The Market Still Has Legs To Run: 6 Names That Will Stand To Benefit The Most


This article is written by Euphoric Investment authors Austin Weiermiller, Youbeen Baek and Zach Thomas.

Overview

Virtually every interaction we have as humans has been flipped on its head due to the effects of COVID-19. Popular upticks in working from home, social distancing, and limited traveling are all substantial trends that we feel. At the market lows of March 23rd, the S&P bottomed in 2020 at 2,377.44. From those lows, the S&P has since recovered over 30% in market value. A question many investors are asking is – Do the markets still have legs to run?

We fully believe that there is plenty of gas left in the market’s tank despite the sentiment around this pandemic.

The Spanish flu, 9/11, SARS, and other black swan events all have one thing in common when it comes to the market: Wall Street is resilient! Following the 11 worst performing quarters in S&P 500 history since 1990 (Q1 2020 being the worst quarter in market history), the market has shown an average return of 7% in the subsequent quarters (see figure 1 below). Airlines, banks, and oil companies have all withstood the test of time, yet the markets have priced in what it believes is the end of the road for these cyclical sectors. Legendary investor Bill Miller put it best in his interview on CNBC stating “if you are betting against airline stocks, you are in turn betting against a vaccine.”

Figure 1 (Source: CNBC)

In terms of an overall strategy, our portfolio has been evenly divided into two sub-sectors that we have referred to as “More Room for Growth” companies and “Guilty by Association” stocks/indices.

We define “More Room for Growth” as companies that have benefited immensely from this COVID-19 environment, and the market has priced these stocks back to pre-COVID levels seen earlier this year. Yet, these three names we have picked have more growth ahead not only for the rest of 2020 but also in the years to come.

For our “Guilty by Association” sub-sector, we identified these industries (casinos, real estate and financials) as some of the hardest hit due to this change in consumer behavior. All three of these stocks/indices are dramatically undervalued as they have been impacted by uncontrollable circumstances. Whereas our first sub-sector highlights more room for growth, these names illustrate a comeback to previous levels that we saw in early 2020. Pent-up demand is the driving force behind this sub-sector, and we believe that these three names will show resilience not only for the rest of 2020 but also in the long term as the entire world returns to a new version of normal.

Above is a chart of our portfolio’s cumulative returns on 5/19 in comparison to the S&P’s returns on the same day.

As a result of COVID-19, the markets have been deeply entrenched by this black swan event that has so adversely impacted many Americans. Our goal is to create the most alpha through these six securities and indices despite shelter in place being a major concern of Wall Street analysts. We want to take advantage of these six investments and this is why.

“More Room for Growth” Companies

The Boston Beer Company, Inc. (SAM):

  • Sales increased 36% in Q1 2020 (YoY).

  • The company has increased advertising/marketing capex in efforts to increase consumer demand for the upcoming Summer season peak.

  • An increase in sales (up to 20%) in 2020 is expected as the company has resolved supply chain issues.

As COVID-19 has limited our ability to continue our normal daily lives, many have experienced an abundance of leisure time. From that, alcohol sales have increased by 55 percent within the United States. The Boston Beer Company, also known as the founding company of various alcoholic beverages including Samuel Adams, is one of the most popular brands in the industry.

In early 2016, Samuel Adams released a new and unique line of low-calorie, light tasting beer – Truly Hard Seltzer. With the private company White Claw pioneering the recent hard seltzer trend, Boston Beer Company decided to launch its brand Truly, as the second player in this market space. Since then, Truly has returned Boston Beer to its growth days of 2012 to 2015. Boston Beer is exhibiting record sales and growth due to the popularity of Truly. From its most recent 10-Q, CFO Bill Urich stated that “Depletions increased 36% from the comparable 13-week period in the prior year” due to the popularity of Truly Hard Seltzer in the last 12 months.

During 2017 and 2018, the company faced supply chain issues as the demand for Truly seltzer rose. Specifically, the sleek can manufacturing companies could not keep up with the increased demand. Since then, the Boston Beer Company has fixed its production problems and increased its depletions/shipping by 36 percent Q1, which will contribute to the possibility of increasing its overall growth by 15 to 25 percent in 2020 sales.

In order to compete with others in the hard seltzer industry, the Boston Beer Company has increased Advertising, promotional, and selling expenses by $26.2 million (total of $97.9 million) compared to Q1 2019 ($71.7 million). By doing so, the company expects to increase sales during its peak season and make its line of Truly the ultimate Summer season hard seltzer. According to calculations based on the 10-K reports of 2019, a dollar spent in marketing equates to a profit of 3.704 (marketing ROI of 1:3.704).

Overall, the alcohol industry is undeniably growing because of stay-at-home orders and the Boston Beer Company is leading the way. The recent overall preference of hard seltzers and the success of Truly will grow beyond measures in the future. Every year since its launch in 2016, Truly has claimed a market share of about 30 percent in the industry. Coming in second behind White Claw, Truly has managed to stay as one of the top hard seltzer brands despite manufacturing issues and competition from other alike substitutes.

Fortinet, Inc. (FTNT):

  • Fortinet has had a growth in operating income of 56% YoY.

  • FTNT expects its revenue to be in the range of 590M to 605M in Q2 of 2020, which would be an increase in revenue of 2.27% to 4.87% from Q1 to Q2.

  • Fortinet has seen a 17% increase in viruses and cyber attacks in January, a 52% increase in February, and a massive 131% increase in March compared to the same months in 2019.

Source: Check Point Research highlights the parabolic increase in relation to COVID-19 shelter-in-place legislation.

Due to the current stay-at-home orders issued in virtually every corner of the world, people have resorted to communicating via platforms like Zoom and Skype. In addition, computer usage has increased as billions now work at home. This has opened up a whole new world for cybercriminals to take advantage of the sudden surge in computer usage, and these hackers are here to stay.

Fortinet has stated that it has seen a drastic increase in cyber attacks in the past 3-4 months. Fortinet claims that in Q1 2020, it has seen a 17% increase in viruses and phishing attacks in January, a 52% increase in February, and a 131% increase in March, in comparison to the respective months in 2019. This means that as more people become exposed to these cyberattacks, they are going to look to companies to protect their information and intellectual property. The question becomes this: which cybersecurity company will be in the best position to take advantage of this paradigm shift in demand?

We believe that Fortinet is the company that will benefit and capitalize the most from the unprecedented need for cybersecurity. Fortinet has posted a growth in operating income of 56% YoY. Fortinet is also issuing guidance in its Q2 income growth to be in the range of 2.27% to 4.87%. The crossover between the shelter-in-place legislation and the current 2020 election year underlines the need for cybersecurity and emphasizes the importance of cyber-related protection. The current state of our unique environment highlights the potential growth that could be enabled by adding cybersecurity based security into an investor’s portfolio, and our group’s research states that Fortinet is undeniably the top pick.

Match Group, Inc. (MTCH):

  • ARPU (Average Revenue Per User) is up to an average of .59 cents.

  • Average subscribers for Match Group have increased 15% YoY to 9.9 million users.

  • The stock price is still 18% off its 52 wk. high.

The Match Group is arguably one of the biggest players when it comes to online dating. Shelter-in-place legislation, while it is highly dependent on the state, has forced people to turn to this platform as an outlet for finding a significant other. While many believe that the market has already priced in this company’s growth potential to future users, we feel as if its financials tell a drastically different narrative.

The Match Group has been undoubtedly dominating the online dating market by showing an increase in ARPU (1% overall with a 5% increase in the US) as well as the number of average subscribers (15%) YoY. As a result, the company’s Q1 earnings report highlights a diluted EPS increase by a staggering 31%. This directly correlates to Match Group’s performance from a revenue and net income standpoint. We see no roadblocks or barriers as to why these numbers would come to a halt in the near or long term, making this company a true beneficiary to this atmosphere that COVID-19 has created.

Source: The Match Group, Inc. Q1 2020 Earnings Report showing key metrics such as APRU increases and total average subscribers increases.

As far as the bigger picture is concerned, TTM revenues of $2.13 billion paired with revenue growth just shy of 20% illuminate why this company is a noteworthy investment. Combined with ARPU and average subscriber gains, this company is poised to continue growing at an unprecedented rate. We see no reason prohibiting this company from revisiting its 52 wk. high of $95.32 that it had previously reached on January 13th before the COVID outbreak in the United States and visiting newfound stock prices that this market has never experienced.

“Guilty By Association” Companies/Indices

Wynn Resorts, Limited (WYNN):

  • International revenue in Macau shrank from 76% in Q1 2019 to 50% in Q1 2020.

  • Macau is poised for a quicker restart than the US as China was impacted by COVID-19 in late 2019.

  • Estimated tourist arrivals in Macau are expected to increase from 140,000 by the end of Q2 2020 to 3,162,000 in 12 months’ time, a 2,158% increase.

Source: Trading Economics highlights how tourists in Macau will eventually surpass normal levels.

When Americans think of casinos, they think of the gambling capital of the United States: Las Vegas. While large casino companies have exposure in Vegas, copious amounts of revenue stem from a completely different beast: Macau. Gambling revenue in 2019 from Macau reached $36.5 billion whereas Vegas gambling revenue in 2019 came out to roughly $6.59 billion.

Wynn Resorts stands to benefit the most from this global pandemic environment. This company only has two properties in Macau compared to five properties that competitor Las Vegas Sands (LVS) owns, yet Wynn makes significantly more revenue per casino in Macau than LVS does ($244.5 million in Q1 2020 compared to LVS’s $162.8 million). When Macau’s tourist arrivals stimulate to levels that we have seen in the past, Wynn will ultimately be the lead beneficiary.

Second, Wynn’s COVID-19 response, which is encapsulated in a 28-page lengthy document, is now being adopted by rival casinos everywhere. Being the first casino to close its doors in the US, Wynn appears to be in the lead yet again in terms of reopening. Social distancing guidelines, taking every guest’s temperature, and even changing floor plans to accommodate this new environment is in the works for all Wynn properties.

Since Macau’s casinos officially opened their doors for business on February 20th, the stock’s price has been down 40%. The stock has ample room to grow as Macau, Las Vegas and now a new property in Boston see guest numbers return to normal in the near future.

iShares Mortgage Real Estate Capped ETF (REM):

  • This ETF is down 58% from its 52 wk. high.

  • Mortgage rates have reached an all-time low.

  • We are forecasting a full recovery in the next 12 months with a surge in demand for new home buyers.

The symbol REM represents and tracks the Mortgage Capped Index which is composed of the US Real Estate Investment Trusts (REITs). The underlying index measures and tracks the performance of residential as well as commercial real estate markets.

Investing in this ETF gives this portfolio direct exposure to the domestic real estate markets, and REM is down 58% from its 52-week high and 52% YTD. The 30-year mortgage rate has reached 3.26% this month, an unprecedented decrease of 26% YTD that this market has never seen. Shifts in consumer behavior have been noteworthy as the United States’ new home sales have depleted 15.38% from February 2020 to March 2020. Yet, the consistent theme of this half of our portfolio is how COVID-19 will ultimately boost certain sectors in the future that haven’t reaped the certain momentum swings of other beneficiaries.

Source: The Mortgage Reports emphasizes how low the current mortgage rates are in comparison to recent years.

If anything, this virus has nudged America towards a world where cities are not at a high premium to live in. Working from home can now be done from the comfort of your own living room, not the high rise office that is a 45 minute commute (without traffic presumably). Densely populated cities such as New York have become a petri dish for the coronavirus and future diseases to take effect.

These low mortgage rates combined with the index 52% off its January 2nd price, as well as a sentiment shift in home buyers moving from cities to suburbs, lead us to expect the index to make a full recovery in 12 months time.

Citigroup Inc. (C):

  • C is currently trading at a .55X price/book ratio.

  • Citigroup’s book value per share has the highest disparity amongst the four biggest banks.

  • This bank has the highest TTM revenue growth out of its competition.

Source: Macrotrends graph above illustrates book price, book value per share, and price to book ratio of Citigroup Inc.

Financial companies have been one of the hardest hit industries by the COVID-19 pandemic. Yet, we expect Citigroup’s revenues and net income statements to tell a different story that would not suggest a 50% selloff in this sector. C gives investors the most upside in the financial industry in terms of growth for various reasons consisting of revenue growth, price/book ratio, and book value per share.

The big banks we are looking at are JPMorgan (NYSE:JPM), Bank of America (NYSE:BAC), Citigroup, and Wells Fargo (NYSE:WFC) (four biggest banks by market cap). When we compare all four of these companies in terms of revenue growth TTM, the bank that stands out amongst the rest is C, with revenue growth coming in at -2% which far outweighs its opposition. Yes, we are celebrating negative revenue growth.

The other metric that is key when it came to our analysis of choosing Citigroup amongst the bank sector was the price/book ratio. C is currently trading at an astounding .55X price/book, the lowest ratio by a considerable amount compared to the four biggest banks.

As a result, this transitioned into our last statistic which led us to arrive at our conclusion of holding equity in Citigroup: the book value per share. This measurement allows us to dive deeply in regards to overvaluation or undervaluation of a company’s stock price. Citigroup’s book value per share has undoubtedly the highest disparity amongst its actual real-time stock price which led us to believe that this bank is the most undervalued amongst all of its competitors. Citigroup’s book value per share is currently at $71.52 while its stock price is trading slightly over $45.

Wrap-Up

As exhibited in the article above, we have emphasized the impact of our portfolio research by citing the incremental difference between our security collection versus the actual S&P rate. In light of our presentation, we hope that investors and readers consider our recommendations, see the value, take note of the potential growth, and include the companies listed above to their own portfolio during this season in order to positively impact their investments choices. Our group emphasizes the high worth of the companies listed above, and we hope that investors find light during this uncertain season by investing in what we believe is the ultimate portfolio.

This is our blueprint for how to generate the most alpha in relation to the S&P 500. In our articles to come, we will show how more alpha can be generated by looking at specific sectors that can be heavily disrupted due to recent events.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.





Original source link

Justin Amash nixes 2020 presidential run as third party candidate


Michigan Rep. Justin Amash has announced that he will not run for president as a third party candidate, CNN reported Saturday.

“After much reflection, I’ve concluded that circumstances don’t lend themselves to my success as a candidate for president this year, and therefore I will not be a candidate,” he tweeted Saturday.

The Republican-turned-independent said in early April he was looking “closely” at a bid as Libertarian Party candidate, after he stopped actively campaigning for his House seat in February while he considered jumping into the presidential race.

The move brings to an end to his extended flirtation with a third-party candidacy that could have introduced a new element of uncertainty into the race between President Donal Trump and former Vice President Joe Biden, according to the New York Times.

He came into the national spotlight last May when he announced his support for impeaching President Trump over the findings in former special counsel Robert Mueller’s investigation into Russian interference in the 2016 election. He was the first and only House Republican to support impeachment, eventually voting for both articles of impeachment against the President as an independent late last year.

Amash left the Republican Party in July 2019 after writing in a Washington Post op-ed that he had grown “disenchanted” with party politics, becoming the first GOP member on record to declare that Trump had engaged in impeachable conduct.

In a series of tweets on Saturday, Amash said the decision to drop out was “difficult,” but that he “believes a candidate from outside the old parties, offering a vision of government grounded in liberty and equality, can break through in the right environment.”

“Polarization is near an all-time high. Electoral success requires an audience willing to consider alternatives, but both social media and traditional media are dominated by voices strongly averse to the political risks posed by a viable third candidate,” he added.

The Libertarian Party, he added, “is well positioned to become a major and consistent contender to win elections at all levels of government.”

“I remain invested in helping the party realize these possibilities and look forward to the successes ahead,” he said.

He was facing a tough reelection in Michigan’s 3rd District. National Republicans were eager to defeat him, and several Republicans have been running for the seat.

Amash was first elected to represent Michigan’s 3rd Congressional District in the 2010 “Tea Party” wave.

The Michigan congressman is the son of a Syrian immigrant mother and a Palestinian refugee father. Before entering Congress, he worked as a lawyer for his family’s business and served a term from 2008-2010 in the Michigan state house.

Over the years, Amash has been consistently willing to take controversial votes according to his view of limited government, often being one of the only House members to vote against legislation with broad bipartisan support, such as an anti-lynching bill in February.

In 2015, Amash was one of the founding members of the House Freedom Caucus, an influential group of hardline conservatives that clashed with House Republican leadership and pushed for a more open legislative process and curtailed federal spending.

Amash has repeatedly told reporters he would only run for president if he believes there is a path to victory. In March 2019, he told CNN he never stops thinking about possibilities like running for president “because there is a big problem with the current two-party system we have, and someone has to shake it up.”

Amash explained on Twitter that he believed there were probably insurmountable hurdles to running a successful candidacy this year from outside the two major political parties.

Among those challenges, he said, is the difficulty of campaigning and qualifying for the ballot in all 50 states during a pandemic that has brought much of the country’s public life to a halt. He added that it would be difficult to raise money in the middle of a severe economic downturn.

“Never-Trumper” Republicans, including former Rep. Joe Walsh — who launched a failed 2020 presidential bid of his own — were concerned Amash would not win but “siphon enough votes” from presumptive Democratic nominee Joe Biden to “hand the election to Trump”, Politico reported.

President Trump disagreed with that assessment, saying in a tweet then that Amash would make a “wonderful candidate” and had “no chance of maintaining his Congressional seat.”

Trump has routinely chastised Amash on social media, calling him a “loser” and blasting the congressman as being disloyal.



Original source link

Run The Retail REIT Gauntlet? No Thanks


Executive Summary

The title of the piece pays homage to the 1977 Clint Eastwood movie “The Gauntlet.”

SOURCE

Eastwood was assigned to escort a witness into custody from Las Vegas to Phoenix for a mob trial. As usual, a plethora of problematic pitfalls lay ahead for our hero. This was the first thing that came to mind when conjuring up what may lie ahead for retail REIT investors. Even so, with the recent devastating selloff in retail REITs, many analysts and authors alike are advocating the selloff represent a “historic buying opportunity” or the “buying opportunity of a lifetime” at present. I beg to differ. In the following piece I lay out my case.

Potential Pitfalls

The following are the primary reasons I would avoid retail REITs at this time.

Deep selloff doesn’t equate to deep value

Many of the retail REITs are down 50-80%.

Top 10 largest market cap YTD performance

(O), (SPG), (REG), (FRT), (NNN), (KIM), (ADC), (BRX), (TCD), (WRI)

SOURCE

Top 10 Worst performing YTD

(WPG), (SRG), (PEI), (CBL), (MAC), (CDR), (RVI), (RPAI), (SITC.PK), (EPR)

SOURCE

These types of deep dive selloffs are often seen by novice investors as amazing buying opportunities. How could it not be? The REITs were just trading for an incredibly higher price only a few weeks ago? Let me clear up the conundrum.

The “Hunt for yield” drove prices too high

Just because a stock has sold off by 80% doesn’t mean it represents an 80% discount. I submit to you that the level REITs were trading at previous to the selloff were unjustified in the first place. The unjustified elevated price of retail REITs is directly attributable the unending hunt for yield by retirees and income investors, with nowhere else to turn. The oft used colloquialism “TINA” comes to mind which stands for “There is no alternative.” This acronym reminds me of my cousin’s farm’s sheep handling system where the sheep are corralled every so often to be sheered.

SOURCE

This is definitely what has happened to those holding these stocks during the recent downturn. Yet, some still opine that investors should hold on due to the “fat” dividend. Well I say “caveat emptor” my friend, that fat dividend may only be a mirage. Here is why.

Dividends under extreme pressure

Retail REIT dividends will undoubtedly be under extreme pressure because many tenants are facing bankruptcy. Some so-called REIT experts have put forth rents from tenants are continuing to be paid at an 80% or better level. Here’s the issue, crunch time hasn’t even hit yet. Many small business owners and big box stores alike are merely treading water at present. They are relying on government hand outs, taking on additional debt, or surviving on what little savings they may have had. It takes time for liquidity issues to turn into solvency issues. It’s too soon to know who will make it out of the gauntlet alive.

Under current conditions I am waiting a few more months to see how things shake out prior to dipping my toe back in. I sold out of my REIT portfolio in early February when President Trump cut off travel from China due to the corona virus. Whenever I conclude uncertainty is at all-time highs and visibility at all-time lows, I switch to capital preservation rather than appreciation mode as an investor.

I found it cheaper for me to pay my bills with my capital while I wait for the smoke to clear rather than take the potential hit in a severe pullback. This is not an attempt to time the market, this is a risk management strategy I have developed over the years by learning the hard way. What’s more, I actually shorted Realty Income (O) and Simon Property Group (SPG) in early March and recently covered for a nice gain which more than made up for the income I would have received in the first place. So I’m actually way ahead and was able to sleep well at night not having to live through another drastic selloff. Let me be clear, I am not recommending anyone short these stocks now, I am saying to avoid them. Here is why.

Brick and mortar footprint already overbuilt

The brick and mortar retail sector was already under siege prior to the pandemic. Shrinkage of brick and mortar retail stores was already underway. The pandemic only abetted to accelerate the process. The 10 years of easy money has served to increase the footprint vastly beyond where it should have been. The U.S. has several multiples of retail real estate compared to other developed economies.

I experienced my first real estate pullback in 1982. I was a framing subcontractor building apartment complexes in San Antonio, Texas. All new construction stopped on a dime. The slabs that already poured remained bare for years. We did not get paid for the last floor we framed. I have seen several cycles since. For the last 20 years I have been involved in real estate as a builder/developer. I’m currently a licensed Texas REALTOR® and have been since 2009. This time around it seems like thing might be worse for malls, commercial real estate, and big box stores alike. Let me explain.

Congregate settings are high risk

This recession was self-induced. The American public was told to stay home and non-essential establishments to close in order to stop the spread of the COVID-19 virus. Over the past few months of lock down it has become apparent that congregate setting such as jails and nursing homes are where the virus is spread more easily. Malls, building, and big box stores are congregate establishments. They will most likely be the least patroned places going forward as people find alternative less risky ways to shop and work. Taking all these factors into consideration the risk of owning these investment vehicles seems to high compared with the fleeting reward. Let’s wrap up.

The Bottom Line

The bottom line is we are just at the beginning of the retail REIT gauntlet, not the end. There are many potential pitfalls that lie ahead. The mere fact a company has fallen by 80% does not make it a bargain. It fact, it may end up being more expensive even at the much lower level. The fundamental value of a company is based on future earnings, not past. I submit that the future earnings potential of retail REITs has been greatly diminished. With reduced cash flows and taxable income waning, I see high dividend yields as red flags rather than an enticing inducement to buy.

I say buyer beware! We could see a third of the malls and retail outlets vanish out of existence. The redevelopment of these properties is highly questionable. You can expect interest rates for redevelopment loans to be high as the risk is incalculable. Moreover, the primary businesses malls were previously redeveloping into were “experience” type themes which would seems to be on the outs in the current COVID-19 social distancing environment. I say there will be a time and place to put money to work in retail REITs, yet that time is certainly months away, maybe even years. There are better, less risky, opportunities out there for retirees and income investors. The retail REITs are down big for good reason. This is not the “historic buying opportunity of a life-time” as far as I am concerned. Thank you for your time and consideration. I look forward to your feedback in the comments section.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.





Original source link

Sunrun Inc. (RUN) CEO Lynn Jurich on Q1 2020 Results – Earnings Call Transcript


Sunrun Inc. (NASDAQ:RUN) Q1 2020 Earnings Conference Call May 6, 2020 5:00 PM ET

Company Participants

Patrick Jobin – Senior Vice President, Finance and Investor Relations

Lynn Jurich – Co-Founder and Chief Executive Officer

Bob Komin – Chief Financial Officer

Edward Fenster – Co-Founder and Executive Chairman

Conference Call Participants

Brian Lee – Goldman Sachs

Julien Dumoulin-Smith – Bank of America Merrill Lynch

Stephen Byrd – Morgan Stanley

Michael Weinstein – Credit Suisse

Joseph Osha – JMP Securities

Philip Shen – ROTH Capital Partners

Colin Rusch – Oppenheimer & Co. Inc.

Jeffrey Campbell – Tuohy Brothers

Sophie Karp – KeyBanc Capital Markets Inc.

Operator

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Quarter One 2020 Sunrun Incorporated Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.

It is now my pleasure to turn the conference over to Mr. Patrick Jobin.

Patrick Jobin

Thank you, operator, and thank you for those on the call for joining us today and sorry for the brief delay.

Before we begin, please note that certain remarks we will make on this conference call constitute forward-looking statements. Although we believe these statements reflect our best judgment based on factors currently known to us, actual results may differ materially and adversely. Please refer to the company’s filings with the SEC for a more inclusive discussion of risks and other factors that may cause our actual results to differ from projections made in any forward-looking statements. Please also note these statements are being made as of today, and we disclaim any obligation to update or revise them.

On the call today are Lynn Jurich, Sunrun’s Co-Founder and CEO; Bob Komin, Sunrun’s current CFO; and Ed Fenster, Sunrun’s Co-Founder and Executive Chairman. The presentation today will use slides, which are available on our website at investors.sunrun.com.

And now, let me turn the call over to Lynn.

Lynn Jurich

Thanks, Patrick. We are pleased to share Sunrun’s first quarter results and progress against our strategic priorities. In the first quarter we added 13,500 customers, representing 97 megawatts of deployments, a 13% year-over-year increase. We generated $81 million of net present value and created NPV per watt of $0.98, or over $7,100 per customer. We grew our base of customers 23% compared to last year, now nearly 300,000 strong.

Upon completing the initial analysis of the likely near-term impacts of COVID in March, we expressly pivoted our strategy to focus foremost on prioritizing the strength of our balance sheet, with a secondary consideration to remain in position to quickly ramp growth when appropriate. We believe this strategy is proving successful.

Today, we expect the company will maintain our cash balance and generate net earning assets during 2020. But what I’m most excited about is our increased corporate metabolism, specifically the improvement in our operating pace and agility. Many of the changes we would have recently made were based on improvement initiative- initiatives that have been underway for sometime. COVID simply provided a powerful catalyst.

Our teams have compressed what may have been months or even years of evolution into weeks. We ramped up our digital lead generation efforts rapidly and that led to an all-time high number of digital leads in April. We launched a successful consumer promotion inside of two weeks. We moved our entire field sales team to digital sales within one week. We changed our lead routing and improved the productivity of our sales consultants. All of these actions culminated in end of April order volumes that were at and even above pre-COVID levels.

Down funnel, we have moved to drone-based site inspections in over 80% of our branches, allowing us to quickly pivot to contact-free inspections. We have accelerated our progress in reducing permitting costs by bringing more building departments online.

We are starting to use a new proprietary racking technology that we expect to have a meaningful impact on install productivity. We have also launched a new field optimization software platform. While it is too early to determine the full benefits of these actions, it is clear that our teams are embracing the changes necessary to help us drive meaningful improvements to our profitability and ability to scale quickly.

While sales volumes in our direct business were briefly down as much as 40% in late March, they’ve been growing steadily since, and we have begun recalling furloughed workers. We do expect that our withdrawal from big box retail stores, permitting delays in certain jurisdictions, and other frictional costs related to COVID may continue for sometime and impede our near-term cost declines and installation volumes.

Because our generally strong unit margins and low capital costs afford us the ability to operate at reduced NPV levels without consuming cash, we are choosing to maintain an athletic position to benefit from a quick recovery. As such, we expect NPV levels will be below our typical targets for the next two quarters.

However, we expect our increased change management will enable us to emerge with lower unit costs, higher volumes, and an even more diverse set of lead channels into 2021. These sales and operating initiatives combined could deliver around $2,000 in cost savings per customer in the medium-term, which would be a 25% improvement in NPV per customer.

I’m confident that we will emerge stronger and in a position to gain market share, both through improvements in our direct business and share gains in our channel business. The current environment has highlighted to local solar companies that Sunrun is the best partner.

We have the tools to enable virtual selling, a strong brand that customers trust and a reputation of financial stability. We have built our channel partner business to maximize the value for our partners, our investors, and our customers and to be run sustainably.

We have recently added five new channel partners to our platform, with the majority on exclusive terms. They have chosen to partner with us for the value they derive from Sunrun, not because of higher pricing or bonus payments. All five new channel partners will utilize our advanced selling tool and cited this as one of the many reasons for wanting to work with Sunrun.

Overall, more than 90% of our partners have signed on to use this quoting and design platform, as it helps them optimize their sales activities, including virtual selling. We believe the tool is unique and further differentiates us.

In addition to all of the exciting transitions that are underway in sales and operations, we continue to advance our grid service business development activities and increase the adoption of Brightbox, our solar and storage offering. Attachment rates for Brightbox remain strong and it is clear that solar plus storage will be the standard offering in the coming years.

In April, battery attachment rates were over 60% in the Bay Area. Across all geographies in the first quarter, we grew Brightbox installations in our direct business more than 50% year-over-year. Nationally, we have now installed over 10,000 Brightbox systems and we will be launching more markets in the coming months.

Our solar and battery offering is important, because it provides customers with the ability to better manage when they consume energy from the grid and provide backup power during blackouts. It’s also strategically important, because it unlocks additional sources of value to utilities and grid operators and to Sunrun, as the resources can be shared with the grid.

We now have more than $50 million of grid service revenue either contracted or in an advanced pipeline. We have announced five awards and expect to announce more programs in the coming months. The interest is very strong. For instance, in California, we are in discussions with all types of load-serving entities that serve millions of potential customers to partner with them to provide capacity and energy at the local level.

As the market leader, Sunrun is the natural partner. These partnerships will not only provide further proof of the value of home solar and batteries, but extend our scale advantages and improve our customer acquisition costs by leveraging co-marketing opportunities and enhanced data-driven lead generation.

With our solar-as-a-service model, customers can adopt solar with zero upfront cost and realize immediate savings. As more people are working and staying at home, they will be relying on more daytime energy than they did previously. In California, households are using as much as 20% more electricity.

Home solar and batteries can offer more certainty during uncertain times, greater financial value, and protection for families when they need it most. This is particularly critical in markets like California, which will soon enter another wildfire season with rolling blackouts as part of the utilities’ wildfire prevention efforts. This year, many fire preventative actions may not be completed, as prescribed burns have been halted.

While we are not providing guidance in this environment, early indications are that even if the country enters a prolonged economic downturn with poor consumer confidence, people will still want solar, and they want it even more, since it allows them to save money and receive reliable power without constraining their debt capacity.

The recent events have only strengthened my conviction in a strong long-term growth outlook for the sector, and Sunrun’s ability to gain share as the clear leader in the coming years. Our improving sales performance through April affirms this outlook.

Turning to a brief update on our ESG efforts. We believe building a sustainable business by embracing environmental, social and governance is important for our employees, our partners, our investors and for the communities in which we operate. This year, we created a formal committee of senior management to oversee ESG matters in addition to Board-level oversight.

A few weeks ago, we also published our third annual Impact Report. I’m pleased to share that we are making a big difference. Sunrun systems have prevented the emission of pollutants known to harm public health, including preventing nearly 5 million tons of CO2. In short, ESG is core to our business model and our company culture.

Last week, we announced that Tom vonReichbauer has joined Sunrun as its new CFO, effective next week. He will replace Bob Komin, who has decided to leave the company to spend additional time with his extended family and support his interest in higher education.

While we are sad to see Bob leave, we are excited that Tom has agreed to join the team. Tom brings a wealth of experience that will help Sunrun scale its service offering even further into the home. He has been a leader at disruptive, mission-driven companies in the consumer energy industry including Google, Nest, and Tesla.

With that, I want to turn it over to Bob to review the Q1 performance. Bob, we’re not letting you off the hook just yet.

Bob Komin

Thanks, Lynn. It’s been a personal and professional highlight to be part of this tremendous team from before the IPO to becoming the market leader, while nearly tripling the base of customers and helping the company build cash flow momentum over these last five years.

Looking now to the first quarter’s results. NPV in the first quarter was approximately $7,100 per customer, or $0.98 per watt. Project value was approximately $29,700 per customer, or $4.07 per watt in Q1.

Moving on to creation costs on Slide 9. In Q1 total creation costs were approximately $22,600 per customer, or $3.09 per watt, an improvement of $0.37, or 11% from the first quarter of 2019. As with project value, creation costs can fluctuate quarter-to-quarter.

Blended installation cost per watt, which includes the cost of solar projects deployed by our channel partners, as well as installation costs incurred for Sunrun-built systems, was $2.39 per watt, a $0.20 improvement from the first quarter of 2019.

Install costs for systems built by Sunrun were $2.07 per watt, an increase of $0.11 from last quarter. The increasing mix of batteries, combined with typical seasonal decrease in Q1 deployment volume, contributed to the increase in cost computed on a unit basis.

In Q1, our sales and marketing costs were $0.76 per watt, down $0.02 from the first quarter of 2019. Our total sales and marketing unit costs are calculated by dividing costs in the period by total megawatts deployed. In Q1 G&A costs were $0.16 per watt.

Finally, when we calculate creation costs, we subtract the GAAP gross margin contribution realized from our platform services. This includes our distribution, racking and lead generation businesses, as well as solar systems we sell for cash or with a third party loan.

Our platform services gross margin was $0.21 per watt in Q1, $0.01 higher than the first quarter of 2019. Our cash and third-party loan mix was 15% in Q1. We expect this mix to remain in the teens. Leased systems are able to benefit from safe-harboring to extend the ITC at higher levels. In the first quarter, we deployed 97 megawatts.

Turning now to our balance sheet. We ended the first quarter with $366 million in total cash. Quarterly cash generation was $5 million. We defined cash generation as the change in our total cash less the change in recourse debt and other adjustments, including our safe harbor program, business acquisitions and common stock repurchases. Cash generation can fluctuate significantly due to the timing of project finance activities.

Now, I’ll turn it over to Ed for the last time.

Edward Fenster

Thanks, Bob. Today I’m going to review our gross and net earning assets metrics for the quarter and then I will discuss the financing markets for our assets, our asset performance, and recap our capital runway.

Turning to Slide 10. Gross earning assets were $3.9 billion as of March 31, an increase of 22%, or $695 million, from the prior year. Net earning assets were $1.6 billion, an increase of 12%, or $170 million from the prior year. Our total cash balance was $366 million as of March 31, an increase of $3 million from last quarter, or $56 million from March 31 of last year.

While the onset of COVID caused certain public-market investors to divest assets while they digested the implications on their portfolios, as ongoing data becomes available and fact-based decision making is again possible, markets are beginning to normalize. This return to data-based decision making is where residential solar shines brightest.

Consistent with the 2008 to 2011 financial crisis, we continue to experience excellent customer payment performance. As of April 30, 2020, delinquencies as a percent of total PPA and lease accounts receivable in each basket, 30, 60, 90, and 120 days are lower than they have been at any time in the past six months.

Home electricity is at the top of the customer payment waterfall. We charge less for power than the incumbent utility. And due to the tiering of electricity pricing in many jurisdictions, savings from solar grows as electricity use increases. This further enhances our value proposition.

You can see this strong asset performance on Slide 13. The initial credit market reaction from the onset of COVID would have increased our weighted average capital costs from around 5% to around 6% had we been forced to raise capital, as both senior and subordinated debt became slightly more expensive.

However, because we are printing strong payment performance and we expect that trend to continue, spreads should fall over the medium-term, likely to all-time lows. At the same time, we have entered a long-term ultra-low-interest-rate environment. Today, the interest rate futures market quotes the 10-year swap at or below 1.05% at all times through 2039.

As we demonstrate the resiliency of this asset class through a second recession, we expect that the resultant lower spreads will combine with low base rates to provide a weighted average capital cost below 5% soon and for decades to come.

While we have been active in the asset-backed securities market the last couple years, inception-to-date, we have raised twice as much senior debt in the commercial bank market as in the ABS market. We enjoy numerous, strong relationships with commercial bank lenders.

Today, the commercial bank market offers relatively better terms for senior debt, with all-in yields at about 4%. One additional advantage to the commercial bank market right now is that, we can lock in today’s base rate with long-term interest rate swaps, while enjoying the ability to reduce spreads as market conditions improve.

In addition, as capital inflows to asset-backed securities return, we expect that market will recover, becoming cheaper than ever as our collection performance through this time period extends and becomes understood.

We continue to see significant interest from tax equity investors, where pricing and terms don’t vary significantly through cycles. In April, we upsized one tax equity fund on terms materially identical to the existing facility, and we are in ongoing discussions with other investors also at capital costs in line with existing funds.

Sunrun has a long and improving project finance runway that affords us the ability to be selective in capital market activities. As of May 6, 2020, considering only closed tax equity and debt capital commitments, the company’s prearranged financings provide capital to fund approximately 220 megawatts of leased projects beyond what was deployed in Q1, at above 90% of contracted project value. We also have additional project finance capital to fund installations at lower advance rates.

And with that, I’ll turn the call back over to Lynn.

Lynn Jurich

Thank you, Ed. Let’s open the line for questions, please.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Brian Lee from Goldman Sachs. Your line is now open.

Brian Lee

Hey, everyone, thanks for taking the questions. Hope you’re all well and safe. I guess, just in this environment with all that’s going on, maybe a bigger picture question to start off. Wondering what sort of success you’re seeing with the shift to virtual sales, that platform?

I know you gave some broader commentary around trends, but specific to that shift, kind of what you’re seeing? And then as you think further out, sort of how structural part of your business model do you think that’s going to end up being? What could it mean to the cost structure? Any kind of quantification if you could provide, that’d be great?

And the last thing, just on that front, how do you differentiate? I suppose everyone is adjusting to this new environment and everyone is going virtual and online. But what do you guys do, or what do you – what does anyone do to kind of differentiate on that platform versus the channel we’ve been accustomed to in resi solar?

Lynn Jurich

Great questions, Brian. So I’ll take those. And so I think we’re seeing a lot of success in the conversion to digital sales. And I really do think one of the benefits of this is, we’ve taken how the industry would have evolved probably in two years and we’ve done it in a month.

So, what we’re seeing is that, we’re overall holding conversion rates in a digital and selling environment versus a face-to-face. And what we see is that, the people are less likely to sign – if they’re digital, they’re less likely to sign the order, but they’re more likely to follow it all the way through to the install. It feels like a stickier sale.

So the overall conversion is a wash, which is fantastic, because that means our sales force can be a lot more productive. They can handle many more appointments per day than when they have to drive. And just to kind of put a fine point on that, we had our day in April, where we delivered record orders ever and it’s with a significantly smaller sales force. So it’s incredibly encouraging.

We still, of course, have a big footprint historically through retail stores and other face-to-face activities. So, while digital sales are up and hitting kind of records in April, overall, we’re still going to see a slowdown over the next couple of quarters, as we adjust and [A Shares] [ph] are closed and just other friction sources. But I think this is – it’s a long-term structural shift.

So it’s hard to say what percentage. But if we’re seeing the same kind of conversion rates with higher productivity, you may want to shift most of your activity to virtual sale. You’re still probably going to want to do the lead generation out of the big box retail stores like we do, because those are efficient ways to reach homeowners. But I’m very encouraged by this transition and what it can mean for acquisition costs.

I quantified in the call, I think, a lot of these activities, both sales and operations combined, will save about $2,000 per customer. I put about half of that towards the sales improvements that we’re seeing. So, somewhere around $1,000 per customer is probably directionally where we are, which is pretty meaningful.

The question around differentiation, I think, first way that we differentiate is that, we just do have sleeker tools and systems to – excuse me, do the design and create the design remotely for the homeowner in a way where you’re not going to have to make a bunch of downstream changes after you visit the site.

So there is real technology platform differentiation for that quoting and design piece of the equation. And I think that’s part of why we’re seeing our ability to gain share and win channel partners, because they’re more attracted to those tools in this market. There’s also just benefits from having the balance sheet and the strength to spend on advertising. Advertising is cheap right now, that’s one of the benefits.

So, the stronger, better capitalized companies are able to spend there and actually generate the leads. And then I think there – there’s also just the financial stability, which is really attracting people to a company, where they feel there’s more long-term security and they want to sell on top of that platform. So those would be some of the ways that we differentiate on the digital sales front.

Did I get all your questions? Let me know if I miss anything out.

Brian Lee

Yes, you did. I appreciate you covering all four of them. Just one last one for Ed, and I’ll pass it on. On the financial stability point you mentioned, I appreciate the overview, as always, and you provided. But can you give us just in this context or in this environment, I think, people are really digging into sort of the financials and the balance sheet and where everyone’s liquidity sort of comes from?

Can you give us a bit more granular color around sort of your sources of liquidity, as it stands here today? I know what we can see on paper and what you’ve talked about in terms of capacity, but maybe if you could walk us through a couple of pieces, what capacity you have? And then also, there’s a few other pieces, because it sounds like that are less transparent, but you could leverage in the case where you needed to. So if you could just kind of walk us through a couple of the pieces around the sources of liquidity?

Edward Fenster

Sure. Great question, Brian. So the liquidity comes in several facets, right?. On the one hand, there’s the cash, which we have on the balance sheet, which is clear. And then on the other hand, there are undrawn and available tax equity and debt commitments. It’s worth noting that in the Footnote 11, I think, it is – well, on the indebtedness footnote, the availability there is disclosed only in the context of what could be drawn against assets that are already in service. You have to look elsewhere in the Q for the total capital commitments available to the company to see what is available to us as we continue to build and deploy assets.

Obviously, we’ve summarized that in the call by saying that, we can fund the next 220 megawatts beginning in Q2 of assets at or above 90% of contracted project value, even if we didn’t raise any additional capital. That said, we are in discussions with folks, as always, and markets remain open to us, and I expect we’ll continue to raise capital even over the near-term to add to that stockpile.

So sort of between that, which we have on the balance sheet and that which is committed and available to us, we’re confident that, we have the capital to fund all the installations that we might have this year. In addition, that we expect that we’ll be able to hold our corporate cash balance over the course of the year and add to book value.

Brian Lee

Okay. Thanks a lot, everyone.

Lynn Jurich

I might just before – as we wait for the next question, I understand that some of the prepared comments may have had some spotty coverage. So we have posted the transcript to our webpage investors.sunrun.com. So you can pull it down there if you miss pieces of it.

Operator

Your next question is from Julien Dumoulin-Smith from Bank of America Merrill Lynch. Your line is now open.

Julien Dumoulin-Smith

Excellent. Good afternoon, everyone. Hope you all are doing well. Wanted to just follow-up on three issues and if I may, maybe easy question, hard to respond per se. But relative to what you all have talked about at various points, how are you thinking about the trajectory for cash burn this year? And I know that presupposes a certain assumptions, but I’d be curious how you would frame that. How are you thinking about NPV per watt metrics? And again, I know you just talked to it in round terms a moment ago, but just to be a little bit more articulate, how are you thinking about that NPV trajectory, if you will?

And then related, how are you thinking about the trajectory of like, gross volumes as well relative to the trajectory that we’ve seen pre-COVID, if you want to talk to that as well in terms of compounding growth? I know there’s a lot there, but cash burn…

Lynn Jurich

Sure.

Julien Dumoulin-Smith

…NPV generation and trajectory of just volumetric expectations, given what seems like a very sharp inflection?

Lynn Jurich

Yes. Thank you, Julien. Those are the key levers, so pleased to answer that. What we are seeing is, I think, again, we’re not providing formal guidance in this environment, because they’re just too many things outside of the company’s control with [A Shares] closed and retail store is not open for business. So, those are real constraints that are – we’re facing.

If you look at most of the industry sources, they’re reporting that residential sales will be down in Q2, 30% to 50%-ish. And at this moment, we’d be tracking to the more favorable end of that range, again, assuming there aren’t any further shutdowns. But we believe we’re doing on the – performing on the better end of the industry.

I think, what we would see then for NPV out of that is that, you would see NPV come down over the next quarter and probably into Q3 as well into lower level, sub the dollar target. And we think that, that would then climb back up after those couple of quarters to a more normalized levels.

So I think it’s a couple quarters of washing through with all of this friction. The good news is that the strength of the capital markets and some of the cost actions we’ve taken would mean that, even given that shape, we will preserve our cash balance through the year. So we will generate book value. We’re going to have – likely to have – maintain the cash, plus grow NEA without refinancing any existing assets.

So, it really shows the resiliency of the business. And I think, again, more – what we’re more excited about is coming out of the other side of this. It’s clear – consumer interest is there. I mean, you see that with how significant the sales have come back in April and, again, coming up on another wildfire season and just the lack of control that people feel the resiliency message around solar and batteries and taking care of my family and taking care of my home is just resonating that much more acutely. And we’re a product that costs nothing upfront and saves people money.

So it’s really resonating. So we’re quite optimistic about emerging out of the stronger and even given the – a couple of quarters to wash all this friction through, we will. We do expect to grow book value this year.

Julien Dumoulin-Smith

Got it. But just to clarify what you were saying a second ago, twofold. Implicitly, you’re talking about no cash burn for 2020, right? Again, I know you gave the caveat about refinancing, et cetera. But no cash burn for 2020 is aspirationally where you stand right now?

And then separately, with respect to NPV per watt, obviously, there’s a certain amount of lead generation going on. Based on what you are seeing today, do you have good reason to believe that it – over the course of a couple of quarters, you’re actually going to be back at relatively comparable NPV metrics [Multiple speakers] is that right?

Lynn Jurich

Yep. Again, assuming, there are not further changes…

Julien Dumoulin-Smith

Absolutely.

Lynn Jurich

…to shelter in place and like that things generally are easing a bit as we’ve seen them over the last month. Yes, that would be our expectation. And part of what we’re trying to do as well, we’re making the decision to keep investing, keep as many people working as possible over the next couple of quarters, because we believe the growth is going to come back and we want to be in an athletic position to take advantage of that.

So the health of the financing markets and the cost of capital and our backlog and capital allows us to make those calls, where NPV will be lower than historical for the next quarter or two. But we should come back out of that at the end of the year.

Julien Dumoulin-Smith

Right. At the end of the the day, the NPV metric is supported by the new financings that you are putting in place today, right, just to be super clear about this environment…?

Lynn Jurich

It’s existing. To be very clear, to be very clear, yes, with our existing contracted project finance. We’re not relying on – we’re not counting on a significant improvement or anything to drive that result.

Julien Dumoulin-Smith

Right. Existing market spreads that you all have…

Lynn Jurich

Yes.

Julien Dumoulin-Smith

…on the range of sector, et cetera, et cetera.

Lynn Jurich

Correct.

Julien Dumoulin-Smith

Okay. Excellent. Thank you all for the clarity. I appreciate it.

Lynn Jurich

Yep.

Operator

Your next question is from Stephen Byrd from Morgan Stanley. Your line is now open.

Stephen Byrd

Hope you and your families are all doing well.

Lynn Jurich

Thank you.

Edward Fenster

Thanks, Stephen.

Stephen Byrd

I wanted to just go back to your excellent commentary on the state of the financing markets. I guess, Ed, as you think about a normalized cost of financing, let’s assume that this low interest rate environment continues, which I think is safe to assume, but that some of the sort of market volatility settles down. Would you mind just giving a little more commentary about how you might think about the long-term cost of financing for Sunrun in the very low interest rate environment, we find ourselves in sort of putting the noise aside?

Edward Fenster

Great question. Yes. So, as I was – I think alluding to a little bit in the prepared remarks, we would expect it on a weighted average cost of capital basis to be below 5%. And consistently, we saw prior to COVID spreads for senior debt at or slightly below 200 basis points over, call it, the swap rate, which today is about 0.7%. And then on the subordinated capital side in the high single digits.

And those capital cost, in part, reflected, I think, some investor uncertainty as to how assets might perform in a economic downturn, even though we actually have good data from the 2008 to 2011 financial crisis, not all other developers in the market do.

So I think what will happen when we come out the other side of this with what we believe will continue to be excellent payment performance, is that advanced rates on the senior debt may increase spreads, particularly on the senior debt, should decrease, and then likely cost of capital on the subordinated piece should decrease as well.

I’ve long said I thought that residential solar is actually a lower-risk asset class than utility scale solar, because utility scale solar systems have individual points of failure, single customers who are weak investment-grade, subject to individual regulation. And residential assets have fantastic diversity and equipment and off-take and regulatory regime. And actually, as we’re showing here, because it’s the sale of electricity, incredibly high credit quality.

And so I think that is – people get back to investing and look at the data and figure out where to put their money, as they’ll find this to be a very attractive asset class, which will, I think, drive the weighted average cost of capital as I mentioned below 5%.

Stephen Byrd

That’s really helpful. And then I wanted to step back and just think about the limits on growth as your target markets emerge from COVID-19 and there’s an attempt to bring the economy back and activity resumes.

At a high-level, you’ve given commentary on sort of the state of the business overall. But just what do you think of is the limiting factors there in terms of resuming a very strong growth? Would it be from personnel point of view? It sounds like financing has not been a challenge. Is it sort of getting out to visit customers, which also sounds like it’s not an issue?

I guess, what I’m struggling with is it feels like within relatively short order, growth can – you can achieve excellent growth, but I’m just trying to think through what might be the limiting factors here?

Lynn Jurich

Yes, good question. We do agree with you. And I think, as I mentioned on the call, the consumer value proposition around control and taking care of the house and resiliency with batteries getting cheaper and more grid services opportunities to offset the cost of the batteries, the value proposition is getting stronger than where it was previously, which is a solar-only kind of savings-oriented product.

So that’s a really big healthy shed in the positioning and what customer is actually contracting for? And I think you’re right. I think, the short-term constraints are really – there are just permitting offices that are closed physically. So, it’s getting better. But if you look at end of March, it was about 30% of permitting offices just weren’t taking permits, and the Bay Area stopped for a while. New York is still down. Now it’s much better and we’re chipping away at it, and people are recognizing that this is an essential service. But I think we’re still at 15-ish percent closed down.

And then you just – there’s just a customer awareness factor and the industry was so accustomed to generating leads with face-to-face methods that there’s just an adjustment period. So how does the industry adjust with more traditional sort of advertising, that just will take sometime. And also it’s likely that we figure out how to have safe social distancing and a little more face-to-face activity and return to those retail stores.

So we’re planning for that certainly in certain geographies as early as this month. So the – so I either – so the constraint is really the health and safety concerns. But again, I – it’s not years, it’s quarters.

Stephen Byrd

That’s really helpful, and thank you very much. That’s all I had.

Lynn Jurich

Thank you. The other thing I would offer, too, is hopefully, one of the other things we’re focusing on is really improving the cycle time from when a customer signs the contract to when it gets installed. And, as you guys know, that’s been a couple of months typically. If we’re able to affect a lot of these process changes that we have in motion right now and you tighten that, the recovery comes faster.

And just to highlight what’s possible, San Luis Obispo moved to an instant permit, and we were able to, just last week, do a same-day install. So the customer signed up in the morning, we got the permit through and we install it in the afternoon. So, that’s not going to be our normal way of operating. But again, what’s possible when you can start to streamline the whole system.

Operator

And your next question is from Michael Weinstein from Credit Suisse. Your line is now open.

Michael Weinstein

Hi, good afternoon, guys.

Lynn Jurich

Good afternoon.

Michael Weinstein

Hey. I was wondering if you could talk a little bit more about lease versus loan under the current conditions. Are customers preferring to see leases in a major recession? Is that – that would have been my expectation, but I’m not sure what you’re actually seeing on the ground?

Lynn Jurich

It’s too early to conclusively comment on that. But I think that is something that we will – we do expect to happen as well. I think it’s intuitive. But the fact that, as things get tighter, people do not want to use their precious debt capacity if they don’t have to and could be attracted to the solar-as-a-service model, which obviously, doesn’t constrain them. So intuitively, we think it makes sense. There’s some positive early signs, but it’s too early to quantify.

Edward Fenster

And it’s Ed. I might mention. Even before COVID, we were seeing some differentiation in payment performance between solar loans and solar leases. And so I think that’s something people will be watching carefully, too, because it might affect the relative capital cost of each product and therefore, the relative attractiveness to customers as well.

Michael Weinstein

Great.

Lynn Jurich

And one other nuance to pile on there is, remember, we have a pretty robust safe harbor program, where we’ve warehoused equipment for about 500 megawatts at the 30% tax credit. So that is likely to extend further than expected now, of course, given the COVID interruption. So the delta also starts to get bigger, as we are able to use that 30% credit. So that also helps just kind of shift the market and shift the behavior.

Michael Weinstein

All right. Lynn, you mentioned the $2,000 per customer incremental value, as you’re cutting costs and making things more efficient in the sales process. Is that – and that’s over the medium-term. What do you think the medium-term really means? Is that this year, or is it next year?

Lynn Jurich

Yes. I would say, it’s not – the next – again, it’s going to take a couple of quarters to wash through this interruption just given cycle times and things and just that work still not able to operate at full capacity. But it’s within reach and four quarters, I would call it about that early first-half next year.

Michael Weinstein

Gotcha. Are you hearing anything about expectations for policy support in D.C. for renewables at this point heading into an election year and under the current circumstances?

Lynn Jurich

We’re advocating for the extension of the tax credit. We think it’s a great policy, and one of the biggest impacts we can have on climate change. But I think we’re not – we’re certainly not counting on it. I don’t know that we would put our chances at greater than 50% on that. Ed, I don’t know if you want to add anything.

Edward Fenster

No, I think that’s a good summary. There are a number of people who are strongly supportive of it. There’s obviously a lot of priorities at the moment. Our base case would be that it’s less likely than not to occur. But we do continue to think it would be a good policy, it makes sense given the interruption that COVID has caused in the growth of all forms of solar utility scale to residential and that it would be a good policy rationale for it, and it may or may not happen. But we’re certainly proceeding with our plans under the base case assumption that it’s not.

Michael Weinstein

Right. Actually, with 500 megawatts of safe harbor, you might not want an extension of the tax credit anyway. You remain in an advantageous position, right?

Edward Fenster

Right. We generally prefer a larger pie to a larger pie, that is the right policy. So yes, we are well positioned if there’s not a – if there’s not an extension for now. yes.

Michael Weinstein

Hey, one last question on grid services, you had a pretty weak results for the auction this year, I’m just wondering how has the crisis affected the ability to generate value in that next section of your business?

Lynn Jurich

I would say, it’s just been moving along independently. I think that the only challenge with credit services, it’s not really the value proposition, it’s sort of helping to rework the rules in the market. So that these assets can participate and are able to participate in our fairly valued for the value stack that they bring.

So we’ve just been slowly chipping away at that and educating different load serving entities. So I don’t – it’s really continued to progress. I think, obviously, there’s some people who aren’t working quite as much, so they slow a little bit. But we’re optimistic that we’ll be announcing further progress on that over the next couple of months.

Michael Weinstein

Okay, great. Thank you very much for your time.

Lynn Jurich

Thank you.

Operator

Your next question is from Joseph Osha from JMP Securities. Your line is now open.

Joseph Osha

Hi, there, and thanks for taking the question. I have three completely unrelated questions. The first relates to tax equity, and I heard your commentary. I’m wondering whether that – what’s happening here is that, that market really hasn’t been impacted, or that it has been and some people are just being treated a little more equally than others? That’s my first question.

The second one just relates to workforce availability. I know that had been a problem. And this kind of puts and takes on the one hand activity is lower, but on the other hand, people are disrupted. So I’m just wondering what the situation looks like in terms of the availability of installation crews? And then third one, I’ll say in a minute.

Edward Fenster

Sure. I can answer the tax equity question and Lynn can talk to the workforce considerations. The tax equity market continues to be healthy. There are some investors who have more capacity, because they’re supermarkets or because they’re doing better or some of their existing projects are being deferred. There are a couple of investors who probably have less tax capacity. By and large, you really haven’t seen any significant change pre or post-COVID at least in the availability or terms of tax equity that – we as Sunrun would face in the marketplace.

Joseph Osha

Thanks.

Lynn Jurich

Yes. And in terms of the workforce availability, I mean, certainly, we – as we talked about on the Q1 preview, we really are prioritizing, trying to furlough wherever possible, because we do expect the growth to return and we have started in some goes hiring those workers back.

So we do believe that that’s – we will be well served by that decision. But it’s a – it’s going to be on – we’re not dropping the ball on trying to be a real – have a differentiated place to work. I think, if you just look forward and our ambitions for how many batteries we’re going to be installing and how much growth we’re going to have, it’s going to be – skilled labor is going to be a shortage in electricians and things.

So we’re pleased with a lot of the programs that we put in place around career pathing and competitive pay and really building a company culture that is human-centered and values the front-line employees. So we think that’ll serve us well to be a preferred employer, but we’re not dropping the ball on it, because I do think this is going to be an ongoing thing. I don’t worry over the next couple of quarters that it’s a big challenge for us.

Joseph Osha

Okay. Thank you. And then the third and final question back to grid services. This is kind of a funny one. How do you think about how you price your storage offering in the context of future potential grid services revenue? What I mean by that is, are you saying, “Hey, look, storage has to stand on its own two feet. And any third-party monetization is just gravy?” Or are we saying, “Hey, let’s push a little harder on the pricing and assume that over time, we can recoup that as some of these deals come to fruition?”

Lynn Jurich

We’ve really – a great question and an ongoing debate. We really lean towards the first, so forcing it to sort of standalone. If we know we have a contract like in ISO New England, we will lead into some discounts, because we have contracted value. But we really are not – we’re trying to keep solar at NPV neutral or positive storage – excuse me, at NPV neutral or positive, and not counting on the grid services, that is unidentified.

So we couldn’t take a more aggressive opinion, more aggressive sense, that may be the right thing to do. But we haven’t done that sense and just our continued focus on sustainability and unit level economics and near-term cash generation.

Joseph Osha

Okay. So that – but it is interesting in areas where you’ve got a specific deal in the bag, like I said, New England, you will lean into those customers a little more, okay?

Lynn Jurich

Yes. Our goal is really to, let’s have grid service programs accessible in as many geographies as possible, because then you can start to count on it. So we’re doing the market development work. And California is really a place where we’ve been spending a lot of time and focus. And that’s what I alluded to on the call is that, we’re making some progress there for storage to actually count for capacity and be relied upon.

So, to start opening up a lot of these – ISO New England is a big one, but a lot of the earlier projects have been smaller virtual power plants. And what we want to do is really open up the opportunity for millions of customers to make their – turn their electric homes into an asset – an electric asset. So that’s the vision.

Joseph Osha

Great. Thank you so much.

Edward Fenster

And Joe, one thing I might add is that, when we talk about grid services, contract being worth about $2,000 a customer. We are making the assumption that to a certain extent, we’re leaning in, as Lynn described

Joseph Osha

Understood. Thank you.

Operator

And your next question is from Philip Shen from ROTH Capital Markets. Your line is now open.

Philip Shen

Questions. As a follow-up on the trajectory of installations, Lynn, you talked about what we could see in Q2. What do you see for Q3 relative to Q2? Could it be higher? Or do you expect to see possibly lower because of the lag time or the – between sales and the PTO? Is that timeframe extending? So just – if you can comment on relative to Q2, where Q3 might go? That’d be great. Thanks.

Lynn Jurich

Sure. I think you will see in improvements in Q3. So just as we initially saw sales drop by about 40%, that’s really steadily recovered week-by-week. And, as I said, we even had a record day in April. So I think, there’s – there will still be friction. There will still be closed building permit offices. New York is still shutdown. So it’ll extend into Q3, but it will not, but it’s coming back faster than we expected. So I would guess, as long as things don’t get worse or things change, that Q3 will be an improvement from Q2, but not back to – but not all the way back to previous levels.

Philip Shen

Right. In terms of mix between dealer and direct installs in 2020, I know you guys don’t publicize those exact numbers. But I was wondering how that may have changed for 2020 pre-COVID versus post-COVID? Do you expect to see more direct installs now or more dealer installs, for example relative to pre-COVID times?

Lynn Jurich

Yes, good question. We do – we are seeing that the larger companies like ourselves and some of the larger dealers are faring better. It’s just they have the balance sheets to keep people employed to install, they can spend on advertising and digitization of the selling process.

So all in, I would suspect that our direct will take share versus the pre-COVID for all those reasons, that the market leaders, I think, will take share generally. But we also have attractive dealers in our portfolio that are – have strong financial positions that we’ll see growth. So very – the dealer market, the data is not as very interesting, it’s wide variation in terms of the performance.

Philip Shen

Okay, thanks. And then a couple of other questions. I know you guys take a leadership role in policy. And last month, I believe the New England Ratepayers Association files a petition with FERC, that potentially could render NEM, net metering in a challenged position.

I was wondering if you could comment on that and provide some context and maybe an outlook as to how this might result and maybe some probabilities that you can get that deep? And then separately and completely unrelated, I was wondering if you could talk through the ABS market and outlook. I know that market is coming back now. We’ve seen a bunch of deals priced mostly for autos. But to – when do you expect that ABS market to possibly come back for the solar industry? Thanks.

Edward Fenster

Sure, Phil. It’s Ed. I can handle both questions. So first, there’s just really no substantive merit to the petition or to the petitioner for that matter. Their name, as you mentioned, is the New England Ratepayers Association, but it’s really just the Dark Money Group. It doesn’t disclose its members and it doesn’t really have ratepayers.

Second and probably most importantly, FERC has held and reaffirmed that states of jurisdiction over net metering. So most recently in 2009 and upholding an earlier 2001 decision, FERC wrote that net metering policies, as they’re drafted, do not create a sale, let alone a sale at wholesale. And as you know, FERC only regulates the transmission and wholesale sale of electricity.

In addition, there’s a long line of states and regulators, including NARUC, who are intervening and we anticipate nearly all will be vigorously in support of keeping control of net metering with the states. State-level net metering policies exist in 39 states, D.C. and four territories, as you probably know.

And then finally, I would note, there are 2 million net meter customers in the United States. And so for FERC to reverse its previous written guidance and harm those Americans plus thousands of major businesses, no less in the middle of the depression, would just be political suicide. And you may recall that the career regulator in Nevada who oversaw the net metering decision there in 2015 was not reappointed by a Republican governor and had over – his ruling overturned by the legislature.

And finally, FERC actually, initially requested comments in 30 days. And although NARUC requested and was granted an extension, given them the short timeframe, we believe FERC doesn’t intend to rewrite decades of precedence on a matter of no urgency. So I guess, to summarize the lack of merits of the petition, the overwhelming opposition, the political calculus and FERC’s proposed time line really all just give us confidence that FERC is going to deny the petition.

in terms of the ABS market, the ABS market is subject to capital flows like many other public debt, credit and equity markets. And I think if people will just generally become comfortable and you’ll see capital inflows that, that – pricing in that market will improve. It’s currently not pricing to credit quality, it’s just pricing to supply demand imbalance.

And so that’s why I noted in the prepared remarks that on the senior debt side, we expect the commercial bank markets be more attractive. It’s not like commercial banks are suffering massive outflows of their deposits. Their liquidity situation is good. They’re able to do underwriting. They look at data and make fact-based decision-making.

So the fundamental story is like the senior debt market is intact, it’s going to – over the near-term, I expect it will be in the commercial bank market. And over time, as inflows return to the ABS market, I would expect that market to overflow back over time.

Philip Shen

Great. Thanks for the color, Ed.

Edward Fenster

Operator

Your next question is from Colin Rusch from Oppenheimer. Your line is now open.

Colin Rusch

Thanks so much, and thanks for the color on the number of permit offices that are open. I’d love to get a better sense of the actual throughput of those offices and the actual levels of permit approvals they are seeing right now relative to historical levels and how that’s been changing over the last month or so?

Lynn Jurich

Sure, Colin. So I think that one month ago, nationwide, it was about 26% of [A Shares] were closed. And then by May 4, that’s reduced to 14%. So that gives you just the nationwide summary. The kind of pain points for us have been California and the Bay Area, which now is a – I think about a month ago, probably about 50% of installs in the Bay Area couldn’t proceed. And we’re down to 20% as of today, and even – likely even further this week, and then about 20% of installs in the Northeast can’t proceed. And that’s not – that hasn’t changed yet due to roles in Boston and New York.

So, that – those are the ones that are actually shut. In terms of the ones that are open, more than 50% of our [A Shares] has moved to e-mail and mail for permitting. So it has worked and we do think that long-term, this will be a nice push for these offices to adopt the SolarAPP and automate the process, because they’re starting to get more comfortable with that. But the – it – outside of the ones that are closed, it hasn’t been a huge bottleneck.

Colin Rusch

And then in terms of inspection to approve the – turning the systems on, how different is that process at this point with inspectors coming out to look at the systems?

Lynn Jurich

Yes. There are some delays certainly on that as well. I think, there has been – we’ve had some delays with PG&E, in particular, I think. But, again, there’s a lot of pressure because of wildfires. The – it’s been dry and they haven’t done the preventative maintenance that needed to get done because of all this – these challenges.

So I think there’s a real risk that we’ll have more blackouts this fall. So there’s some pressure to start to expedite the stuff. So I think that’s starting to take hold, but yes, I don’t have a quantification of the friction, but it’s certainly there.

Colin Rusch

Thanks. And then one last final quick one. Just given some extra bandwidth on installation crews, potentially around the edge, are you looking at changing any installation processes or optimizing those and integrating a potential switch to new hardware at all at this point?

Lynn Jurich

Yes. We’re making a lot of progress there. We – one, we have put drones out for the site visit, which can help make it contact free. We’ve changed the working rule to help preserve the safety of our people and customers taking separate cars to the site, having fewer people on site, hand washing all of the best practices around there. So we have changed the – some of the installation practices.

And one of the things we talked about a bit on the call is, we are – we did launch a new proprietary racking product called Speed Track [ph] that has showing some really early promising results in terms of installation efficiency. So again, early, too early to quantify, but that is a change we’ve made that we’re looking forward to.

Colin Rusch

Thanks so much, guys.

Lynn Jurich

Thank you.

Operator

Your next question is from Jeffrey Campbell from Tuohy Brothers. Your line is now open.

Jeffrey Campbell

Thanks for taking my questions. We’ve had a long call here, and it’s been really fruitful one. When we think about soft costs, if we can quantify it this way, what percentage of their costs could potentially be reduced by the digital sales you’ve been describing? And what percentage could be reduced by permitting automation?

Lynn Jurich

Yes. The big bogey is about $7,000. If you just look at the cost in Europe and Australia versus U.S., where they really treat it there as more like installing an appliance. So you don’t have to go through a lot of the permitting and interconnection hurdles that we do. So that’s a bogey. That’s possible. The U.S. is different. And so it’s unlikely that we’re going to eliminate a lot of the code requirements and things that we have and some of the local desire for control.

So I don’t think we get all the way there. I think in the short-term, I do think, let me say, medium-term, again, per my earlier answer before five quarters, I think, that we can see about $1,000 come out of the acquisition cost and about $1,000 come out of the install costs due to the efforts we put in place right now.

But I think it could be – it’s somewhere between that $2,000 and $7,000, as we start to get the automated permitting rollout and just to really compress the cycle time and the friction that’s created by all the back and forth and the kind of long linear process that customers have to go through.

Jeffrey Campbell

So just to make sure that I understood that you’re saying that over a determined period of time, about $1,000 could come out on the sales and $1,000 on the installation and the permitting automation would represent outside from those two levels?

Lynn Jurich

Correct.

Jeffrey Campbell

Is that right?

Lynn Jurich

Correct.

Jeffrey Campbell

Okay, great. Just quickly, because I was listening to it and I thought was interesting. On the grid services conundrum regarding pricing, the batteries seems like a good compromise would be to hold the line on price, as you described now when you’re selling into a market where there are no grid services that offer customers a piece of the pie whenever the services emerge later on after installation. I mean, is that a feasible approach?

Lynn Jurich

Absolutely.

Jeffrey Campbell

Okay. Just to be clear, since you said that you’re doing your best to hold on to headcount, but the business is going to decline some large percentage over the next couple of quarters. Should we expect the total customer cost to increase during that period?

Lynn Jurich

Yes, you should. So the comments that I made around the NPV being lower than historical levels, that will be due to just less fixed cost absorption and a higher overall cost act because of the reduced volumes. Again, I want to emphasize we can do that without burning cash because of our strong – the strong financing environment. So we think it’s the right move, given the confidence we have in things rebounding. But yes, you will see higher unit level costs over the next couple of quarters.

Jeffrey Campbell

Okay, great That’s what I thought. And my last question is, if it’s possible, can you kind of give us just a quick sketch of sales to installation with regard to very little human contact? I know you mentioned the drones. But, for example, I was surprised, I read that you were able to install a system without any personnel in the house at all. And I was also wondering how sort of standard things like onsite visits to ascertain the system that set the house before the solar goes on, how those sort of things are being avoided? Thank you.

Lynn Jurich

Yes. So I think – so one, the drones just certainly can help avoid a person having to climb up on the roof. What we’re also doing is having the customer take photos of some of the things internally that normally we would do, so the electrical panel, as well as the rafters in the attic to check on the structural quality of the roof. So that’s really how we’ve adapted it, so that our crews don’t have to come inside, because we’ve gotten the interior photos from the customer themselves.

The interesting part about that, too, is the customer, I think, this is kind of helping with the customer buying as well. It’s just that escalation from their commitment that, as they’re part of the process, they’re much more likely to want to follow through with it. So it’s actually been a positive change for us, so possibly, one that we could stick with, so.

Jeffrey Campbell

That’s very helpful. Thank you. I appreciate it.

Lynn Jurich

Thank you. Okay. I think we have our last question from Sophie.

Operator

Yes. Your last question is from Sophie Karp from KeyBanc. Your line is now open.

Sophie Karp

Hi. Good afternoon. Thank you for taking my question. Good discussion and a lot of topics have been covered. I was just wondering, how this going to handle billing at this point? Most of the utilities have suspended disconnects for non-payment at this time. And could you remind us if that’s the same bill that consumers are getting?

In other words, if they are not getting paid, then you’re also not getting paid, or do you have your old billing? And what stance are you taking towards potential delays, like are you going to be disconnecting people taking the system down? Or are you taking a wait-and-see approach? Sort of what’s your policy there? Thank you.

Edward Fenster

So Sophie, this is Ed. So first, I might mention, we’ve shared our payment performance in the PowerPoint presentation, which we posted. And I discussed it briefly also on the call, by mentioning that our delinquencies in all baskets, 30, 60, 90 and 120 days are actually at a six-month low.

So it hasn’t really been a challenge for us at the moment. We do save people money. And eventually, you’ll have to pay your electric bill with the utility if you’re not. And so, we’re seeing good payment performance. We do bill separately, so we do not bill through electric utilities. So people receive their bills directly from us. In many instances, folks pay by ACH as well. And this is consistent with the performance that we saw in 2008 to 2011 in the financial crisis as well.

Sophie Karp

All right. Thank you.

Lynn Jurich

Okay. Well, thank you.

Operator

Now I’m showing no further questions. Please go ahead now.

Lynn Jurich

Great. Well, thank you again, everyone, for joining us and hope everyone stays safe out there. We’ll talk to you guys again soon. Bye-bye.

Operator

This concludes today’s conference call. Thank you for your participation and have a wonderful day. You may all disconnect.





Original source link

Transocean Won’t Avoid Restructuring In The Longer Run (NYSE:RIG)


Transocean (RIG) has just reported its first-quarter results, missing analyst estimates on both earnings and revenue. The company reported revenues of $759 million and GAAP loss of $392 million or $0.64 per share.

The net loss was driven by the loss on impairment ($168 million), interest expense ($160 million) and loss on retirement of debt ($57 million). Earlier this month, we have discussed Transocean’s decision to scrap older rigs Sedco 711, Sedco 714, Polar Pioneer and Songa Dee. This decision led to the above-mentioned non-cash impairment of assets.

While some may point to the non-cash nature of impairment, I’d argue that any impairment damages the balance sheet since it negatively impacts earnings and puts further pressure on the “total equity” line on the balance sheet which is important for some debt covenants. While Transocean has no near-term covenant problems, it cannot afford scrapping of modern rigs even if they are not expected to ever work because of the balance sheet consequences of such a move.

Transocean ended the quarter with $1.48 billion of cash on the balance sheet, $581 million of short-term debt and $8.58 billion of long-term debt. As of the latest fleet status report, the company had backlog of $9.6 billion. Also, the company has access to $1.3 billion available under the credit facility which matures in the summer of 2023.

At first glance, Transocean has enough liquidity for this year. In addition, the company may postpone capex on its second newbuild drillship Deepwater Atlas which currently has no contract and is unlikely to get a contract anytime soon due to the collapse of oil prices and the uncertainty regarding the economic recovery after the coronavirus pandemic.

At the same time, the company will have to face $1.21 billion of debt maturities in 2020-2021 and elevated capex requirements related to the construction of Deepwater Titan which has a major contract with Chevron (CVX).

Source: 10-K

Given the current market environment, it will be very hard for Transocean to refinance its near-term debt, and the company will have to rely on the credit facility to supplement its liquidity. Transocean bulls will point to the company’s backlog, but it is obviously not generating enough cash to deal with the current problems. In fact, Transocean had a negative operating cash flow of $48 million in the first quarter.

Even if Transocean manages to deal with the maturities in the next few years, it will face a major debt wall in 2023 since (in all likelihood) the credit facility would be fully used by that time, so we are talking about the need to refinance as much as $3.6 billion followed by almost $1 billion in 2024.

Previously, it looked like Transocean still had a chance to solve its problems because floater dayrates were starting to rebound while the company’s liquidity benefited from legacy high-margin contracts. However, the prospects of the dayrate rebound were killed by the coronavirus pandemic. We won’t see rising dayrates anytime soon. Instead, dayrates will be falling since many floaters were on short-term contracts for 2020 and they will find themselves in a fierce battle for scarce contracts.

Given both the contracting environment and Transocean’s finances, the chances to reactivate its massive fleet of cold stacked modern floaters are close to zero. Personally, I believe that many years of stacking will lead to ultra-high reactivation costs which will not be justified by the dayrate environment and will ultimately turn Transocean’s cold stacked rigs into scrap.

Thus, the pool of rigs that are able to work is in fact materially lower than the pro-forma fleet, and this limited pool of rigs will have to service all the debt load going forward. I’d note that Transocean’s main competitors are all set to restructure their debt in 2020 (Diamond Offshore (NYSE:DO) has already filed for bankruptcy), so the company will soon have to compete against drillers with much cleaner balance sheets.

In this light, Transocean clearly needs to restructure its debt because all it can do now is to prolong its agony. The company’s backlog and the available cash on the balance sheet provide it with sufficient liquidity for this year, so investors should not expect any forced bankruptcy. However, the smart thing to do (for Transocean as a business, not as a stock) is to let the balance sheet cash burn in the ordinary course of business, send some modern drillships which are 100% guaranteed to never work again to scrap (Discoverer Luanda, Discoverer Americas, Discoverer Clear Leader, Deepwater Champion), take the huge impairment, draw the money from the credit facility and start negotiating with creditors.

I do not know whether Transocean will follow the above-mentioned scenario, but I believe that the company will not be able to solve its problems in the longer-term because the market environment has changed dramatically and the industry will once again need years to rebound.

From a practical point of view, I’d expect that investors and traders who are still willing to bet on the recovery of the offshore drilling industry with the current capital structure will “migrate” from obvious bankruptcy candidates like Noble Corp. (NYSE:NE), Valaris (NYSE:VAL), Seadrill (NYSE:SDRL), and Diamond Offshore which has already filed for bankruptcy, to Transocean, so the stock could have material upside on positive days for oil.

In the longer run, I do not see how Transocean will avoid the necessity to restructure its debt load. Therefore, I maintain my view that it is a stock for trading rather than investing.

If you like my work, don’t forget to click on the big orange “Follow” button at the top of the screen and hit the “Like” button at the bottom of this article.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.

Additional disclosure: I may trade any of the above-mentioned stocks.





Original source link