Enphase was one of the top performing stocks in the Nasdaq last year and for good reason – the company reported accelerating revenue in 2022 across two quarters and has expanding margins. This is a killer combo in any environment but most certainly the current one where many companies are reporting the opposite, such as decelerating revenue and/or contracting margins.

Notably, because Enphase was aptly rewarded last year by awarding investors with 47% gains in 2022 compared to the Nasdaq’s (33%), the entry has proven a bit tough. As of now, our entry is flat (more or less) and it’s likely I/O Fund stops out given there could be a broader market pullback on the horizon. If so, we will try again in the future. There are details at the end of this analysis on the stop we plan to follow for Enphase.

This analysis is meant to keep close tabs on a company with an exceptional product, which is the IQ8 Microinverters, and a strong management team. You can read our most recent Enphase analysis here, and then dating back further, we covered the company in 2021 and also in 2020.

Enphase is seeking new ways to manufacture domestically to take advantage of the Inflation Reduction Act. The IRA provides a credit of approximately $43 per microinverter manufactured in the United States directly to Enphase. Analysts on the call were excited to hear about the prospect of Enphase improving it’s already-good bottom line with IRA credits.

The new policies of NEM 3.0 in California passed in December could provide a boon in Q1 for Enphase due to Enphase being a leading provider of solar plus storage. However, management has gone on record to say that it could subsequently cause a slowdown after Q1 in California because ultimately the new policies reduce the rate at which a resident can sell back power to the grid by up to 75%. 

On the product side, the next iteration of microinverters will introduce gallium nitride (GaN), which increases power while maintaining the same footprint. The IQ9 series and IQ10 series will incorporate GaN and will increase MW and also greatly increase AC frequency from 100 kilohertz to up to 1 megahertz.  The company is also expanding with a third supplier on batteries to achieve 250 MW hours per quarter on storage or more. Right now, Enphase ships 130 MW hours of batteries per quarter. 

We discuss this and more below.

Q3 Earnings Overview:

• Revenue accelerated again for the second quarter
• Margins expanded, some 2X or greater from the year ago quarter
• Regarding a question on the recession and potential slowdown in growth, management stated this year will have “very healthy double digit, high double digit growth percentage”
• Updates on IRA and NEM 3.0 in State of CA: IRA is a serious boon for the next 10 years whereas NEM 3.0 may cause an eventual slowdown in CA revenue.

Enphase reported revenue of $634 million for growth of 80.57% compared to $613 million expected. This represents Enphase’s second acceleration in revenue this year, up from 67% last quarter and up from 46% in Q1. This level of revenue acceleration is rare in the current environment.

Guidance for Q4 revenue of $680 million to $720 million represents growth of 69.8%. Overall, analyst estimates are moving upward.

• Q4 was originally estimated at $664 million and is now a consensus of $701 million. 
• The same for Q1, which originally had analyst estimates of $640 million compared to current consensus of $680 million. 

This is important to keep an eye on as it helps Enphase defend its current valuation if revenue estimates continue to go up.

In Q3, Enphase reported GAAP EPS of $0.80 and adjusted EPS of $1.25, which beat estimates of $1.08. Enphase beat EPS estimates and analysts are raising consensus estimates for the next two quarters. Should the consensus numbers continue to go up, this also helps Enphase’s bottom line valuation.

On top of accelerating revenue, Enphase has been expanding its operating margin. In Q3, the company reported a GAAP OM of 21.4% — which is nearly double the GAAP OM in Q3 of last year at 10.6%. This is also the highest GAAP OM in 2022 with 17.8% in Q2 and 14% in Q1.

The adjusted operating margin of 30.5% is six points higher than last year’s 24.4% adjusted OM. This was also the highest adjusted OM in 2022. For next quarter, the company is guiding for 28.8% adjusted OM.

GAAP net margin of 18% is nearly three times higher than the GAAP net margin of 6% in Q3 of last year, and has also been expanding each quarter in 2022. This led to net income of $115 million in Q3.

The company reported free cash flow of $179 million in Q3 for a FCF margin of 28% and operating cash flow of $188 million. The FCF margin has fluctuated between 20% and 36% over the past few quarters. There is $1.4 billion in cash on the balance sheet and $1.29 billion in debt.

The company paid stock based compensation of $52.3 million, or 8.2% of revenue.

Key Metrics:

Enphase reports its microinverter sales by Megawatt shipments, or the total capacity of all microinverters shipped in a single quarter. Last quarter, Enphase shipped 1,709 MW DC of microinverters, or 40% QoQ, up from 1,213 MW in Q2. 

Batteries were flat QoQ at 133.6 MW of hours compared to 132.4 MW of hours last quarter. However, this is up over 100% YoY from 65 MW of storage shipped in Q3 2021.

Enphase’s international mix is growing rapidly with Europe up 70% QoQ and 136% YoY. Latin America was up 100% QoQ and 129% YoY.

Fewer EV chargers were shipped this quarter at 6,370 compared to 8,250 chargers shipped last quarter. 

Of the microinverters shipped, 47% were IQ8 up from 37% last quarter. There was a question about the slowing rate of growth in IQ8 inverters and the answer below discusses why the percentage is not the right thing to focus on. There was a large sequential jump in MW DC of microinverters shipped from the 1709 to 1213 MW, and therefore, IQ8 shipments nearly doubled. It was also good to hear in the answer below that IQ8 is expected to take up 90% of microinverter shipments by Q2 of 2023.

Mark Strouse

Yes, good afternoon. Thank you very much for taking our questions. I’ve got two questions. Maybe I’ll just kind of roll them into one. The IQ8, I believe you mentioned that was 47% of shipments this quarter. I believe in 2Q that number was 37%. Just kind of what drove that, that seems like a relative kind of slowing in what I would’ve expected kind of the progression over the coming quarters to be. And then the second part of that is kind of despite that relatively slowness in IQ8, gross margins are still coming kind of ahead of expectations. So just a bit more color on those two metrics please.

Badri Kothandaraman

Yes. If you see, you got to look at it a little bit carefully. It’s 37% of 3.3 million microinverters that we shipped in Q2, that’s approximately one point something in Q2, while now it is 47% of 4.3 million microinverters. So therefore, I would say, the IQ8 microinverter volume is doubled from Q2 to Q3. What we have seen historically is the transition, is complex. It can take over four to six quarters. That’s what – I mean, around four to six quarters. This is what we told you before. We started Q1 was at 20% I think or 19%, Q2 37%, Q3 47%. We expected to further climb in Q4. Our target is to get to 90% conversion in Q2. That’s what our target is. You asked a question on gross margin. On gross margin, our product mix of IQ8 was higher, like what I told you, 47%. 

Net Energy Metering (NEM) 3.0 in California:

Last month, California passed controversial solar policies that will initially benefit Enphase and other solar plus storage companies because the new policies greatly reward solar systems that have storage. The new policies introduce high tariffs for high-priced evening power whereas rooftop solar systems with storage will offset these prices and potentially export power back to the grid. This was a controversial policy because it benefits utility companies by also slashing the value of solar returned to the grid by nearly 75%. Another controversial tariff is the grid participation charge, which is proposed to be $8.00 per kW, or $56 a month and $672 per year.by nearly 75%. Another controversial tariff is the grid participation charge, which is proposed to be $8.00 per kW, or $56 a month and $672 per year.

This will initially benefit Enphase as the company sells storage with its comprehensive systems, and systems installed before the new policy takes effect (mid-April) will be grandfathered into the current rates offered for selling power back to the grid.

As discussed in a previous analysis, Enphase’s microinverters use a proprietary ASIC chip to change loads and grid events, which reduces the required size of battery and battery power. The solution that Enphase designed with IQ8 is that the models are “always on” by combining the inverters, batteries, system controllers and load controllers for a mini grid that can produce power from the sun and efficiently store this power at night.  

The small upside to the new policy is that over the next 9 years, residential customers can use receive credits by using the Avoided Cost Calculator (ACC) to calculate the cost a utility avoids for each kilowatt-hour that it doesn’t buy from the wholesale market. The extra credits will result in residential customers saving $100 to $136 per month on the average electricity bill. There is an additional $630 million in state funding set aside for low-income housing installations.

The reason I use the word “initially” is because solar installations ultimately fell in Nevada and Hawaii after similar policies. Per SolarBuilderMag, Enphase has previously stated the following:

“Enphase Energy states, ‘Based on data from other states, cutting (the) solar value proposition by more than half — four months from now — will lead to a deluge of installation requests in the first quarter of 2023, followed by a precipitous curtailment. This will not only fail to sustainably grow the solar market, but it also risks debilitating it, exacerbating supply chain issues, disrupting small business cashflows, and jeopardizing roughly 65,000 California solar jobs.’”

During the earnings call in October, Enphase had said the following about NEM 3.0:

“Next, I’d like to comment on NEM 3.0 in California. As of now, there is still no decision from the California Public Utilities Commission, CPUC. We hope the CPUC eliminates the grid participation charge while providing a glide path for the solar only market, as well as incentivizing the solar-plus-storage market.”

In December, NEM 3.0 passed with the new policy set to take effect April 13, 2023. Enphase had previously cautioned it will cause a spike in installations because solar + storage that is installed prior to NEM 3.0 can continue to sell to the grid at the higher rate before the policies go into effect.

Notably, Enphase plans to have an additional cell pack supplier from China early next year with a lead time of 10 to 12 weeks. This may help in satisfying any demand from customers who want to beat the April 13th deadline for NEM 3.0. 

California is a large solar market with 12 GW of distributed solar generation installed, or about 25% of the state’s peak demand. There are over 80,000 customer-hosted batteries connected to the grid.  

Update on the Inflation Reduction Act:

We covered the Inflation Reduction Act here in a free article in September. The IRA allocated $369 billion allocation for energy security and climate change over the next 10 years. The investment tax credit is 30% for residential solar and standalone storage, and Enphase is one of many companies that will reap the rewards.

As discussed on the earnings call, the IRA allows for $0.11 per AC watt production for the domestic manufacturing of microinverters. In response, Enphase plans to “open four to six manufacturing lines in the U.S. by the second half of 2023.” 

The CFO stated the following: “We are planning to add a total of four to six lines in the U.S. At this time, we are planning that by the end of Q4 2023, so four lines, per line would be 750,000 units a quarter. Four lines would be 3 million units a quarter in the U.S., six lines would be 4.5 million units a quarter in the U.S.” According to the transcript below, Enphase will see $43 per 384W microinverter shipped. This will help expand the company’s margins of up to $193 million per quarter in additional income/IRA credits. 

Note: the company is doing about 4.5 million microinverters per quarter right now so demand needs to double and/or Enphase will need to lean away from global manufacturing for the microinverters. In his answer, the CEO is clearly saying this will take time. I believe he’s also implying if all things are equal (or perhaps better with automation) this would be adding the credit to the current profile of the company in terms of costs/bill of materials considering Enphase is shipping exactly 4.5M microinverters per quarter now. Per the CEO’s answer, the variable that remains is value-added manufacturing activities, such as cutting, drilling and assembling the parts. Presumably, this would be higher global costs.

Steve Fleishman

Yes. Hi, good afternoon. Thanks. Badri, just in thinking about U.S. manufacturing, could you give us any color on what the cost difference might be in the U.S. and how much of the $0.11 that could offset in terms of just manufacturing costs here?

Badri Kothandaraman

Yes, I mean it’s too early to talk about it, Steve. But again the $0.11 per watt is the big number, if you do the economics, you see, let’s say I ship a inverter with 384 watts of AC, $0.11 a watt $43, right? And the manufacturing cost that, of course, we have the total manufacturing cost, which is bill of materials plus value added manufacturing. The bill of materials will roughly stay the same regardless of the, there may be some small changes, but if domestic content is not required, the bill of materials will likely stay the same. So therefore the variable here is value added manufacturing and how efficient the contract manufacturers can set up the factories? What level of automation they can have? How can we help in them achieving great levels of automation. That’s the question

Later on, an analyst followed up by asking a similar question. Due to the importance of the statement, I’m copying the entire transcript here:

Julien Dumoulin-Smith

Excellent. Hey, good afternoon Badri and team. Thank you and congratulations again. So just on the cost side of this equation, right, I mean I just want to make sure I heard you right on the U.S. manufacturing, I mean, how much of an incremental cost and/or incremental need from U.S. content is it required? I’m just trying to understand the relative cost under the ledger versus the $0.11 a watt that we’re talking about. I guess that you guys hold onto the $0.11. I’m just trying to understand what the offsets would be, especially considering the fact that you still have a pretty good line of set on U.S. growth and therefore being able to just serve U.S. demand from U.S. manufacturing, and avoiding logistics at the same time. So the net, net, net of the two of those, as best you understand it today, obviously considering I guess [ph] still pending, 

Badri Kothandaraman

Right. So like what I said, maybe you did not hear what I said. Is the production based tax credit is $0.11 per AC watt. If we take a 384 watt micro inverter, that is $43 of credit. Now when we look at our microinverter, you have bill of materials and then you have value-added manufacturing cost, and then you have overhead, which is warranty expenses and all of those. So if you see all of those constitute the cost of the product. Now the bill of materials, assuming there are no restrictions on domestic content, expect the bill of materials to be roughly staying the same.

The value-added manufacturing cost is the one that’s the variable cost depending on the country. And then the warranty expands in logistics, freight, et cetera, largely the same because now it is local and while the cost to ship raw materials to the U.S. may increase, but the cost to ship to customers will decrease. So that is a wash. So really if you consider those three components, we need to look at one portion of that, which is value-added manufacturing.

Now our contract, it needs to be economical for our contract manufacturers as well. They also need to make, they need – they also need to be profitable. It’s not going to happen if they do not make any money. So therefore, we are working on finalizing the agreements we do have letters of intent, which we think are reasonable constructs and bottom line is with the constructs we have in mind, provided this AR [ph] implementation is approved. I think, the money to be made or the credit that we can get would be significant and it’ll create a lot of jobs, which is really what we want

 

Product Updates:

For the IQ9, Enphase plans to increase the power of the microinverter by 50% from 320 watts to 480 watts DC in the same footprint. This is made possible by gallium nitride (GaN), which has the thermal characteristics to withstand high power. GaN also allows a higher frequency, so what operates at 100 kilohertz today in the IQ8 will operate at 200 to 300 kilohertz on the IQ9 and 1 megahertz in the IQ10. The other major benefit is that the footprint of the transformer size will be the same despite a much more optimized system. 

Here is what was said on the call:

“We are planning to utilize 1 megahertz for IQ 10, but on IQ9, we will probably be around 200 to 300 kilohertz. And then what happens is the transformer scales basically to these – to one over the square root of the increase. So that means that the transformer can come down, the size of the transformer can come down […] So that footprint can come down, the volume can come down, the FX can still be the same. 

And soon there will be an opportunity, although we are not planning to do in the DC stage yet, implement again in the DC stage, there is opportunity for us to implement again in the DC stage as well. So lots of optimization possible. Name of the game is to keep the footprint the same, not bloated. Size is important for us and I think we can get the cost structure as well under control. And if we are able to pack in 480 watts AC punch into similar number of components, similar cost structure, then we directly get the cost benefit there in terms of cost per watt.”

 

Comments on Recession:

Due to Enphase performing so well last year on stock price, naturally there will be questions on whether Enphase can sustain this growth and overcome recessionary pressures. Although we are quoting a lot from the transcript, this particular call was 1:15 minutes and so there’s a lot cover. This part is especially important as I/O Fund is tracking some weakness in Enphase’s technicals yet we don’t want to be complacent on re-entering if Enphase has a repeat year.

Phil Shen

Great. That’s great color. Thanks, Badri. As it relates to 2023 again, but just for the general micro business I know there’s not official guidance, but was wondering if you could talk through, how does a potential recession maybe some potential for demand slowing in 2023 for resi solar in the U.S.? How could that – how are you thinking about that? Are you seeing any of initial signs of that at all? And I think you saw the 70% year-over-year growth in Europe this quarter, what kind of sequential growth could we see in Europe as we get through next year for the micro inverter business? Thanks.

Badri Kothandaraman

Yes, I mean the, you asked us, do we see any slowdown? We don’t. Our demand is very strong as we see it. It’s of course too early to talk about Q1, but even Q1 bookings are right now quite healthy. So that’s what we see today. The – there are a few factors that are in favor for us. The utility rates are continuing to climb, so that accelerates our business. The IRA, Inflation Reduction Act and the ITC extensions for both for ITC 30% ITC for solar and storage are fantastic. So those also provide a nice launch. And then for us this is not true in the U.S. but Europe, the energy crisis in Europe is accelerating renewables big time. So these are the three things where we are seeing a lot of tailwinds from these three things and our demand is strong.

And here was a second question on whether Enphase can continue its high growth rate:

Gus Richard

Yes, thanks for taking the question. Just wondering, you guys have been growing at 70%. Can you sustain that level of growth? And I’m not asking for a forecast and if not, where do you see the limits of growth coming in? Is it your installer network? Is it availability components? Could you just discuss that a little bit it’d be helpful?

Badri Kothandaraman

Right. When you start from a small base, of course the growth is going to be high. And then when you build it to some respectable numbers after that, the question is are we going to be able to sustain the growth? We think there are great drivers for sustaining the growth, which is the utility rates even in Europe, for example, in Germany are quite high. The energy crisis is accelerating in our renewables in Europe. So all of those are external drivers. They’re tailwinds that are in our favor. So we think we can sustain good double-digit growth percentages in general. But we do need to maintain a focus on quality and customer experience. And many of the installers love the quality on microinverters. And our market share gain that we have is based upon our quality plus the customer service that we provide them on microinverters.

I talked about the – some stumbling blocks on storage and we are working on them and we expect storage will be also providing a similar customer experience enabling us to unleash that opportunity as well in Europe. So we are incredibly optimistic like what I said, we doubled from 2020 to 2021. We doubled a gain from 2021 or we will double the gain from 2021 to 2022. And 2022 to 2023 it may not be possible for us to double, but we will have very healthy double digit, high double digit growth percentage.

 

My notes:

The levelized cost of energy has dropped exponentially over the past 10 years, which I first covered here. In the chart below, solar is to the left in orange and it’s gas comparison is in gray to the right.

Source: Lazard Levelized Cost Of Energy, Levelized Cost Of Storage, and Levelized Cost Of HydrogenLevelized Cost Of Energy, Levelized Cost Of Storage, and Levelized Cost Of Hydrogen

 Here is a look at how the LCOE has dropped dramatically over the past 10 years from the same report:

 

The lower LCOE helps to illustrate why Enphase may do well during a recession as a solar plus storage system can drive down energy costs.

 

Conclusion:

 

The question as to whether Enphase will continue its winning streak to sustain high revenue growth in 2023 is that it’s highly probable. In addition to developing GaN microinverters, the IRA tax credit for domestic manufacturing could boost the company’s bottom line. These are catalysts to the already strong earnings performance. Management stating IQ8 will be 90% of microinverter sales by Q2 is helpful and the company is expanding its suppliers with a mix of global and domestic.

There is one caveat which is valuation. Depending on how you look at it, Enphase is testing the upper range of its 2022 valuation if we compare it to Jan-July. If you assume the price activity between July-December will repeat, then this is a good entry point. However, if we see a broader market pullback, Enphase could easily revert to its Jan-July trading history on valuation.

As with 2022, this year will require navigating the broad market for entries as much as (if not more so) than individual stock charts.

Enphase Technicals 

By Knox Ridley

Enphase appears to be in the final move of a large uptrend that started in January of 2022. The current drop has gone further than anticipated. This has reduced the probability that we should see a final push towards the high $300s before putting in a major top. 

This now opens the door to us being in the first move down in a large degree drawdown. The line in the sand will be the $245-$237 support zone. If this breaks, we will stop out of our position and wait for this large degree drawdown to complete. 

However, it is much more likely that we see a bounce back towards the $282-$304 region before a major breakdown, if this is the scenario in play. What will be the major clue is the structure of this bounce. If it is a clear 5-wave move, then we will favor blue, and hang-on as we push to new highs. If it is a 3-wave bounce, we will look to unload our position for a modest gain in the yellow box above and re-enter at a future date.