Where Is SolarCity Stock Headed Post Tesla Offer?

Wall Street has been taken unawares by Tesla Motor's (NASDAQ:TSLA) shocking offer to buy SolarCity (NASDAQ:SCTY) on Tuesday. Surprisingly, the $2.8 billion all-stock bid has grabbed as much attention as such heavyweight issues like the presidential race, gun control controversy, ISIS terror and Brexit hullabaloo.

These two companies are exorbitant cash burners as they are striving to expand their portfolio. SolarCity is a San Mateo, CA, provider of solar power systems for homes, businesses and governments, while Tesla is a Palo Alto, CA, maker of electric cars and residential energy storage systems.

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Tesla announced its stock-swap buyout bid after the market close on Tuesday. The bid represents a 21% to 30% premium over SolarCity’s closing price on Jun 20. The news pushed SolarCity shares up about 14.72% to $24.31 in after-hours trading Tuesday, while shares of Tesla plunged 12.23% to $192.75. Obviously, shareholders of the electric car company didn’t feel elated about the proposed purchase.

On Wednesday, SolarCity shares climbed as much as 12.3% in the course of the session to settle up only 3.3%. The bullish run however was cut short in yesterday’s session with prices collapsing 13.6% from the prior day’s high to a low of $20.57 at one point. However, the stock recovered somewhat to close up 0.46% at session’s end.

As of now, shares of SolarCity haven’t shown as much of appreciation as was expected following the bid. What are investors worried about? Do they feel that the deal is not good for them?

SolarCity’s Unflattering Scorecard

Undoubtedly, the deal would make Tesla a vertically integrated clean energy powerhouse that would have a dominant share in the residential solar market and a major share in the battery storage and electric vehicle markets as well. Despite these potential advantages, analysts are skeptical of the deal on many counts.

We cannot ignore the fact that this leading U.S. residential solar installer has been struggling with its stock down nearly 57% year to date after incurring consecutive quarters of losses. The company’s rising expenses and repeated losses have stirred investor concern over its business model.

SolarCity, run by two of Elon Musk's cousins, has consistently lost money providing loans to folks to buy solar panels. Again, risks associated with the company's high debt management, poor profit margins, weak operating cash flow, generally disappointing stock performance and feeble bottom-line growth make it more and more unattractive.

M.J. Shiao, GTM Research's director of solar research, is of the opinion that "Solar is growing, but there's some regulatory uncertainty that plays a role here.” He believes “SolarCity in particular has been hit hard simply because they've missed their own targets and forecasts."

Investors’ uncertainty may also have grown on the concern whether SolarCity’s cost of capital structure would support profitable economics down the road.

Does the Tesla Offer Undervalue SolarCity?

Some analysts believe that the "premium" offered does not give SolarCity enough credit for the future growth this business can offer.

Musk is optimistic by the fact that solar installations are poised to rise 119% this year, as per the GTM Research's Solar Market Insight Report, published in conjunction with the Solar Energy Industries Association. A major part of that growth is likely to be in the industrial sector as companies look to benefit from cheaper, cleaner energy.

SolarCity accounted for 34% of residential installations in 2015, compared with 12% for Vivint Solar (NYSE:VSLR) and 3% for Sunrun (NASDAQ:RUN) . During the last reported quarter, commercial installations surged 114.3%, while residential installations grew 32.4% for SolarCity.

SolarCity already has over 2 gigawatts of solar panel capacity installed on rooftops across the U.S. These systems are generating power, which residents and businesses pay for on a monthly basis. The contracts typically run for a period of at least two decades.

To Sum Up

A combination platter of electric vehicles, rooftop solar, and battery storage might be an attractive one for consumers looking to green solutions in the future. Though solar and storage are not everyday meals for the normal consumer, Tesla and SolarCity have name-brand recognition, owing to the power of Elon Musk. And if the deal goes through, SolarCity would gain a new retail channel, Tesla stores.

As Tesla expands its international reach, SolarCity could benefit from expansion of retail stores, or speed up its solar-plus-storage offerings in markets like Australia or Germany.

At the same time, SolarCity initiated a program aimed at cities, remote communities, campuses and military bases to design and operate small, independent power networks called microgrids. Peter Rive, one of the company’s founders and its chief technical officer, called the system “a template that can be scaled up to basically be the next-generation grid.”

The debate about the practicality of such a merger between kindred companies situated about 17 miles apart in Silicon Valley will continue until the market sees its palpable outcome.

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