar significantly more attractive. Sunpower is focused on selling systems to large entities in both the residential and commercial areas and makes its pitch based largely on long range forecasts of relative energy pricing and volatility (solar pricing is theoretically more stable). That said, clearly short term price considerations are not to be ignored particularly given the current economic environment.
The situation is further compounded by the fact that, in part through syndicates of “tax equity,” investment banks including Lehman were major sources of funding for power agreements that supported many of the larger scale projects. In addition, this is a relatively new industry where pricing continues to decline as the primary raw material for solar panels (polysilicon) continues to decline as new supply comes on and efficiencies increase. That said, SPWRA does have the advantage of favorable long-term polysilicon contracts that the company describes as continuing to be “under market.” If one decides to hedge, the Class B shares trade at a significant discount though are much easier and cheaper to borrow relative to the Class A shares.
Solar is also more expensive than other alternative sources of energy which can be utlized to fulfill similar government mandates. For example, it's possibly 3-4x the cost of wind power. This is somewhat mitigated, though, as other energy sources such as wind are less reliable as baseload power and much more difficult to site.
Other: Additional factors working in your favor with the 0.75% converts are the following:
- Maintenance capex is very low: if demand contracts, the likelihood that the company burns significant cash outside of committed expansion projects is small.
- The interest burden from the converts is low given the low coupons. This is a positive in that, given the 2 year earlier put date on the 0.75% issue vs. the 1.25% issue, the company should not run into interest coverage issues prior to the first put date of August 1st, 2010. As mentioned, the company currently has more than enough cash to satisfy this first put.
- Excluded from EPS guidance is a large amount (83 cents) of non-cash compensation which makes the equity actually more expensive than otherwise while having no effect on the converts other than to represent a potential future source of cash from exercise of options.
- Potential additional incentives from an Obama administration
Catalyst
Put back to company in 2010, new money flowing into currently dislocated convert market.