Should You Buy Or Sell SolarCity (SCTY) Stock? 3 Pros, 3 Cons

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SolarCity (SCTY) is a leading firm in the home solar industry. It installs, monitors, and repairs solar units for its customers. The company has experienced tremendous growth in recent years.

SolarCity stock NASDAQ:SCTY

SCTY stock was once a hot property. The stock ran up fourfold after the IPO in 2013. However, after peaking out around $80, SolarCity shares have lost their voltage. Shares dipped to as low as $25 this past fall before doubling to close the year. The volatility has continued to start 2016, with the stock dropping in the general market mayhem. It rebounded to $35 during this recent stock market rally, but terrible earnings have cut it in half again. Is SCTY stock finally a buy now?

SCTY Stock Pros

Robust Revenue Growth: SolarCity is growing its operations quickly. Revenues surged from $164 million in 2013 to $255 million in 2014, and on up to $399 million for full-year 2015. Given the company’s operating model, it faces heavy costs for installation up front, but then can receive cash off these upfront investments for many years.

As time goes on, Solarcity’s revenues will continue to arrive, year after year, with less and less capital expenditures needed to keep sales steady or growing. The company appears to be losing horrendous amounts of money at the moment, but it is in fact following its plan. It needs to get a big enough installed base to have scale and then successfully pivot toward profitability. The latter part will be a challenge, but they’re certainly executing on the first part of the plan; revenues are soaring.

Musk Synergies: Both SolarCity and Tesla (TSLA) rely on Elon Musk’s intelligence and reputation for much of their prominence. This offers some opportunity for SCTY to ride on Tesla’s coattails. Already, Tesla’s research into battery technologies has created an opportunity for SolarCity to get good access to technology; Tesla expects to sell 168 MWh of energy storage systems to SolarCity this year, a more than 5x jump from last year.

In turn, SolarCity’s scale helps Tesla to be able to build things such as the GigaFactory. Having two closely-partnered management teams working together to improve the efficiency and lower the cost of the companies’ battery technologies should aid both substantially in the long run.

High Short Interest: This pro is more of a mixed blessing than an outright positive. Still, it tends to trigger a lot of rapid spikes in stock prices, so it’s worth considering as a positive for SCTY stock.  As of the last reported date in late April, there were more than 21 million shares of SCTY stock sold short.

This means that, at the current price, short sellers would need to buy over $400 million worth of stock to close out their bets against the company. On several occasions, SCTY stock became unavailable to short sell around earnings. When a large amount of a company’s shares are sold short, it sets the stage for quick rallies. A rally in SCTY stock scares other people betting against it, causing a piling-on move that drives the stock higher. The sharp rallies in SCTY in both December and earlier this year likely had a short-selling component involved.

SCTY Stock Cons

Needs More Cash: Based on current trends, SolarCity will run out of money during 2016, necessitating that it raise more capital by selling more new SCTY stock or taking on more debt. The company had $373 million in cash and marketable securities as of its March quarterly filing. The company loses about $200 million per quarter in operating losses, a figure that has been steadily rising over the past year. So, by the fall, the company will likely be in need of more funds.

The company’s debtload is already up to $2.75 billion. This figure is alarming. That’s seven times as much debt as revenues. Yes, the business model is built on borrowing now for a stream of long-term revenue, still, that’s an obscenely high ratio. The company’s ability to continue operations is almost entirely dependent on the credit market remaining healthy. Particularly with SCTY stock down so much recently, it’d be difficult to sell more new shares in this environment.

Low Natural Gas Prices: Much of SolarCity’s appeal to consumers is that, particularly in combination with subsidies, it can offer customers cheaper electricity than via a traditional utility. At least, that’s the theory. It’s safe to say that many SolarCity customers need more than just “being green” to justify the hassle of getting a SolarCity unit installed at their home.

In a high energy price environment, it was much easier for SCTY to offer a benefit on customers’ utility bills. But with natural gas prices plunging to levels not regularly seen in a decade, the comparison is significantly more trying. For customers that are totally price-sensitive, it will be hard for SolarCity to make an effective pitch. The large drop in backlog we’ve seen to start 2016 reflects this pressure.

Regulatory Changes: SolarCity took a huge blow from rule changes in Nevada. The Nevada Public Utilities Commission voted, in a unanimous decision, to introduce a new rate class for owners of residential solar units. The decision made it more costly, and was based on the idea that customers with installed solar panels were getting a “free ride” on the system at the expense of other ratepayers. Nevada’s change to raise prices for solar ratepayers seemingly makes the system more fair, but by cutting out the perk to solar companies, it destroys the economics for solar installers. Perhaps even worse, the changes are retroactive; thus blowing up the supposed cost advantages that SolarCity’s units were supposed to have for customers.

SolarCity halted new installations in Nevada, which happens to be one of the best states in the country for solar power generation. Furthermore, there are many angry customers who will now face increased costs instead of the promised savings. Other states are surely considering adopting Nevada’s move. If it becomes widespread, it’d likely be the death of the residential solar companies, at least until the economics of small-scale solar units improve markedly.

SolarCity Stock: Verdict

I wouldn’t touch SCTY stock here. The company’s business model can be compared to running on a treadmill. It has to keep growing rapidly to attract Wall Street interest and confidence. It’s managed to do that well. But that forward motion has generated a huge debtload. Things need to be going well for the company to be able to transition from the expensive debt-binge startup phase into a more sustainable cash-flow positive stage. However, current regulatory measures are instead making SolarCity’s outlook far cloudier. There’s a good chance SCTY stock plunges later this year as the company faces a cash shortfall.

At the time of this writing, Ian Bezek had no positions in any of the stocks mentioned. You can reach him on Twitter at @irbezek.

Ian Bezek has written more than 1,000 articles for InvestorPlace.com and Seeking Alpha. He also worked as a Junior Analyst for Kerrisdale Capital, a $300 million New York City-based hedge fund. You can reach him on Twitter at @irbezek.


Article printed from InvestorPlace Media, https://investorplace.com/2016/05/solarcity-scty-stock-pros-cons/.

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