Protectionism Threatens to Cripple US Solar: Spotlight on Sunrun
Sunrun faces the unintended consequences of the US solar market's shift toward protectionism, a paradigm that can severely undermine the very industry it intends to protect.
The US International Trade Commission’s recommendation to institute tariffs on solar panel imports, ostensibly to provide relief to domestic manufacturers,1 inadvertently threatens tens of thousands of more jobs than it preserves by introducing supply chain frictions. At stake is a potential net loss of over 80,000 jobs in the US solar energy sector from industry behemoths and small mom-and-pop businesses alike.2 Through increased solar panel costs and reduced purchase activity, tariffs will—in addition to impeding crucial adoption of renewable energy technologies—weigh heavily on solar installers, most prominently Sunrun, the nation’s largest dedicated residential solar provider.3
Figure 1: Proposed tariffs render residential solar energy economically unviable in several US states4
Tariffs on Sunrun’s foreign manufacturers have significant consequences downstream in the supply chain, exacerbated by the highly price-sensitive nature of consumers of residential rooftop solar.5,6 In particular, to avoid compression of its gross profit margins, Sunrun will be compelled to pass its higher import costs along to its customers; this response, however, will make residential solar economically uncompetitive relative to drawing electricity from the grid in several states, should tariffs be instituted at the levels initially proposed.4 In the absence of the value proposition of saving money on utilities through solar adoption, customers overwhelmingly withhold purchasing and installing solar panels. Consequently, Sunrun’s addressable market of solar-viable rooftops in the US, under a protectionist policy regime, could shrink by upwards of 60%.7
Notwithstanding management’s public assertions of confidence in resilience of the business, Sunrun has a plan to mitigate downside risks. In the near term, the company reportedly intends to proactively manage its working capital, stockpiling inventory prior to the anticipated rollout of tariffs to reduce immediate exposure to increased costs.8 In the medium term, Sunrun is aggressively pursuing greater penetration of solar-viable markets while simultaneously publicly advocating to eliminate unfavorable trade policies.3,9
Figure 2: Declining solar costs have driven growth in Sunrun panel installations10–13
Although Sunrun faces capital costs associated with accumulating inventory, doing so reduces the need to purchase from suppliers later, in the immediate aftermath of a potentially sharp increase in solar panel costs.7,14 Over time as inventory depletes, Sunrun can also expect incremental, organic declines in industrywide solar panel costs due to ongoing technological improvements, consistent with the 14% compound annual decrease from 2010-2016.13 Building inventory upfront, beyond Sunrun’s typical 30- to 90-day stock, enables the company to delay subsequent purchases until the cost of the tariff is likely to be partially offset by lower material and assembly costs.7
Figure 3: Residential solar is underpenetrated in economically viable US states4
In the face of a potentially shrinking addressable market, Sunrun is concentrating its efforts on claiming a larger share, for example through a recently announced cross-selling and marketing partnership with telecommunications conglomerate Comcast.3 Management’s intention over the next several years is to capitalize on current under-penetration of residential solar, with under two percent of viable homes outfitted with rooftop panels.4 The company also intends to challenge policy hurdles legally, a strategy proven in the early 2000s, when steel tariffs were overturned under two years after being enacted.15,16
Beyond the actions already contemplated by management, Sunrun should position itself to benefit from market dislocation resulting from protectionist policies. Sacrificing gross margin in the short term would facilitate taking market share from competitors, and rebalancing production toward domestic manufacturers from overseas would reduce exposure to policy risk. Over time, Sunrun should pursue opportunistic acquisitions of competitors in distress.
Figure 4: Sunrun, a leader in the fragmented residential solar industry, maintains under 15% market share9
The landscape of solar installers is highly fragmented, and small-scale businesses with weaker balance sheets, less access to cash, and a higher cost of capital may be particularly challenged in the case of significant tariffs. As less resilient competitors retreat, Sunrun has a unique opportunity to acquire more customers through competitive pricing. Management should simultaneously focus on developing US manufacturing partnerships in response to heightened costs of imported panels and the likelihood of continued governmental accommodation of domestic manufacturers; vertically integrating with a manufacturer could also counteract unfavorable trade policy.
The prevalence of small, local installers that could become uncompetitive due to isolationist headwinds creates potential for accretive consolidation. The top three players in residential solar (Sunrun, Solar City, and Vivint Solar) account for approximately one-third of the industry, whereas the “long tail” of the market extends into hundreds of independent solar installers with narrow geographic expertise.7 Sunrun should aggressively expand its geographic footprint by acquiring attractively priced businesses as they come to market.
As the policy debate evolves, it is incumbent upon management to actively evaluate and adapt its approach. Confronted with adverse trade policy, how should Sunrun balance attention on its existing business with opportunistically taking share from distressed competitors? To what extent should it modify internal processes and cut costs? (800 words)
- United States International Trade Commission. Crystalline Silicon Photovoltaic Cells (Whether or Not Partially or Fully Assembled into Other Products). https://www.usitc.gov/press_room/news_release/2017/er0922ll832.htm. Published September 22, 2017.
- Mooney C, Mufson S. Solar Industry Roiled by Trade Ruling That Some Fear Could Lead to Tariffs. The Washington Post. https://www.washingtonpost.com/news/energy-environment/wp/2017/09/22/solar-industry-roiled-by-trade-ruling-that-some-fear-could-lead-to-tariffs/?utm_term=.d051be369bd0. Published September 22, 2017.
- Sunrun and Comcast Enter Into Agreement to Offer Residential Solar Program. https://www.sec.gov/Archives/edgar/data/1469367/000162828017008843/exhibit991.htm. Published August 24, 2017.
- Perea A. Q1 2017 Update: The State of Distributed Solar. In: Washington, DC: National Conference of State Legislatures; 2017. http://www.ncsl.org/Portals/1/Documents/energy/solar_workshop_Austin _Pereaa_present_6_2017_31424.pdf.
- Sioshansi FP. Innovation and Disruption at the Grid’s Edge: How Distributed Energy Resources Are Disrupting the Utility Business Model. London, UK: Academic Press; 2017.
- Creutzig F, Agoston, Peter; Goldschmidt JC, Luderer G, Nemet G, Pietzcker RC. The Underestimated Potential of Solar Energy to Mitigate Climate Change. Nat Energy. 2017;2. doi:10.1038/nenergy.2017.140.
- Karp, Sophie; Pourreza, Shahriar; Hennelly, Eugene; Feng, Shaowei; Ciciarelli R. Sunrun Inc. Guggenheim Secur Res. July 2017.
- Spector J. Sunrun Aims to Prove Solar Installers Can Grow and Make a Profit at the Same Time. Greentech Media. https://www.greentechmedia.com/articles/read/sunrun-aims-to-prove-solar-installers-can-grow-and-make-a-profit-at-the-sam#gs.QF5yzGg. Published November 13, 2017.
- Sunrun. Investor Overview Presentation – September 2017. http://investors.sunrun.com/static-files/4b4ca882-be69-4ecf-97ae-c1e064f296ab. Published 2017.
- Sunrun. 2016 Form 10-K. San Francisco, CA
- Sunrun. 2015 Form 10-K. San Francisco, CA
- Sunrun. Form S-1. San Francisco, CA; 2015.
- Fu R, Feldman D, Margolis R, Woodhouse M, Ardani K. US Solar Photovoltaic System Cost Benchmark: Q1 2017. Golden, CO; 2017. https://www.nrel.gov/docs/fy17osti/68925.pdf.
- Karp, Sophie; Pourreza, Shahriar; Hennelly, Eugene; Feng, Shaowei; Ciciarelli R. Unpacking Suniva’s Section 201 Complaint: LCOE and Industry Impact. Guggenheim Secur Res. May 2017.
- Tran M. Bush Lifts Steel Tariffs to Avert Trade War. The Guardian. https://www.theguardian.com/world/2003/dec/04/usa.wto1. Published December 4, 2003.
- United States – Definitive Safeguard Measures on Imports of Certain Steel Products. Geneva, Switzerland; 2003. https://www.wto.org/english/tratop_e/dispu_e/cases_e/ds252_e.htm.
Very interesting both the negative (reduced margins and viability) and positive (erosion of smaller competitors) effects that isolationist policies will have on Sunrun. Upfront increases in stock-keeping seem to be an effective approach here – and I would additionally think that it might be reasonable not only to engage in partnerships like the Comcast partnership, but also to upfront more marketing costs to the present while the product is more viable. This will help them pursue the strategy of aggressive penetration you mentioned and also allow them to realize continued benefits of brand-building and program-building later on when tariffs force the company to run leaner.
Because the tariff indubitably reduces the customer economics for installing rooftop solar and consequently the aggregate demand for new solar installations, it is only logical that Sunrun rationalize current the organization and the cost structure that were built for a bigger market opportunity.
However, the suggestion regarding Sunrun to go on the offensive with regards to market share and opportunistic acquisitions even as the broader market shrinks is not without significant risks. First, Sunrun’s core business is highly capital consumptive and thus requires capital markets to continually finance the new portfolio of its customer contracts. However, capital markets get affected by a number of macroeconomic variables, resulting, sometimes, in freeze in financing available. Thus Sunrun, if were to go aggressive on market share and acquisitions, will need to have a deeper war chest and longer capital plans in place. Second, Sunrun’s margin is tied to not only what it chargers to the customers but also how the capital market values its customer contracts. Margin, especially if the residential solar industry is in distress, needs to be managed on both sides. Third, it’s unclear what buying small installers in the US will give to Sunrun that it already doesn’t have. Most small installers are regional sales and marketing organizations that routinely sell off the customer contracts they generate. So acquiring those players won’t give much operating leverage as the customer contracts would likely have been monetized. Additionally, Sunrun, being a national player, already has a sales and marketing presence in most of the attractive regional markets.
I would think Sunrun takes on a massive risk in increasing US inventory prior to new tariff introductions. Although solar cell efficiency is improving rapidly, the exact rate of improvements vary greatly (and are also partner and technology dependent). For an inventory strategy to pay off, Sunrun would need to hit a sweet spot where existing inventory is big enough to carry them through to a relevant solar cell cost improvement, but not at a size where Sunrun risk sitting on old/less attractive inventory.
As a second point, I assume that residential energy storage will shift the economic viability of solar installations in several states. This will depend on feed-in tariffs per state (I don’t think figure 1 accounts for that?). An emphasis on energy storage can boost sales of the Sunrun Brightbox (the company’s energy storage system) but might also spur on more aggressive competition from fex. Solar City, which provides a turnkey solution for residential solar installations and energy storage via the Tesla Powerwall.
Under the current regulatory environment, Sunrun and their competitors are hamstrung in how much they can grow their current business. As such, I think it is inevitable that consolidation in the space occurs and it would be wise for Sunrun to aggressively acquire assets of distressed competitors until there is a fundamental shift in government policy. As these firms continue consolidate and scale, they will gain more political power and should continue to push governments for solar friendly legislation. I firmly believe government imposed tariffs and utility imposed surcharges are thwarting the growth of solar in the US, even as tax credits and other government incentives try to make it appear otherwise. I believe in large part this is due to the push back of quasi-government owned/run utilities that have large holdings of debt backed assets financed with debt. As a society, if we really want to embrace renewable energy, we will need lobby for legislatures to push back against the large utilities or enact additional subsidies for solar power generation to make it cost effective for more Americans.
I agree with Kristina’s concerns with the risks of building significant inventory, given the unpredictable nature of improvement in solar panel technology. I can also envision an extreme downside scenario, in which Sunrun builds up significant inventory of solar panels that rely on current technology, and then the technology improves significantly faster than expected. This will result in Sunrun having incurred the significant costs of excess inventory and then potentially not being able to sell and install the inventory because it is relatively more expensive or less efficient than updated technology. That said, I think an inventory build-up strategy may be one of the “least bad” options Sunrun has in this time of political uncertainty.
In addition to protectionist trade policies, I think Sunrun should be very focused on net metering policies and should remain in active dialogue with elected officials on this topic. In many states across the US debates about the merits of net metering and the appropriate economics that residential solar customers should receive for sending excess energy into the grid are ongoing, and many states currently do not have net meting agreements in place at all. The ability for residential solar customers to flow excess energy into the grid and be compensated for doing so is critical to make residential solar economic. I would be curious to see a comparison of the economic impact of the tariffs described in this paper to the potential impact of unfavorable net metering policies.
Fantastic article on the effects of isolationist policies on the solar market in the US, as expected from an acclaimed Harbus contributor.
While I think you pose some fantastic pro’s and con’s on the impact of tariffs on importation of solar products for Sunrun, I’d be interested in understanding better what advantages the tariffs pose for the US solar market holistically. Additionally, I wonder what impact things like net-metering and subsidization of solar products has on the market as well. Subsidization has an obvious effect of reducing upfront costs of solar installations for consumers; but through net-metering, households could sell back electricity they produce to the grid – further reducing cost of ownership to the consumer.
If legislatures can offset the negative impact of tariffs with more beneficial legislation for the solar industry such as net-metering and further subsidization, I would think the end consumer may see additional benefits beyond what they observe today.
Great article! I was able to understand how tariff influence economics of domestic players in an opposite way. I also understood solar panel markets are immature and fragmented. I thought that Sunrun might capture opportunities under the tariff-oriented policy.
The manufacturing process of solar panels is very similar to that of semiconductors. By cutting wafers as delicate as possible, manufacturers produce panels. In this process, both use a vast amount of materials, leaving by-products that can make serious negative impacts on not only humans but also environments. Many employees in undeveloped countries have been exposed to such a risk. In addition, solar panels are consist of some toxic materials, such as PV films. Since the industry is still in a beginning stage, such materials have not been managed.
Tariffs can be used to cease price-centric competition among manufacturers and to incentivize them to be equipped with the environment-friendly system. I recommend Sunrun, the market leader with capitals, could internalize the manufacturing or at least control factories abroad strictly, differentiating themselves from competitors.
Another potential solution for Sunrun to maintain its addressable market for solar-viable rooftops in the US is to focus on the bottom of the supply chain, the customer. Recognizing that Sunrun will likely pass its higher import costs along to its customers in order to retain margin, Sunrun should consider lobbying government for an increase in the federal solar tax credit. Currently, the tax credit allows consumers to deduct 30% of the cost of installing solar energy systems from their federal taxes [1]. Homeowners will be able to deduct 22% of the cost in 2021, with the residential tax credit expiring in 2022 (owners of new commercial solar energy systems will enjoy a permanent 10% credit) [1]. Sunrun should convince Congress to increase this credit and extend it, at least until technological improvements encourage declines in solar panel costs. Further, Sunrun could increase the impact of the tax credit by lobbying for additional credits with state governments. With the benefit of tax credits, Sunrun’s customers could see little to no change in the end price they pay for solar panels, allowing Sunrun to mitigate its potential 60% loss in market.
[1] “Congress extends solar tax credit – everything you need to know about the federal ITC,” EnergySage, March 12, 2017, https://news.energysage.com/congress-extends-the-solar-tax-credit, access December 2017.
Very interesting article! The interesting dynamic of tariffs intended to “protect” a market in fact destroying that market may underlie the true intentions of such a policy under the Republican administration. Disturbingly, the resulting damage from these protectionist moves may even contribute to a continuing narrative of the decline of the solar industry, providing the mandate for yet more destructive protectionism. The main strategy for Sunrun should be to consolidate the weaker players during this protectionist wave. Also, efforts in the direction of vertically integrating the supply line would allow Sunrun to compete despite political headwinds. In the long run, Sunrun should bide its time for a more friendly political atmosphere.
Is there a silver lining for Sunrun in that this may create a window where the largest players have the scale and resources to outlast the smaller smaller names that will be forced into bankruptcy by the tarriff, a sort of industry consolidation by evolutionary elimination vs by M&A? Does it also force Sunrun into discovering which of its customers for moral reasons have greater price inelasticity and will insist upon purchasing solar panels even when the price is not competitive with fossil fuels? Can Sunrun actually be even more aggressive in the short term and buy up inventory of cheap foreign solar panels (while they still can) not just for themselves but to also sell to competitors at a profit?
Great article Sumit! Fascinating take on the affect of isolationism on a industry that is already significantly influenced by government policy.
I agree with Kristina and EMC that a risk of stockpiling solar panels is the potential for obsolescent inventory due to rapid technology developments. The greater concern for me is the effectiveness of this risk mitigation strategy. What impact does doubling inventory have in the face of economically destructive tariffs? It allows Sunrun to operate for three more months. After that, as Sumit has stated, price-sensitive homeowners will not purchase solar. At the glacial pace of legislation and government policy, putting the business on life-support for three months does not meaningfully make the horizon of Sunrun any brighter.
Thank you Sumit for the great article! I do stand with you for opposing the tariff which increased frictions and posed threats to the downstream players and the adoption of solar energy. Back in 2012-2013, when I worked in Berlin for a solar consulting firm, there was a “serial bankruptcies” including 20+ solar module manufacturers in Germany simply because they cannot compete in price with the Chinese solar module manufacturers – and I think the US government imposed the “double tariff” on Chinese solar modules after witnessing what happened in Germany. But if we look at what happened in Germany next – was that the industry was forced to transform to be more downstream focused – in project development and operation and maintenance. This is exactly where I see the future of solar industry should go – a centralized upstream and localized downstream market landscape – thus while this article is mainly concerning about Sunrun, I’d say the upstream players (such as First Solar) are facing even bigger threats, and all US players shall strategize on how to be better suited in the centralized upstream and localized downstream future.
Thank you for the great read Sumit. I think you perfectly pointed out the benefits and costs of protectionism in an interesting way. Moreover, I was wondering whether or not the price of the imported solar panels is higher or lower than their domestic counterparts (not to mention their relative efficiencies in converting solar energy to power). And because of this policy, there presents a good opportunity for Sunrun to vertically integrate upstream. Perhaps, acquiring Solar panel manufacturer might be a good action plan for them as reshoring has been something that the President has been focusing on. I would love to hear what you think about this.