Solar3D (NASDAQ:SLTD) is a small cap Solar Developer with lots of potential currently trading at discount to our assessment of intrinsic value. Solar3D originally started out as a solar cell technology company trying to commercialize their "3D" Solar Cell technology (more on this later). The company has since morphed into a niche Solar Developer and Installer created through a rollup strategy. The company has completed 3 acquisitions since beginning its rollup strategy in February of 2014. The 3 companies Solar 3D has acquired are SunWorks (1/31/14), MD Energy (3/2/2015), and Elite Solar (12/1/2015).
Unique Rollup Strategy
Unlike other rollup strategies that employ significant leverage through debt to acquire target companies, Solar 3D has used cash, equity and equity like instruments to acquire target companies at very cheap valuations. This strategy, while dilutive to shareholders, has allowed the company to keep its balance sheet in great shape and allowed it to expand faster than it could have under a debt driven rollup strategy.
Investing in a rollup strategy is risky and you need to understand the company's Capital Allocation Strategy and how efficient their Acquisitions have been in order to understand if the company is actually adding value through acquisitions. Before we get into their acquisition success you first need to understand the Solar Development Landscape in the Western United States and the types of companies Solar 3D has been acquiring.
The larger Solar Developers like SunEdision (NYSE:SUNE), FirstSolar (NASDAQ:FSLR) and SunPower (NASDAQ:SPWR) dominate the Utility Scale Solar segment, but the commercial and residential segments are much more fragmented. The commercial and residential segments have many small developers that operate at close to break even or a slight loss. These smaller developers often have no economies of scale coupled with high administration and marketing costs. These issues prevent them from being profitable. Solar3D's acquisitions have focused on highly reputable developers with strong management teams but low profitability. Solar3D acquires these companies and allows them to cut administration and marketing costs all while providing leadership guidance. To see if this acquisition strategy has been successful we should look at their first two acquisitions, SunWorks and MD Energy.
Acquisitions Summary
I have summarized the three acquisitions that Solar3D has completed in the below table.
As you can see both SunWorks and MD Energy seem to have been wildly successful acquisitions generating Revenue CAGRs at over 200% per annum. Solar3D just become profitable in Q3 for the first time suggesting they have scaled these acquisitions to a point to start generating positive earnings on a go forward basis. I suspect that the Elite Solar acquisition will yield similar results as the SunWorks and MD Energy acquisitions as they have a unique niche in the Agricultural Solar Development market. As you can see the current revenue runrate of a combined organization already is already close to $100m. This makes any growth in 2016 above and beyond the already reported $100m guidance, which is why we view their guidance as conservative. Overall I would rate Solar3D's acquisitions to date as highly accretive for shareholders.
Management
Solar3D management has been very adept at making good capital allocation decisions. Jim Nelson, the President and CEO, has 30 years' experience in the Private Equity space working for Bain and Company. His experience and transactional background fits perfectly with Solar3D's roll-up strategy. Solar3D has also been able to add vast experience in the Solar Development through their acquisitions. All three acquisitions have come with the addition of the predecessor organization's leadership teams to Solar3D's leadership. The over 200% revenue growth that they have been able to achieve post acquisition is a testament to the strength of their management and their model.
Solar Cell
Solar3D is still currently working to develop and commercialize their 3D Solar Cell technology. The concept behind the design is to employ a wide angle collector on the top of a normal solar cell which is a series of microstructures that allow light to be "trapped" until the solar cell can collect its energy fully. This could raise the efficiency range of solar cells from the mid teens toward the mid 20s, with the company stating a figure of 25.47% efficiency on their website.
This all sounds really interesting and it would be a huge step change in Solar Cell efficiencies, which also makes me skeptical of its costs and applicability which is rarely discussed. The development and commercialization of the Solar Cell is ongoing with a patent pending and the search for a commercial partner continuing. The market basically ascribes zero value to the Solar Cell which the CEO Jim Nelson noted on the Q2 Earnings call:
Jim Nelson - President and CEO
In the mean time what I will tell you is this and I have told you this before, we ask people don't give us too much credit for that because there's always risk in technology. But focus on the business that we're building and when and if the solar [cell] is commercialized and does really well that will be a huge bonus for everybody.
I basically agree with Jim in regards to the Solar Cell. It is basically like an embedded option within the company but you get it for free as the rest of the business supports the current valuation.
Margins and Valuation
Solar3D is actually a very easy company to model because it has stable Gross Margins and very little Capex. Historical Gross Margins have ranged from 27-34%, but management has suggested their long-term gross margins will be at the lower end of that range. We assumed gross margins at 27% on a go forward basis to be conservative for modeling purposes.
Dilution is also a big concern, as the company has about 6.5m of share dilution outstanding through their Warrants, Employee Options, and Convertible Notes. To get the current diluted share count you need to add the Diluted share count from the Q3 8-K (22.47m) with the additional dilution from the Convertible Notes issued in the Elite Solar acquisition (1.5m), which yields a total of 24m diluted shares outstanding. See below our base case and upside case for the valuation of Solar3D's shares.
The following assumptions were used in the base case vs upside case:
• 2016 Revenue: $100m in base case vs $115m in upside case
• 5 yr Revenue Growth: 12.5% in base case vs 18% in upside (upside also included a 25% rev growth rate in 2017)
• Net Profit Margin: 10% in base case vs 11% in upside case (this is supported by the 27% gross margin assumption)
Neither case assumed any value for additional acquisitions or commercialization of the Solar Cell. We view these both as potential sources of value but they are very hard to estimate.
Risks
Solar3D has a history of Penny Stock Promotion and Share Dilution. Both of these issues should be very concerning to any potential investor. The company had tons of coverage from penny stock promoters when it was an OTC stock before it was up listed to the Nasdaq on 3/6/2015. Since the up listing to the Nasdaq the penny stock promotions have slowed down, although we have seen a few continue. Penny stock promotions often cause wild swings in stock prices and are sometimes known as "Pump & Dump" strategies. The company also has a history of diluting shareholders over the last 2 years since starting their roll-up strategy. They have issued both Non-acquisition related convertible notes, acquisition related convertible notes, options, and warrants. Diluted shares outstanding have risen from 6.8m in December 2013 to 24m currently. Of those shares issued 6.1m were issued in a public offering to raise cash (3.1m via equity & 3m via warrants), 5.5m were used in the three acquisitions. The rest of the shares were used for initial start up capital raised in 2014 or for Management and Employee Incentive plans.
Any potential investor in Solar3D should read the company's SEC filings to get familiar with management and how the roll-up strategy has been executed as it is pretty complicated.
Conclusion
Solar3D is a small player in the very attractive Solar Development Industry. Although the company has a history of stock promotion and share dilution we think 2016 will be a turning point for the company. The recent Paris Climate Change Agreement and the recent extension of the Solar Investment Tax Credit are very positive tailwinds for the industry that should positively support Solar3Ds revenue growth. Shares of Solar3D are very undervalued in light of the coming revenue growth, profitability, and overall industry strength. We believe shares are minimally worth $5.50 and could be worth up to $8.50 if the company continues to execute on its growth strategy.
Warning for investors: SLTD is considered a micro-cap stock and has specific risks associated with it. Please see the SEC website for more information on micro-cap stock risks.
Disclosure: I am/we are long SLTD, FSLR.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
