Solar energy in the US has benefited over the years from a highly supportive tax policy, consumers’ pursuit of clean energy and sharply declining costs, leading residential solar installations to reach an expected record in 2022 according to BloombergNEF. As an illustration, residential photovoltaic installers delivered impressive revenue growth in their latest quarter with Sunrun at +46% year-on-year, SunPower at +60% and Sunnova at +121%.
As the energy crisis unfolds and secular growth drivers emerge, we believe the trend is here to stay, making solar installers and inverter makers, whose devices convert the DC output of a solar panel into AC that can power the grid or commercial / residential buildings, key holdings in our portfolio.
The Inflation Reduction Act (IRA), which was signed into law by President Biden just a couple of weeks ago, is obviously a major catalyst as it removed the uncertainty over the continuation of the incentive framework by extending the Investment Tax Credit and raising it from 26% to 30% for both non-profit utilities and residential projects for the next ten years.
Importantly, this supportive legislation comes at a time when the value proposition of solar energy for consumers has never been higher. Against a backdrop of rising utility rates (+9% in the first quarter in the US), consumers are indeed increasingly seeking cheaper electricity alternatives, a trend that is likely to intensify over the years as electric vehicles penetration goes up and further inflates consumers’ utility bills. Notably, homeowners are expected to install larger solar systems on their roofs to charge their power-hungry EVs, a positive for solar installers’ unit economics.
Installing solar panels also represents the opportunity for consumers to secure their power supply amid deteriorating grid reliability and frequent outages in the US, and increasing risks of power shortage in Europe. Interestingly, residential solar installers are increasingly shifting their business models towards comprehensive solar and energy storage offerings that handle the intermittency character of renewable sources, a move that is expected to contribute materially to their revenue growth.
Worth noting, the Inflation Reduction Act also addresses energy storage projects, which will be eligible for the same 30% tax credit than solar, even if they are stand-alone facilities. It is then estimated that around 30 to 35% of new home solar systems could include a battery by 2030 vs. 7% only today.
Inverter makers like SolarEdge or Enphase, which have been leveraging their strong positions in the core residential and commercial markets to expand their product offering to other smart home energy solutions (home batteries, bi-directional EV chargers, smart meters…), and battery suppliers like Generac are clearly expected to benefit from this expanding addressable market over the years.
Among the headwinds for the industry, we would mention a cooling housing market, continued supply chain issues and rising solar systems costs for consumers amid deteriorating macro, keeping in mind that the cost of installing a residential solar equipment is still high, ranging from around $15,000 (4kW) to $30,000 (8kW), prior to tax credits but excluding the battery (around $10,000).
That said, the above-mentioned catalysts and specifically the energy savings opportunity, combined with the low penetration of residential solar (only 4% of US homes), make us confident that adoption should keep growing at a fast pace. According to a report from the Solar Energy Industries Association and Wood Mackenzie taking into account the impact of the Inflation Reduction Act, the US solar market will nearly triple over the next five years, with installations across residential, commercial and utilities segments expected to jump from 129 GW to 336 GW, a 21% CAGR.
In conclusion, we remain quite sanguine about the sectors’ long-term prospects as major drivers are firmly in place: houseowners level of monthly savings compared to a traditional utility bill, rising adoption of home batteries, the peace of mind that comes from having a genuine alternative to power outages/shortages, not to mention the feeling of having a positive impact on climate change.
Valuations do not come on the cheap at more than 30x 2023 EPS for both residential installers and inverter/battery makers but we believe this is justified given the strong visibility on the revenue growth outlook (20-30% at least) and a steady or improving margin profile.