Despite Sharp Correction Enphase Energy Stock Remains a Long-Term Bet

Enphase Energy (NASDAQ: ENPH) stock has nosedived almost 40% since the beginning of the year – a period that also saw the company’s worst single-day decline in recent years of almost 15% post publication of its Q3 earnings. In comparison, the company’s industry peers Solaredge Technologies (NASDAQ: SEDG), down 84%, Sunrun Inc (NASDAQ: RUN), down 29%, Maxeon Solar (NASDAQ: MAXN), down 99%, and Canadian Solar (NASDAQ: CSIQ), down 54%, have all significantly unperformed the wider market this year, indicating the overall negativity amongst investors surrounding the clean energy sector.

Over the last few quarters, Enphase Energy has witnessed a sharp drop in shipments particularly to the European market. Lower demand for power as compared to supply in the current year has often caused European power prices to remain at zero or negative levels. Certainly not a favorable environment for fresh projects, which in turn has negatively impacted equipment manufacturers such as Enphase. The macroeconomic health of the European economies will have a strong link to a revival in the  demand condition. Even the U.S. market has witnessed lower project execution in the current year as compared to targets as a result of various issues, but particularly due to public opposition to projects. An increasing number of projects have been entangled in litigation and it would require a renewed Government intent (and not subsidies unlike the past) to clear the bottlenecks. However, in Trefis’s view the worst in terms of demand might have been already past. Does that mean the worst in terms stock price is already past? 

Has the bottom been reached?

At the current price level, Enphase Energy stock trades at about 178x trailing earnings, surely expensive by this measure. However, if we consider revenue, the stock price seems much more reasonable with a price to trailing revenue ratio of ~8.6x. The seemingly dichotomy stems from the fact that Enphase’s net income has contracted at a much faster rate as compared to its revenue in the last few quarters. On average, the company’s revenues contracted by ~55% in the last four quarters on a y-o-y basis as against an average contraction of ~87% in its net income over the same period. Enphase Energy’s operations are fixed capital intensive in nature and in this kind of business any change in revenue has a magnifying effect at the bottom line given the high overheads. This is substantiated by the fact that the company’s gross margin in business has largely remained intact in the nine months of operations in the current fiscal at ~45% as compared to the last fiscal.

So What? The crux of the matter is that any improvement in Enphase’s sales will also have a magnifying effect on its earnings. A sunshine sector such as clean energy cannot remain under stress for ever. Policy support for environmental demands toward Net Zero would soon result in a revival in project execution, which is exactly what we are betting on.

ENPH has done it in the past

ENPH’s stock price is currently at a similar level as back in September 2020, when its stock price was at $80 levels. Since then it has been a roller coaster ride. Returns for the stock were 4% in 2021, 45% in 2022, and -50% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 – indicating that ENPH underperformed the S&P in 2021 and 2023. In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period.

Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment around rate cuts and tense geopolitical conditions, could ENPH continue to face a similar situation as it did in 2021 and 2023 and underperform the S&P over the next 12 months – or will it see a strong jump?

Revenue growth is the key

While it is difficult to say whether the bottom of the current price cycle has been reached as yet, it would be easier to estimate that the bottom level of quarterly shipments will be witnessed within the next couple of quarters. Trefis expects ENPH to register a moderate growth in revenue in the next fiscal, which in turn would result in a higher rate of growth of the bottom line. A favorable high demand growth regime might be still several quarters away, but whenever that is reached, strong returns from the stock will follow. What about the time horizon for this high-return scenario? In practice, it won’t make much difference whether it takes one year or two – as long as Enphase Energy continues its product innovation and remains relevant to customer demands for clean energy. When sales trend up, margins would leap, and the stock price would respond similarly.

[1] Returns as of 10/24/2024
[2] Cumulative total returns since the end of 2016

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