SolarEdge Technologies, Inc. (SEDG) Earnings Call Transcript & Summary

[Audio Gap] JPMorgan Technology, Media and Communications conference. Thanks for joining. My name is Mark Strouse. I cover alt energy at JPMorgan. And we are very happy to have Ronen Faier, CFO of overweight-rated SolarEdge joining us today. So I will begin with some questions for our fireside chat, and we'll bring in questions from the audience throughout the session. If you would like to ask a question, please click on the Q&A button and type in your question, and then I can ask it for you. So Ronen, welcome. Good to see you again. Thank you very much for your time.

Good afternoon. Actually, good morning here from the sunny Tel Aviv.

Looks good, I'm jealous.

So to start, I've heard you say over the years that despite the name, SolarEdge isn't a solar company, that you're a power conversion company. So for those that are new to the story, can you just give us a brief overview of SolarEdge?

Sure. So SolarEdge is a company that was founded by the end of 2006 by people with knowledge in power conversion. All of them came from an Israeli military intelligence technology unit, and they decided to take their knowledge into the solar world. We started developing, in 2007, inverters. We came with our technology for optimized inverter systems and became a leading company in the inverter space. However, 2 things I think came to the understanding of the company as time went by. First thing is that energy, especially in the world where we see solar as a widespread phenomena, is not just starting from solar rays or just needed to be inverted. Actually, you would like to make sure that eventually, energy is being produced, used and stored in the most efficient way. And all of the activities around this storage and managing energy can be done based on the knowledge that we know. In addition to this, we understood that a lot of the technology that we developed for inverters can actually be applied in other areas. And as such, we became the market leader in the inverter space around 2018, but we made a series of acquisitions where these acquisitions gave us businesses in the UPS, uninterruptible power supply, systems, which is basically an inverter and a battery. We acquired a battery company in Korea, knowing that one day, all solar systems will come with batteries, and we would like to master our own supply and to basically have control over our destiny when it comes to batteries that works with our systems. And about a year ago, we acquired a company in Italy that is engaged in making electrical vehicles, motor drives or power drives, which are basically, then again, inverters and batteries that are moving the cars. So today, while the majority of our revenues are still by -- are still coming from the solar industry, we are a company that is working in, I would say, 3.5 major markets. Each one of them is multibillion-dollars market with innovative technology that is basically taking energy from the source of production up to the consumption.

Got it. Okay. So if we can dig into the solar business, which is about 90% of today's revenue, we'll come back to the near term, and I'm sure there will be questions about COVID-19 impact. But just want to talk about the trends and more of the longer term. So within solar, you've had -- I want to say it's around 12 quarters in a row of setting a new quarterly revenue record. Can you just kind of talk about what's driving that pre-COVID-19?

So I think that the main reason -- sure. So it's a combination of, first of all, the technology. The inverter market has been a relatively, I would say, stagnant market from a technology point of view, where the majority of the inverters that used to be sold until then were what's called string inverters. The technology that was developed sometimes at the beginning of the '80s, that hasn't changed dramatically over time. While another technology called microinverter was developed in the mid-'90s, this technology did not gain a lot of traction outside of the United States. And we came with a new technology that allowed you out of the box to generate more energy, to be able to make a very flexible design of systems, to have cloud-based monitoring portal out -- up to the basis of each and every module that you have. And all of this is coming with out-of-the-box safety features that are today mandatory in the United States. Later on, we also developed a lot of, I would call it, software applications around it where we made the inverter from a simple solar inverter into the energy hub of your home. And since this technology was so new and was not developed by other players, we were able to attract, at the very beginning, the early adopters of technology solutions. Over time, the second thing that brought us to the success was very good execution capabilities. Despite of the fact that other than in 2013, in all of the years, we grew a little bit faster than we expected, we were able to develop a very quick, I would call it, cycle from the time that we identify a need to produce or to certify a product into the market, we were able to grow very quickly, and we were able to come very aggressively into new markets and into developing and growing markets, such as the United States, with an offer that combined, on one hand, pricing that is not too high compared to the old technology with the ability to execute much faster and technology that is far beyond everything that existed until then. And I think that up until corona, this was the fact, and we expected another year of additional growth that was supposed to -- I would say, a continued strike of 12 quarters. But I think as we will discuss, corona changed it a little bit.

Yes. So you're taking -- I mean the overall solar market is growing, but then you're also taking share from the traditional technology players. Can you talk about the penetration of your category of technology, module-level power electronics? Talk about the penetration on a new installed basis globally.

So first of all, let's define the installed base between 3 different segments. The first one is the residential. Second is -- and residential will be anything that will go on a personal rooftop, let's say, up to 12-kilowatt systems. The second one is commercial. That can vary from a cowshed with 50 kilowatts up to a ground mount installation of 5 megawatts. And utility-scale will be everything that is above 5 megawatt, usually ground mount installations. I would say that within residential today, MLPE, module-level power electronics, is, I would say, approximately 25% of the worldwide overall installations. But I think that it's a little bit deceiving because every market has a little different behavior. I would say that in the U.S., when you look at us and when you look at our closest competitor in the U.S., Enphase, who's also doing MLPE, we're together approximately 90% of the residential installations because of the safety requirements. Outside of the U.S., I would generalize and say that in Europe, we range between anything between 10% in Eastern Europe to, let's say, 25% to even 40% in the more Western side of Europe. For example, in the Netherlands, I believe that we're on the higher side, Germany, we're somewhere in the middle, and I would assume that in the smaller countries in Eastern Europe, we're at around 10%. And in residential areas outside of the United States and Japan, it will be close to 0 because of certification. We just recently got certification for Japan. And in Australia, I would believe that we're in about the 10s, I would say, anything between 10% to 20%. I'm not sure that I have good information. When you look to the -- into the commercial, I would say that roughly worldwide, we're sub-10% MLPE because the only solution that can really work in this scenario today is our technology out of the MLPE, which is the DC optimized because of costs. And again, you would see places like in the U.S. where we have, according to GTM, approximately 30% -- 13%, sorry, where in places like India, we have about 2%. So it's very much varying, but I would say that based on our numbers, we see this segment is growing. In utility, we don't have a proper product yet, and microinverters do not yet suit the utility segment. So I would say that it's negligible to insignificant right now. However, since utility is about 1/3 of this $8-point-something billion market, we are going to present the utility product by the end of this year. And our aim at least is one day to be at tens of percentages penetration rate in each of the segments that I discussed before.

Okay. That's very helpful. So a bit more international. So that's now about -- or close to half of your revenue. That's up from maybe 1/3 or so a few years ago. You've mentioned a few of the countries that are material. Can you just talk about the growth in those countries? Because in the U.S., you mentioned the rapid shutdown requirements. Is international also some form of regulation? Or is it purely an economic decision? Can you talk about that?

I would say that it's mostly economic because rest of the world is 3 words, but it's about 150 countries. So in general, each country has its own policy. And I would say that in China, of course, everything will be much more regulated, while in Germany, you will assume a little bit less regulation. I would say that I think that most of the world today is economic and not driven by regulations. There are limitations or regulatory limitations sometimes on the ability to push electricity into the grid. What you see today in Europe that in many countries, there is a lot of solar, and therefore, utilities are not happy to accept a lot of electricity coming in. And therefore, you may see some limitation on exporting into the grid electricity. But at the same time, self-consumption is something that is mostly based on pure economics. And I would say that in general, what you see is that our growth at least, while the overall market is about 3% or again, pre-COVID, was about 3% growth year-over-year, we see growth in almost every market that we come because of the fact that we take market share. So if you take, for example, Germany, Germany is a market that used to be very large. It hasn't grew dramatically until 2018. From '13 to '18, it was quite dormant. We see today, as our CEO mentioned in our last call, in last April, March, we saw approximately 40% increase compared to the year before. This is not coming from market growth but actually from product introduction that is more suitable. And I think that today, our ability to grow or again, in a non-COVID market, to grow faster than the market is mostly driven by the fact that we know how to address with new products segments that we were not addressing before or to give better solutions to the segments that we addressed before.

Okay. So just based on that penetration, it sounds like you've got a lot of room to run in some of those countries. You just were certified in Japan. How should we think about potential new countries? Is that a focus? And can you maybe name a few if there are?

So it is, for us, always a focus because we understand that there's a limit to how much share you take in each and every country, and at the same time, when markets existing out there, you want to be there anyway, especially again when you're considered to be, by IHS, the market leader. I would say that for us, when it comes to geographical growth, a lot of the attention is going today into India, Brazil, Australia and Japan. Now Japan is a very, I would say, conservative market, growing relatively slowly. And therefore, we do not expect quick wins there because of the nature of this market, but we saw very nice success in Australia. Last quarter, we had a record quarter in Australia in our revenues. Brazil started to grow very nicely. I would say outside of the, let's say, Asia Pacific countries, Brazil was one of the fastest-growing countries that we saw in 2019, and we saw this phenomenon starting in 2020. And India is always very interesting simply because of the size and simply because of the fact that distributed energy could be very interesting due to lack of utility grid in some other places. However, it has its own complexities when it comes to pricing and how do you approach this market.

Okay. So I think turning to the near-term picture now and COVID-19. Just kind of talk about what you're seeing in the overall market. And maybe the easiest place to start might be just with the supply chain. Are there any disruptions there?

So today, not anymore. And it is a little bit funny because when corona started at the beginning, for us, we started to understand at the beginning of -- end of January, beginning of February, it was this disease in China that may affect supply. And indeed, we saw our -- all of the shutdowns that were -- or lockdowns that were placed in China. And I think that the focus was that this is a supply-ish issue and not a demand issue. We were able, very quickly, to overcome those issues. First of all, we managed to have people working in our factory during Chinese New Year. And when the lockdown started in China, those employees simply were locked in the factory, and they could work for us. Of course, we paid a little bit more for this, and we were happy to pay, but we were able to restore everything. And I can tell you that today, all of our facilities are in -- I would say, in 100% or at least as close as 100% as we would like them to be based on what we see on the demand side, which I believe would follow in the next question.

Yes. Yes, okay. So can we talk about demand? And kind of like what you did with the markets earlier, kind of break that down between U.S. and rest of world as well as resi and C&I.

And so indeed, then it became a demand issue. And we saw -- located outside of the United States, I think that you see a little bit of a shift in time where corona moved from the east to the west and, as time went by, went more and more west. So we started to see issues of corona when it erupted in Italy, which was one of the first countries in Europe that it happened, simply due to the fact that the Italian market is a very strong market for us. And when we understood that something is happening, we looked for a way to track how each and every market is operating. And we didn't find the right KPI until we basically looked at our monitoring system. Today, everyone who installed a solar system is connecting it to our cloud-based monitoring portal. And therefore, we have a lot of data that allowed us to see, on a daily and a weekly basis, how many systems are connected to the grid -- solar systems connected to the grid. And we assume that since we're a large enough players in each and every market, we basically see how the market is behaving. And of course, we know that in some cases, because of the fact that we take share, maybe we exaggerate to see what is the market effect based on our results. And what we saw is very interesting. First of all, outside of the United States, as a whole, during March and April 2020, we saw 15% increase in installation of SolarEdge products compared to the year before. When you drill down into the countries, you see phenomena. And I'll give you 3 countries because again, we have all of them. But I can tell you that in Italy, you saw a huge drop in the beginning of March and start of recovery at the very end of April. Actually, we start to see recovery there. It's very, very nice to see first signs of life coming from more and more systems in Italy. When it comes to Netherlands, we saw a pattern that is slightly higher than the market at the beginning of the year. All in all, I can tell you -- or sorry, slightly higher than what we saw last year in the market. But all in all, we can say that over March and April, we see a relatively similar installation rate in the Netherlands compared to the installation rate that we saw last year. And this is very much correspond with the fact that there was a kind of a shelter-in-place plan in the Netherlands as well that restricted movement there. Germany was very surprising because Germany grew for us during April and May in 44% compared to the year before. Not all of it is coming from the market. We just launched a product that is a -- a product that allows you to connect a battery on an AC-coupled system, and this is the majority of the systems that you see in Germany. So we simply came with the right product, and it allowed us to grow much faster than the market. So this is, all in all, 15% up April, March outside of the United States. In the U.S., again, we saw one leg in time. So if you take April and March together, we see about 15% less installation compared to the same period last year. But in order to be transparent on the call, we said that if you look at March -- at April alone, we saw 33% drop compared to the installation rate last year. And we're about 60% of the U.S. residential market, so therefore, this is something that, at least for us, shows where the market is. Now I must say that we have granularity into states, and I'm not going into this, but not all states are behaving exactly the same. But in general, yes, in the U.S., you see a major drop in April.

Okay. So some of the U.S. installers that had reported thus far and that we've talked to have mentioned that demand remains strong, and it's just the ability to get to those customers without being able to knock on their door. They've been kind of positively surprised, it sounds like, with the success in their digital sales strategies. Those installers are roughly 1/3 or so of the U.S. market. Can you talk about 2 things? Can you talk about what you're seeing with the rest of the U.S. market, the smaller local electricians, the distributors as well as internationally, what you're seeing thus far into May?

So actually, we were very happy to be part of this, by the way, because one of the things that we did, including our large customers, is that because of the fact -- in the U.S. at least, because of the fact that we saw what's happening in Europe, we can -- we could share with them some of the capabilities that we saw in Europe and help them to promote them. By the way, digital selling was one of the things that we saw. We saw it happening in Europe, and we called some of our customers and say, "Hey, in Europe, this is what's happening. People are selling over the phone, over the Internet." I'm not sure that this was the only stimulus, but all in all, we did hundreds of webinars with over 24,000 participants. There are distributors and installers, and we shared a lot of this information. I think that the data that we see in the U.S. is very much consistent with what we said with -- I think that the only variation that you can say, that the very small electrician would usually not do sales that are going Web sales. Maybe they could complete installations that they did -- sorry, sales that they did or processes, but I'm not sure that they were able to generate the leads to get them to these places. And therefore, I would assume, and this is only an assumption, by the way, that -- is that the mid- to large players were a little bit much more organized and able technologically and systematically to generate the leads and to have this kind of sales. But I can tell you that wherever we could, we helped -- and again, in the webinars, we gave some tools to the smaller installers. I'm not sure that I have right statistics. Outside of the U.S., again, we need to understand that the situation is different. So you see much less limitation of movements in Europe. And while going door-to-door reduced substantially, it didn't stop completely. And in many cases, what we hear is that they were -- the installers were able to continue and generate leads and do the sales at similar rates compared to where they were before simply due to the fact that the limitations were a little bit smaller. And again, I'm not sure that we can draw a line and say this is exactly what's happening in each and every market. I can tell you that the Polish market was a little bit different than the Swedish market and the Swedish market was different from the Dutch market. But I think that the general phenomenon that you see there is that there was more online and, I would call it, digitized selling channels. But it's not that all of the other channels ceased completely as was the case in some cases in the United States.

Yes, okay. So I've got some more questions here. But just as a reminder for the audience, if you do want to ask a question, there's a Q&A button. Just go ahead and type that in, and then I can ask the question for you. So Ronen, we think about your gross margins being rather buoyant going to the outsourced manufacturing. Can you talk about how this can be impacted, though, by geographic and product mix just quarter-to-quarter?

Sure. So -- and I think that this is something that was raised after our earning release where we guided for margins, at least in the solar business, that were -- the midpoint was about 200 basis points lower than our Q2. So I would say that there are 2 areas that we need to understand. The first thing is that nothing happened in the last quarter or happening right now when it comes to pricing, to competitive environment or to the cost of manufacturing. By the way, there will be some effects, we believe. But over time -- but all in all, we did not see any change. So it's not that now someone decided to open a price war, and therefore, prices are falling down. Everything that is happening right now is specifically related to geographical mix and a little bit of product mix. And I think more importantly than this, it is the COVID-19 effect on the overall, I would call it, regional mix of our sales. And let me explain about this. The first thing is that in general, in the U.S., the U.S. residential market is characterized with higher margins compared to the other markets around the world. And the reason is relatively simple. If you want to comply with the safety regulations, the NEC 2017, you basically need to have MLPE. You need to have either SolarEdge, Enphase or relatively small number of other competitors that you can buy. And according to the last GTM, we're about 60%, Enphase is about 30% of the U.S. market. So by definition, it's a market that is less competitive. And we were able, for various reasons, to see very nice margins. By the way, at the same time also, the costs are slightly higher because of the tariffs in the United States as well. But in general, the margins were slightly higher. Outside of the United States, you see a different competitive landscape. You see a landscape where if you want to buy MLPE, in 95% of the chances, you will buy SolarEdge because this is what exists in your country. And that means that the competition is between SolarEdge and string inverters, and the phenomenon that you see is that if you buy string inverters, in many cases, you buy Chinese string inverters. So by definition, the competition is very fierce there, and the prices were a little bit -- and the margins were a little bit squeezed due to this competition level. The second issue is currency. When we started to sell our products in Europe, we price them at the same dollar value as in Europe. But at that time, the euro was $1.2 per EUR 1. Today, it's about $1.10 on a good day. So that means that over the last 9 months, at least, the euro was devaluated against the U.S. dollar by 2.8%, and this is not related to any price moves that we did. So the first thing that you see is that once you go out of the United States, you see that the margins are squeezed due to currencies and due to competition. And now comes the second effect, and this is the COVID. Last year, the second half was approximately 50-50 U.S. and Europe. This year, because of the phenomena that I discussed before, that Europe is behaving relatively okay, we expect a very strong Europe in the second quarter, while everyone expects a much smaller U.S. in the second quarter. So now not only that we have the regular seasonal effect of Europe, actually, we do not have the sales in the U.S. market to balance this growth in Europe. So the overall, I would say, absolute growth in Europe compared to Q1, it's -- the overall mix is much higher. And this is why the margins are squeezed. With all that said, of course, we need to remember that at the end of the day, we see a market that is very much affected by corona. But in real life, the solar market is strong. The solar industry is strong. The positioning of SolarEdge and the other companies is relatively strong. I think that what we see in the next 2 to 3 quarters is not necessarily what is going to happen in the years to come. It is mostly reflecting how each and every region is reacting to corona, how much it is hit and what is the economic effect in this specific region. So therefore, I would be at least very cautious in drawing any conclusion from 1 or 2 quarters ahead of us.

Okay. I just got a question from an investor here. As you see the -- each channel maturing in each market, residential and C&I, what do you see changing or evolving from how the channels function today? And what will you have to get better at to maintain your current success?

I'm not sure that I know -- again, I'm not sure that I can give a good answer if it's related to effects of corona on the market itself. But I think that there are 2 things that we're seeing. The first one is that the solar market worldwide is getting much more mature. And that means that if -- a few years ago, we needed to deal with many, many distributors and installers. The vast majority of them were smaller, growing very quickly and sometimes without the financial means to support not even a reduction in the business but actually even a halt in the business or stagnation in the business. I think that today, we see a much more mature and consolidated market. And in a much more mature and consolidated market, that means that we need to do 2 things. The first thing, both in residential and commercial, is, first of all, to invest much more in our customers. We know that there are less customers that you need to spread your knowledge and abilities. And therefore, we need to help them more, and we need to support them much more. That's number one. And also, by the way, the level of the investment is increasing. That means that we give today much more, I would call it, advanced training compared to where we were before, that's number one. Number two is the fact that we do understand that because of the size of the customers and because of our move to bigger and bigger systems, we need to change our, in some cases, sales abilities, at least on commercial, to provide a much closer support on the technological side and the technical side to the customers to help them design, something that we didn't do before, or to give the customers, if it's a residential customer, much better tools to continue and work with us. And as an example, there is the development -- the developer tool that we have today that allows installers to basically take Google Map to see how the house look like to get the kind of, I would call it, design software that helps him to understand exactly what is going to be the yield on the roof and, from that point, to help him design the systems almost professionally and almost without any effort in order to have the best ability to come to the optimal system. So I think that overall, what I'm trying to say is that from a new adopters market, you go into a mainstream market that is becoming much more professional and a little bit more consolidated.

Okay. Just another quick one here from the investor. So expected some margin benefit from less air shipments. Can you just talk about that as a buffer near term? And is that included in your guidance?

So first of all, it is included in our guidance. So we do not like to send usually. So everything is going be baked in. And we said on the call that the difference that we see, usually in gross margins between Europe and -- or mostly the rest of the world, but mostly Europe and the United States, is about 450 basis points. By the way, again, the majority driven from the devaluation of the euro. So if you take into account that in the last quarter, we had 210 basis points of air shipments that will go down dramatically in Q2, and we guided for 2% only or 200 basis point only reduction in margins when we are concentrating in Europe, right now, this is where the air shipment benefit goes. But with all that said, once we move into the, I would call it, traditional mix of Europe and non-Europe and assuming that there will be no major differences in the exchange rates, we felt all along in our Analyst Days and -- Analyst Day and before, about 36%, give or take 1%, and even with extensive air shipments we were able to be there, I believe that the lack of air shipments will allow us to get there as we promise towards the end of this year, and again, assuming that the COVID is not changing dramatically the mix between regions, that is not helping us, of course, to compensate for lower-margin areas with better-margin areas.

Okay. We've got about 2 minutes left. So I'm going to try and squeeze this in. I apologize. But just wanted to touch real quick on energy storage. A lot of different companies coming out with storage products this year or at least announcing plans to. Can you talk about how SolarEdge is differentiated in that market, when we'll see those products come out? And kind of talk about the financial impact on a per household basis both from a revenue basis and a gross margin basis.

So in general, the fact is that in a few years from now, because of various reasons, every solar system will have to come with a battery. So I think that the companies are moving in this direction because this is the new existence of the solar systems or the reasoning for the solar systems. SolarEdge strategy was, for a very long time, to have our own battery. Having your own battery allows you to sell a one-stop-shop product to allow everyone access all of the benefits of the system. And as such, we acquired Kokam in Korea to allow us to do this. Plus, Kokam have a very small factory. So by the end of this year, we will introduce our residential and commercial batteries. Both of them will be built most likely on non-Kokam cells because we do not have capacity. In 2022, the Kokam factory that continues to be developed as we planned, we just recently bought the land, will start developing enough cells for us and capacity. And at that point of time, we guided that we believe that we'll see around $300 million of additional revenues in 2022 simply because the factory will not work in full capacity for the full year. And then we have a potential of about $500 million in the years after. Gross margins associated with batteries should be around 25%. Today, prices are showing better margins. We simply believe that there will be ASP erosion as we move.

Okay. Excellent. That is -- I think we're out of time. So we'll wrap it up there. Ronen, thank you so much for joining.

Thank you very much, and hope to see you in person.

Yes, I hope.

In the near future.

I can't wait. All right, everyone...

Thank you very much. Thank you for listening for those who listened. Bye-bye.

Yes.