Sky Solar IPO tomorrow: am I going to buy?

I just finished reading Sky Solar’s (very dreadful) prospectus. The question is: would I invest in it? Let’s start by “The Bad” first.

The Bad:

1) The sector sucks

Investing in solar energy is a terrible idea. It’s an even worst idea when oil prices are down. Take FirstSolar, the biggest solar energy company at the moment:

firstsolar

Ouch. Not a so-good return since 2008. But then again, its original IPO price was $20 and it went as low as $18.77. That was in 2006. Had you bought in 2006 and sold at its height in 2008, you would have earned a 1,500% return in a year and a half. Are we at the beginning of a new strong uptrend for solar energy? I don’t know, but I tend to believe we are not. In fact, in 2012, the stock went as low as $14.55 before bouncing back to its current level. If anything, I would argue that the last big uptrend was two years ago and is already finished. We might be due for another 3 years of mediocre solar growth before we are back into decent growth. Other big solar companies, such as SolarCity or Sunpower, have not done so well neither.

2) Solar energy never really caught on…

…and I have no idea why. Why is solar energy so disliked? I mean, it’s free. The sun is one of the very few things that are still not taxed (maybe one day houses in sectors with most sunlight will get higher municipal taxes) and aside from a big upfront investment, you are indeed getting free energy. Full sun? You get free everything. You can even resell your excess electricity back to the power company! Clouds? No problems, just switch to regular electriciy and try to use a bit less. Solar energy does not pollute, is fully renewable and, let’s face it, quite cool.

I was a strong believer in solar and wind energy – back in 2005. In nine years, absolutely nothing happened in that sector. Oh, we get new “revolutions” from researchers sometimes, but we rarely ever hear about those innovation again. The fact is, in 2014, most people still don’t like or want solar energy and, very sadly, I don’t see it massively catching on anytime soon. For some reason I don’t get.

3) Other IPOs in solar energy are getting slaughtered

Take Vivint Solar, the freshest IPO in the sector who has, in my opinion, a better and more reliable business model:

vivint

Original IPO price: $16

 

Hardly a winner given that it begun at $16. In fact, it crashed pretty much for two weeks straight before really recovering, and still below its original price. So why would I buy into Sky Solar IPO? Why not wait a week or two to see how the stock fares?

4) Weird structure

This is what Sky Solar’s Corporate Structure looks like:

skysolar-corporate-structure

In short, you are buying a company based in the Cayman Island, which owns 100% of a company in the British Virgin Islands, which owns 100% of a company based in Hong Kong, which owns four companies located in three different countries who themselves hold several companies located in five other countries.Does Sky Solar really need such a complex structure? It’s just a solar energy company worth $363 millions (if the stock doesn’t crash). Think they are in enough countries? How many companies do they need exactly? Even Alibaba’s structure is simpler and it has a thousand times the market capitalization and runs six major websites!

A complex corporate structure is not a problem per se, but it does make me rethink about how the company is managed. The obvious reason to set up such a complex structure is tax optimization and enjoying more subsidies (renewable energy is general is heavily subsidized), but the point still remains: Sky Solar wants to become a behemoth and is present in aa large number of countries, which increases its risk. Don’t tell me a company that has $27.1 in sales per year can manage all that without any problem.

5) Weird, declining and unstable profits and revenues

Sky Solar’s entire prospectus is bizarre, to say the least. For instance, I am still not entirely sure how Sky Solar makes its money. To quote its prospectus:

We generated profit of US$7.1 million and US$26.9 million and incurred losses of US$53.9 million in 2011, 2012 and 2013, respectively. We incurred losses of US$8.2 million in the six months ended June 30, 2014. The decrease in revenue in 2013 and the six months ended June 30, 2014 was primarily due to shifting our focus from selling solar energy systems to selling electricity as an IPP.

From what I gather, Sky Solar decided it could make more money by selling the energy generated from its solar panel than by selling its solar panels. This is all great and a great idea, but the fact is it went from earning $26.9 millions in 2012 to losing $53.9 millions in 2013. Is their new business model better, more efficient and more lucrative? Probably, but it’s far too soon to tell. Which leads me to my next point:

Sky Solar is not, in my opinion, at an optimal time to do an IPO

It’s too early. It should have waited a year or two for its business to really grow. Is the transition going to work? I have no idea. To quote it again:

Our revenue from selling electricity grew from US$2.4 million in the six months ended June 30, 2013 to US$11.8 million in the same period of 2014, representing 10.2% and 82.1% of our revenue, respectively

It appears clear Sky Solar wants to become a pure solar energy seller. But overall, it has limited background and experience; barely a year of selling energy, and at a loss. It goes without saying its revenue will not go back to what it used to be, so I’m not even sure what the point of including data from 2011 and 2012 is:


skysolar-revenues

So we have a company that is in full transition and we are supposed to invest in it hoping that things will work out. This looks like a huge gamble to me – and not a gamble in a nice market. Solar technology is quickly superannuated by new research and product; this means Sky Solar incurs important depreciation costs. For instance, its entire solar park farm will be completely obsolete ten years from now simply because solar panels represent a market that evovles and changes extremely quickly. Solar panels become cheaper and more efficient every year and this is not so nice when you own millions of dollars of them. Furthermore, Sky Solar is wasting crazy money into its “administrative expense,” which is a crazy category for “every expense we didn’t bother putting somewhere else.” Perhaps the complex structure (see: point 4) has something to do with it as accounting, auditing and management fees are simply outrageous.

Even if it can somehow controls its administrative fees while growing, Sky Solar faces a tough market: trying to sell its energy at a cost far higher than regular, cheap energy (coal, oil, gas and so on). Without proper subsidies and was it not for the environment, nobody would buy electricity from them. Buying from Sky Solar thus implies that a company wishes to make a social statement, namely that it is ran on renewable energy. This is a bold statement given that, even after the rebate from the government, solar energy is more than twice as expensive as traditional, non-renewable sources of energy (whose prices keep dropping).

Lastly, I need to say Sky Solar does a major part of its business in some countries I would rather avoid entirely due to their poor economies, such as Greece, Cyprus and Bulgaria.

6) A strange IPO

Given the consideration above – that Sky Solar should be nowhere near doing an IPO – can you wonder why it decided to go public at seemingly the worst possible moment, in the midst of plummeting oil prices and a major business model change? Like most IPOs, probably because it needed money. Specifically, because its transition to an energy-selling business takes time and, quite simply, money. After two years of profitability, its cash reserves declined 60% and it seems to be starving for fresh funding:

cashreservesskysolar

To be clear, this is not a negative factor. Building solar farms cost money and Sky Solar is implicated in quite a few parks around the world. Still, it needs money to keep paying its $25,000,000 per year “administrative expenses” (read: $500 sushi nights and $1,500 bottle of Champagne). How is it going to achieve that? With an IPO.

It should come at no surprise that Sky Solar’s IPO was temporarily delayed (read: no one wanted to buy into it). In fact:

The deal has been restructured – with a new bookrunner – to offer 6 million shares at $7 to $8 each, down from 12.5 million shares at $10 to $12 each.

Ouch! Quite the cooler there. In fact, the deal was almost cancelled, until it magically popped back today, with an expected listing tomorrow. Nobody wants to buy a dumbed down IPO and if it couldn’t sell 12.5 at $10-$12 and if it can barely sell 6 millions at $7-$8 (it’s not fully covered, half a day from its planned IPO), it doesn’t augur too well. Sky Solar could have been withdrawn and not many would have cared. Remember: you can only do an IPO once. Once you’re public, you’re public and unless you are bought back, you can’t just make another IPO.

The Good

1) A strange IPO

If you’ve been reading so far, the question you should be asking is: “Why in the love of love would I ever even consider investing into Sky Solar IPO?”

After all, given what I’ve written, Sky Solar seems to be yet another of those recondite, obsolete companies that loves to burn cash while playing on a hype. And the answer to your question is simple: because of the “strange IPO” and the reduced IPO price

Was Sky Solar attracting at $12? No, it’s going to crash under $10 within minutes of market opening. Is it attractive at $7? Quite possibly.

Sky Solar is not worth $604 millions (its original IPO price) no matter the way you looked at it. With roughly $146M in solar park assets and $36.4M in revenues from customers in 2013, you would have to be betting on the best management in the history of Solar energy and that’s simply not a bet I’m ready to make.

But at its lowest price, roughly ten times its (quickly-growing) revenues, it might be worth a bite. If anything, the price does look a bit low at $7, and you will probably be able to grab it for $6-$6.50. Is it still a gamble? Absolutely, but a gamble with far better odds. After all…

2) Growth, growth, growth, growth.

Sky Solar is the king of growth. Take a look at its prospectus once more:

skysolar-growth

Look at that: I think this is the fastest-growing solar company in the world. Sure, there is a little bit of malarkey there; for instance, instead of “shovel ready,” Sky Solar should have said, “Ready to begin construction.” I guess the other terms were a better seller. As far as we know, Sky Solar might never develop these sites or it might happen 10 years from now.

But let’s say it does. Let’s say Sky Solar somehow manages to build all of that, for a total production of 336.7 megawatts. In fact:

In addition to our existing operational project portfolio, we have nearly 1.2 GW of solar projects in various stages of development in countries such as Chile, Uruguay, Japan, Canada and South Africa, consisting of 4.6 MW under construction, 280.3 MW of shovel-ready projects and 858.6 MW of solar parks under development. We classify 546.6 MW of these solar projects under development as advanced or qualified and expect them to become shovel-ready projects within 12 to 18 months.

It should then become obvious to the reader than Sky Solar has tremendous opportunities for growth. The upfront cost is gigantic, obviously, but I believe that the company will eventually generate enough from its operations to cover the development of its future solar parks. For instance, if it fully grows its shovel-ready sites and fully manage to sell its electricity, Sky Solar will earn around $140 per year from energy sale (it is currently selling around $23M per year in electricity). I do believe that, at that level, it will be profitable. Furthermore, Sky Solar can access the debt market easily and at surprisingly low interest rates (because of governmental helps and pro-environment laws).

Were it to fully grow all of its project (a huge, huge supposition), Sky Solar would do over $750M in energy sale per year. At its current gross profit margin (revenues from electricy sales minus cost to produce electricity) of 42.5%, that’s $319M per year in gross profits. Even after expenses (marketing, administrative, interest, etc.), you are looking at a significant amount, and this excludes price increase, other sources of income, value of assets, etc.

So, in short, you are looking at very small, massively underdeveloped solar company that may one day become a major player in the energy world. And this, I like

3) There is no other good point

Sky Solar is a massive gamble with a huge chance of completely failing; it’s an average solar energy company with no sustaining cost advantage over its competitors, or at least none that I can see. There is just so much that could go wrong in that market. Energy prices could keep falling, gas prices could keep failing, its client could default (Sky Solar would be stuck with useless solar farms), laws concerning solar energy could change to be less generous, a competitor might develop a product at a lower price, it could face a severe liquidity risk, it’s in the midst of a massive transition that started less than a year ago and it faces a difficult IPO in a tough market for solar companies. Even if you are interested in investing in renewable energy, with many options already on the market (Opower, SolarCity, Vivint Solar, First Solar, …) and many more upcoming (Thai Solar, Bloom Energy, Sunrun, …), Sky Solar is less attractive. And with so many great IPOs coming in the following days (eHi Cars, Virgin America, Paramount Group,…), who would bother?

In the energy sector, my first choice would be midstream companies, with seemingly a new company behind launched daily (Antero Midstream, Shell midstream, Dominion midstream, Rice midstream and Navios midstream all did their IPO in the last month or are just about to do it), which are safer, better managed and more secure. But Sky Solar has something that no midstream company has: a decent chance to grow 1,000% in my lifetime.

Verdict: Would I buy into Sky Solar IPO? No, not at market opening. But close to the lowest bound of its pricing range ($7), or better yet a few nickels beneath it, sure. Sky Solar is a lottery ticket and I know of few solar energy lottery tickets that have been big recently. Still, the valuation is decent and should Sky Solar suceed, it will suceed as much as FirstSolar when it went from $20 to $300 in three years. I will be following Sky Solar minute by minute all day tomorrow, looking for an opening.

To be clear, I plan to put $2,000-$2,500 in it. So for me, it’s a $2,000 lottery ticket. Wish me luck!

 

UPDATE 11/11: Vivint just reported a huge loss and its stock is getting plundered. Sky Solar has postponed its IPO (again). It is now planned for tomorow morning, but in all honesty, I don’t think Sky Solar will become public anytime soon.

UPDATE 11/12: Sky Solar has now somehow planned its IPO for tomorrow morning, 11/13. Is it going to be delayed again?

UPDATE 11/13: IPO now official, and I got my lottery ticket. I bit at $8.12 per stock. 200 stocks total.

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