Spruce Power Holding Corporation (SPRU) Earnings Call Transcript & Summary

[Audio Gap] Energy Transition and sustainable investing here as well. Today, we have Spruce Power Holdings. We have CEO, Chris Hayes. I'm going to be talking about several topics, including the CEO transition and some other updates on the business. Joining me today is my colleague, Peter. Peter, I'll just give -- allow you to give a quick introduction.

Thanks, Shawn. So I'm an energy analyst here at Water Tower Research. I look at companies in the energy transition space as well as natural resources. I just want to say it's great to be here today, and I'm really looking forward to our conversation with Chris.

Right. Thanks. And as a reminder, this event will be available on demand. You can use the same link used to register originally should you choose to send it to somebody. You can access all of our research. We're an open access platform. It can be found www.watertowerresearch.com. You can find information across the energy transition and sustainable investing sector. And this will also be posted to that event along with all future content and research on Spruce Power Holdings. So with that, Chris, are ready to begin today?

Sure, I am. Good morning, Shawn.

Great. Well, thanks. Let's start with an overview of what Spruce does and then tie in to a little bit of your background, and then we'll get into some of the specific questions we have today.

Sure. I appreciate it. So thanks, everyone, for spending the time here. I'll give a brief intro of myself. I want to say how incredibly energized I am to be at the helm here. I think we've got an amazing ride ahead of ourselves. And I would love for you to consider becoming a long-term investor of Spruce Power. I think it's an off-the-chart no-brainer company in stock. So a little about me. I've been the Spruce Chairman for about 1.5 years. I've been intimately involved in all aspects of the business, all the leaders from the ground up, certainly through the boardroom. And I was on the board for several years before becoming the Chairman. I was on the special committee who underwrote and approved the acquisition of Spruce Power. And a little about me quickly. I started my background in investment banking in the late '90s and then got into the startup world, became an entrepreneur and I've been deeply involved in the renewable energy and so-called energy transition space since 2010 when I started Altenex and we had a great ride there, too. We invented the so-called virtual power purchase agreement. It has since become the industry standard. We closed about $4 billion in renewable energy projects before selling that company to Edison International. And most recently, I was the founder of a company called Alturas, and we raised $600 million. We focused exclusively on Energy as a Service for the Fortune 500, and we pioneered a contract type and associated service offering, that allowed us to close a number of first-of-their-kind transactions that let the Fortune 500 pay no upfront costs and get guaranteed savings. So -- what do you think, Shawn, should we get into Spruce Power?

Yes. Let's talk a little bit about the company. For investors that are new to, this is the first one we've done with you. So a good overview of the company should be a good starting point.

Yes, I appreciate it. I'll attempt to keep all my remarks short and sweet here. So Spruce Power is a pure play, where we're an owner operator and an expert in residential solar. So what that means is we have a long-term cash flow model. We get cash flows from about 75,000 residential solar systems. It's on average about 12 years of cash flows. We have scale. We're one of the largest so-called TPO solar companies. That means third-party-owned. And we're a pure play. We're different than a lot of other players out there. We buy our portfolios. One of the lowest cost of acquisition players out there you'll find. We don't build. We're not developers. We're not originators. We buy portfolios of residential solar, and we manage them incredibly well. And we've shown a proven success model for years. So over the last 4 years, we've done 13 portfolio acquisitions. These have been mature, cash flowing residential solar portfolios. And the devil in this business and the detail is around servicing. Anyone can buy a portfolio, I think we do it better, cheaper, but the key in having 75,000 individual systems is how you service it. So we've had to build from the ground up a full wrap servicing program, so that's billing, collections, asset maintenance, environmental commodities reconciliation. And we'll talk a little bit more about it on this call. It is that platform that we think is our primary durable competitive advantage and we want to exploit that for growth or portfolios that we don't own.

Great. Thanks for that overview, Chris. I think one of the things that's top of everybody's mind is talking about the CEO transition, bringing you in recently. I think it would be very helpful to run through some of that talk about what's been going on and how we got here and your position.

Yes. I've been talking to investors quite a bit over the last 2 weeks, and this comes up. So I want to start by saying how grateful I am for the previous CEO's leadership over the past years and efforts to scale Spruce. I think one of the most notable things here is that we have built a super deep bench of a world-class management team to keep our heads down and keep executing. It's a mature portfolio. I talked a little bit about our tech and it is that management team that is going to allow us to keep growing into the future and sort of focus on our paper and nothing more. And as it relates to my involvement here, the Board has been reviewing the next stage of the company for some time, and we've determined that if we can have capital-light growth in this durable competitive advantage we have, we call it Spruce Pro and get revenue from other distributed energy resources that we don't own, whether it's community solar, whether it's charging stations, other things, we have the service organization in the tech to do it, and we really want to grow that in a capital-light manner. And this particular side of the business is a place where I have deep experience. If I like doing anything, it's building. And I think we have a huge opportunity in front of us to get material revenues over the next 7 years -- several years, 3-year recurring revenue streams. This is packaged Spruce Pro, our technology and all the service pieces and I'm going to work to aggressively productize and commercialize that offering and again, in a very capital-light manner.

Great. Chris. Just could you please talk a little bit about Spruce's positioning within the residential solar and broader distributed generation markets and how the company offers a differentiated strategy and investment vehicle into participating in this mega trend.

Yes. I mean it is a mega trend. There's no question, right? We're in the first couple of innings of this thing at best. And I think we have a really durable, scalable model, and here's why. The first piece is we have a great moat, building the infrastructure to own these high-margin cash flows is very hard. We have done a great job over the last several years doing it, having this integrated servicing platform, which is, in my mind, one of our core competitive advantages. And we have a corporate development team that is great at buying these assets. So these are existing solar assets, and we are going to keep doing that in a capital-efficient manner. And talking about the mega trend. Look at your utility bills, right? They only go up. So the value proposition for solar is great. So the key for us is how do we keep this engine going, keep our heads down, keep growing the business using these growth drivers on the side that I talked about to allow us to be the dominant owner, service operator of these. And I think in doing that, we have a model to generate fantastic returns far in excess of utility scale or many of these other saturated markets. And the last piece I would leave you with, installers come and go, right? We don't get involved in that market. We leave it up to others to do that hard work of development, customer origination, getting systems on houses. We buy both programmatic offtake and big portfolios to own and operate them, and we do it in a really competitive manner.

And Chris, if I can just expand on that a little bit. When you look at the business and you talk about the moat that you have, what is it that other companies do that they don't do so well that you do better? Because I think it's important for investors to understand some of the differentiation in this, because I think of solar, everybody gets -- groups it together, they think of it in one way. But -- and as I was doing research and due diligence. Spruce, it became pretty clear that there are some interesting aspects to this that are really challenging to execute on out in the market, the servicing and support. So can you expand a little bit on that at what you do better than many of the others and how you can generate that return then?

Yes, for sure. So broadly speaking, the market sort of has 2 sides to the barbell. You have these low cost of capital providers that love to buy large C&I project and you have service providers over on this end, venture capital players and others designed to provide products and services for that space. What customers realize when they get over 1,000, 2,000, 3,000, any distributed energy resources, but let's keep the conversation to solar here. It is very hard to monitor all the equipment, the panels, the inverters, we have 5G on almost all of our systems. You have to monitor all of that. You have to build customers every month. You have to collect. You have to have delinquent debt collections. You have to have environmental commodities desks, so that you can mint SRECs in California, for instance. And you have to do that for a huge number. So we've gotten really good at that, having 75,000 of these that we have to manage. Again, we're one of the biggest out there. And so the name of the game for us in terms of this tech platform and service offering that we've built, how can we get more throughput through that pipe, right? It's a capacity question. So we can do opportunistic M&A only on residential solar portfolios. Because there are no step-outs being discussed here, just residential rooftop solar and/or and this is the AM strategy for capital light, we have to push Spruce Pro to get to many of those other solar owners so that we can do what we're great at in all of those verticals that we just talked about, all of which we have to do to run our business on a go-forward basis. Is that helpful?

Yes, that is. And if you look at the business and translates into near-term objectives for you, right, I think trying to look and understand where you're taking the business. Obviously, maybe expand a little bit on the focused M&A strategy is key. You guys have already been doing it. You've been doing it well. You have a great team in place there. How does that fit into the mix here? And then, I think you touched a little bit on expanding some of the new offerings. But if we go back to that core strategy, how are you viewing that today and going forward?

Yes. So look, if there was one takeaway, I would want investors to have. It is that we are sticking to our knitting, right? We know what we're good at. We have a really well-defined lane, and we're going to keep our head down and continue delivering. We are not looking for synergies off on the side. We are not looking for step-out M&A. So what that means is, we're essentially doing 2 things, and we've got a great deal of experience in both. The first is on an opportunistic basis, we are going to continue looking at acquiring residential solar through M&A. We have a great team for origination. We are great when it comes to project finance and the capital structure. We are going to keep doing that with high returning portfolios that we can acquire through time. We will always be opportunistic and we are never going to chase growth for the sake of growth. And then that second piece that we've talked about here is to really exploit Spruce Pro because we know this market well, and many of these large solar owners and distributed energy resources for that matter, have a real difficulty when they get over 10,000 to service and operate these portfolios. And we are going to continue doing that. So stick to our knitting, shut up. We're very good at it and work hard and keep doing it.

And it seems to me there's a lot of leverage in that. In other words, the platform you build -- the servicing platform, the Pro that adding rooftops to that is pretty easy to do. And when I say easy to do, it doesn't take a lot of additional investment on your side? Is that right? So that's why there's some real synergies in leveraging the platform?

Well, that's exactly the approach, right? In other words, building one of these service centers and all of the required technology, monitoring the assets in the system, doing the debt collection like we talked about, reconciling bills, sending bills, frankly, is a tough business. So we get a ton of leverage out of it, right? So the question is, how do we push more capacity through it and improve our bottom line. There's basically only 2 ways: one, through opportunistic M&A; and two, through having third-party servicing, which is what we're talking about here, which we think have great multiples and a tremendous amount of leverage, specifically I'm looking into 3-year recurring revenue deals for solar owners for us to do this work. And that's what we're pushing the gas pedal down on in a capital-light manner.

I just want to go back on the M&A strategy and asset-light. What makes you the preferred buyer in this market? You obviously have a great team there that looks at a lot of different deals, I assume. But what makes you the better buyer -- preferred buyer in this market for those?

Yes. So it's a good question. So look, we've been doing this for a long time, right? We have a cost structure and a service organization, we think is better and stronger than anyone else. And the other piece is project finance is a big piece of the capital stack in a business like this. From our Mezzanine relationships and all our other debt relationships, we have gotten very good at doing this. And so we know how to underwrite portfolios. We know how to onboard them, price them right, get the IRR. And then probably most notably, operate them at the higher margins than anyone else in our peer group. And we really are, at least to my mind, a pure play, right? We're not burdened with origination and development of rooftop stuff, and installing new systems and all of that business. We own, we operate, we do it with the best cost structure, and we want to get more through that pipe to improve our bottom line.

Thanks a lot Chris. This is really great color. I'd like to move over to Spruce's balance sheet. And this is obviously critical to the discussion here, and I think our viewers today would love to hear about your capital strategy.

For sure. So as I talk with investors and think about the strength of our balance sheet and our capital strategy, we are rock solid. Right? We are a derisked company in almost every way that I can think of. First of all, we're super well capitalized. End of Q1, we had about $150 million on our balance sheet, and it's our expectation we're going to hit free cash flow this year. So that puts us in a very strong position to have optionality on targeted M&A for rooftop solar. And again, for the capital-light growth we're pursuing, this does not require much capital. But we want to think through how do we scale the platform continue investing in our service organization and stay capital light. We think that -- look, here's the biggest takeaway that I think about. End of Q1, we had about $8.33 per share in cash. Today, we're trading at something like $4 and change, and we have a super durable business that is easy to understand, owning and operating this rooftop solar. I can promise you -- I'm not going to tell you what it's worth. I can promise you, it is far over negative $4 per share, and I think that puts us in such a strong position and we are seeing a lot of opportunity in the solar space as it relates to folks selling rooftop solar, potentially at distressed prices, and that puts us in a wonderful position to be a buyer and keep growing our bottom line. At the end of the day, our goal is to drop to the bottom line as much capital as we can and build a long-term durable business, right? And we think given all the mega trends you talked about, we're in a really good spot to do that.

And do you think that the pipeline of opportunities is growing. I mean, certainly, there's a lot of -- going back to being a preferred buyer, for example, out there in the industry. But one of the questions is, what does the market look like for the opportunities? And my understanding is there's -- you guys are looking at multiple options all the time with the team that you have, right? So I guess my question goes about the robustness of the market, the attractiveness of being a buyer in this environment for that? Are there any thoughts on that?

Yes. Yes, Shawn. I've got quite a few. So I'll back up. This year, we'll be -- we'll see about 6 to 8 gigawatts of new solar put in the ground. That's a lot. And someone has to own, operate and service all of that stuff. Ultimately, as I mentioned, once players get to a certain size, usually 5,000 to 10,000 at most, they realize that servicing is incredibly difficult and challenging, and they look to recycle capital and sell those portfolios. So what puts us in a good spot is that we've been doing this for so long, we get first look at deals. We know how to underwrite them. We know how to think about FICO scores, states, trends, increase in utility costs, which many of our contracts are indexed and tied to. And we're able to ultimately underwrite, close, deal with all the project finance and cap stack, change it through time, swap. So it puts us in a great position to get the best look -- get first look, I should say, but then to only buy those portfolios that we think exceed in all of the underwriting rounds we look at. And for sure, we're getting a lot of phone calls on that. And that group is very well staffed with some of the best.

And clearly, having the balance sheet is important, being able to have a good cost of capital and where you are, facilitates that strategy.

No question, Shawn.

That brings us -- I don't know if you have any closing comments. That brings us to our close today from our questions, but I really appreciate you coming on Chris, and I'll turn it over to you for some closing comments, and then I'll wrap it up for today.

Yes, sure. So look, my only closing remarks are that I'm so energized to be at this company. There is so much opportunity. We have such an unbelievable platform to keep our head down, stick to our knitting and build a few growth drivers that I think in a few years can eclipse the EBITDA that we're generating with this existing business. So look, I would just say from an investor lens, we are in the early stages of a mega trend where we've got a durable competitive advantage. We are very good at what we do, and we are going to shut up, keep doing it and deliver great returns. And I would love to have you along for the ride as a long-term investor and really appreciate you taking the time to listen to this. Thank you so much.

Great. Thanks for all that. It was very informative, Chris. As a reminder, you can access this along with all of our additional research at www.watertowerresearch.com. We look forward to having you back on, Chris, as the story evolves and hopefully talking to some other people in the organization, too, and you guys have a deep bench to work with. So we're looking forward to digging in. And for investors who have any questions, feel free to reach out to us or the company for any questions. And we'll wrap it up for today. Thank you, everyone, for your time, and we look forward to having you back soon. Thanks, Chris.

All right. Thank you, Shawn. I really appreciate it. Take care.