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Sunrun is 'most compelling clean energy stock,' analyst argues

Stephen Byrd, Morgan Stanley Head of North American Clean Tech Research joins the Yahoo Finance Live panel to discuss Sunrun and why Morgan Stanley says the stock is the most compelling clean energy stock.

Video transcript

AKIKO FUJITA: Clean energy stocks have taken a turn this year after posting big gains in 2020. iShares S&P Global's clean energy ETF down about 20% year-to-date compared to being up about 80% or more than 80% last year. Our next guest says Sunrun offers a compelling investment case in the space. And he's got a price target of $91 a share.

Let's bring in Stephen Byrd, head of North American Clean Tech Energy, or Clean Tech Research, at Morgan Stanley. He joins us on the phone today. Stephen, it's good to talk to you. I'm looking at where the shares are trading right now for Sunrun, $51 a share. You've got it going to $91 at a time when we've already seen the stocks down about 24% this year. So how do you see things turning around?

STEPHEN BYRD: Yeah, a few things that we think really drive excellent growth here at Sunrun-- Sunrun fundamentally is a beneficiary of a number of megatrends-- we have rising utility costs while clean energy costs are dropping. Storage costs are dropping. We have great reliability impacts, and that means more consumers are going to want to have power in their own hands, in their own control. And consumer demand for clean energy is very strong.

So they're really on the right side of a lot of trends. The company's guided to 25% to 30% growth this year. So we're forecasting, basically, very good growth in the future. And every year they basically accrue a great deal of additional value from new customers they sign up, about $8,000 to $9,000 per customer they sign up.

ZACK GUZMAN: Yeah, and Stephen, when we look at this space, it's kind of come under pressure over the last few months just because it had run up quite a bit. I mean, how much of this call is maybe tied to a reversal of that trend? I mean, it sounds like right now-- we had that Ford deal this week to come in and buy electrified here, as they kind of maybe focus in a little bit more on the EV space, sustainability piece of the business. I mean, what are you predicting maybe sector-wide to turn things around here too?

STEPHEN BYRD: You know, the Ford point is an important one. We do see a convergence between the electric vehicle market and rooftop solar, and we are very excited about the agreement that Sunrun forged with Ford. Just to give you a sense for how powerful that could be-- because, you know, the preorders for the Ford Lightning are over 100,000. And for Sunrun, if they can convert some of those Ford Lighting customers into rooftop solar customers, which we think they can, that can have a really big impact for Sunrun.

Sunrun is still a relatively small stock, small company. So for example, if 10,000 of those 100,000 Lightning customers decide to go with Sunrun for rooftop for their home, that would add about $9 a share to our valuation, on a base of $91. That's very significant. We just-- we think that convergence will continue for many years to come, and we're excited about that. I think that could be the single biggest driver.

But other drivers certainly are just the same things we've been seeing, greater consumer desire for better reliable power, very clean power. We're going to see grid reliability issues here in California, Texas, many other markets. So the more we see grid instability, I think, the more consumers are going to want to go with rooftop solar and energy storage.

AKIKO FUJITA: Stephen, we were showing some of the other solar names that are trading. Certainly, it feels like this is a space that is getting increasingly crowded. What differentiates Sunrun from the rest of the pack?

STEPHEN BYRD: Great question. We focus a lot on barriers to entry here. Sunrun is the largest rooftop solar player in the United States by a wide margin. A lot of their competitors are very small developers, and so Sunrun has a number of advantages. One is certainly brand. But also, their ability to design and install is superior. They buy way more panels than the smaller developers, so their costs are a lot lower.

And then actually, in this business financing is actually an advantage. So Sunrun will package together tens of thousands of customer contracts into large asset-backed debt financing. And that has come in at very low cost. The last deal that Sunrun did for ABS debt was below 3% cost. That's a really big deal that smaller companies really couldn't replicate. So we do think those types of scale advantages will lead to better profit for Sunrun.

ZACK GUZMAN: I think-- you know, I'm just looking over your note here too, Stephen, and the one that kind of stands out to me here as just simple to understand, is when you're looking at kind of the pricing structure right now around Sunrun, saying it reflects six years of continued operations and then after that, basically assumes the company will just go out of business, not really factoring in the upside after that. I mean, why do you think that's where the market's at right now, on a name like this? And maybe does it speak to what Akiko was asking about, the increased competition, that some of these companies are going to have to go out of business?

STEPHEN BYRD: Yeah, it's interesting. You know, we've frankly seen a lot of what I think of as technical dislocation in clean energy. A lot of stocks have fallen for really not fundamental reasons. We've got a lot of, frankly, carnage among our investor base. I'd say the biggest fundamental concern certainly is rising interest rates. And there's the basic idea that as interest rates rise then Sunrun's cost of financing will rise and, therefore, their margins will drop. And we do accept that that's definitely a key issue to think about.

That said, Sunrun's cost of debt is dropping not rising, and that's because the debt market's getting more comfortable fundamentally. But you're raising a good point about competition. I mean, we do think later in the decade there will be more competition. Today, the penetration level for rooftop solar is just 3%, so there really isn't a lot of head-to-head competition. In our modeling we do, later in the decade, reduce the margin per customer because we do think there will be more competition.

That said, there are hundreds and hundreds of smaller competitors who would go out of business. If Sunrun's margins fall a bit, their margins would fall much, much more just because they don't have the kind of advantages of scale that Sunrun has. So we do agree that over time competition should lower margins. Margins are exceptional now, and we're not sort of factoring that in or assuming that in the long term.

AKIKO FUJITA: Stephen, how do you calculate the supply chain risks? There's been a lot made about the over-reliance of the solar industry on China. You look at a name like for solar, which is a lot more contained within North America, where does-- how do you calculate that as a headwind for Sunrun?

STEPHEN BYRD: You know, we've looked at that for a number of our companies. It's interesting, the larger developers, whether it's Sunrun or NextEra, a few other companies we cover, have done a really good job of hedging and sort of locking in pricing for an extended period. Smaller developers we know that have not done so are suffering quite a bit. We do think Sunrun is in very good shape from a hedging point of view.

Now that said, we do think some of these price escalation issues, especially for solar, will persist into 2022. That said, what's interesting is Sunrun has been consistently dropping their costs by about 6% a year. And every year, I take California, the utility grid costs rise about 4% a year. So this wedge, which I think about sort of rising utility costs, dropping some of the costs, will continue.

One example, we were speaking with management last week at Sunrun, and they're getting better and better at installation. They're getting more efficient. So their installation costs continue to drop quite nicely, even as equipment costs, maybe next year, post hedging, could go up a little bit. I do like that.

One area that's a really big supply chain issue is energy storage. Sunrun's growth in storage this year will be about 100%. It would be much higher if they could get their hands on more storage. Now, that's a high class problem, 100% it's not bad. But it would be much higher if the company could actually get more storage. So that strikes us as a real issue throughout the sector. Demand for storage is just off the charts, and we don't have enough product.

AKIKO FUJITA: Stephen Byrd, head of North American Clean Tech Research at Morgan Stanley, good to talk to you today.