Oil and gas giant Total is set to buy 60 percent of solar panel maker SunPower June 14 after the companies received approval from the European Union. The great unknown is whether this combination changes the energy industry or merely gives SunPower some cover as the solar industry enters a rocky period.
The EU approval, announced on Tuesday, clears the way for Total to close its all-cash offer for 60 percent of SunPower's outstanding shares in a deal valued at $1.4 billion. Given that the two companies received U.S. regulatory clearance already, the deal is set to close. Total will pay $23.25 a share for SunPower, a 45 percent premium from the April 28 closing price, for its stake.
Analysts said that Total's acquisition is a watershed event that validates the solar panel industry. For Total, SunPower is all about diversification of energy sources. Total will be able to leverage its government relationships around the world to get SunPower sweet deals. For SunPower, Total's balance sheet means it has lower cost of capital for big projects just as pricing pressure increases. Bottom line: Oil money will be financing solar installations.
If you combine Total's move into solar panel manufacturing with General Electric's recent plunge into the sector (also via acquisition) it's clear solar has passed a key inflection point.
The big debate, however, revolves around whether Total's acquisition of SunPower means that solar manufacturers can't stand on their own without subsidies. SunPower is one of the strongest players in the industry, but it also projected a net loss for the second quarter due to the end of Italian subsidies. Shares of SunPower were downgraded by Jefferies on Wednesday.
SunPower projected a net loss of 30 cents a share to 50 cents a share in the second quarter. Revenue will be $550 million to $600 million. Non-GAAP earnings will be between a loss of 5 cents a share to a profit of 10 cents a share. That earnings guidance reflects a good bit of uncertainty. LDK Solar also provided a weak outlook.
Tom Werner, CEO of SunPower, said Tuesday that "changes to Italian solar policy this year have had a significant impact on the global solar market." The plan for SunPower is to move its product portfolio away from Italian power plants to residential roof and commercial installations. Italy is about a third of SunPower's business.
Nevertheless, Werner said that profit margins will be in the range of 17 percent to 19 percent for 2011 due to "global pricing pressure" that will last throughout the year. SunPower is projecting 2011 non-GAAP earnings of $1.20 a share to $1.70 a share on revenue of $2.8 billion to $2.95 billion. The bottom line will range from a loss of 10 cents a share to a profit of 50 cents a share.
Despite near-term uncertainty, SunPower equates to a worthwhile hedge on Total's oil reserves.
Barclays Capital analyst Lucy Haskins said in a research note that Total's purchase of SunPower is an inexpensive way to play the energy market's future. Haskins wrote:
This is the most significant step that Total has taken in the renewables business and is likely to reflect its view that the world’s energy needs cannot be met by hydrocarbons alone. This follows the acquisition of a further 50% stake in Tenesol earlier in April, and Total has asserted for a number of years that photovoltaic solar is one of the most cost effective forms of delivering renewable energy.
Total is also moving into solar because its oil reserves trail the competition. Haskins noted that Total replaced 81 percent of its reserves organically in 2010. Shell replaced its reserves at an 118 percent organic rate and BP checked in at 106 percent. Organic growth means that these oil giants didn't have to go out and acquire reserves.
Executives at the oil giant said that the SunPower deal gives Total a footprint in solar that's about the "right size." Total evaluated more than 200 solar companies before buying SunPower.
One big element in the Total-SunPower deal is $1 billion in corporate guaranteed letters of credit to fund the solar panel maker's growth. In a nutshell, SunPower can finance projects inexpensively now than if the company had to take on debt to build out.
Morgan Stanley analyst Smittipon Srethapramote said:
We also expect Total to leverage its relationships with governments that it has deals with to help SunPower win bids for utility scale solar projects in the 100MW+ scale, although this will likely be a medium term development.
Once the Total-SunPower deal closes there will be a hybrid oil-solar juggernaut. In theory, solar will pick up any slack should oil demand fall off years from now. Kaufman Brothers analyst Jeffrey Bencik said when the deal was closed that the Total-SunPower deal was "transformational" to the industry.
Many investors have taken a skeptical view on the long-term viability of the solar industry, due to its current dependence on FiT's (incentives) and government subsidies. We think that this investment, coupled with GE's recent announcement to enter the space, validates our belief that the solar industry is closer to achieving grid parity without incentives than most people are willing to accept.
If Bencik's theory about grid parity---the concept that solar can be as cheap as hydrocarbons---is correct, it's possible that the solar industry will be consolidated rapidly. These companies can generate good internal rates of return for oil and energy giants. Just the fact that SunPower was viewed as a promising purchase indicates a maturity of the industry. After all, you didn't see Total buying up wind farm assets just yet.
In the end, Total and SunPower indicate that the future will be large integrated energy companies. Energy sources---oil, solar, wind etc.---will pieces of a larger business portfolio. Werner said last month on SunPower's earnings conference call that the company has a "complimentary vision." of the future.
Total has a strong presence in a 130 countries and the general idea is to bring SunPower to those markets.
Together, we have a complimentary vision of what it takes to be a long-term winner in this industry. The $1 billion credit support agreement with Total will improve our cost of capital, and make available restricted cash and cash collateral that currently resides on our balance sheet. In addition to the credit support agreement, there are other synergies between Total and SunPower, including R&D, and Total's global market footprint.
For its part, SunPower is ready for its adventure with Total. Werner said that employees are mostly on board with the Total deal. However, there are a few employees who aren't happy about the transaction with Total, acknowledged Werner.
We put a lot of effort into our communications because we wanted our employees to react to data and not to rumor and innuendo and emotion, and they did a wonderful job of that. And they see the opportunity for us to take the solar industry to that mainstream stage and how radically transformative this is, because they are well aware of the fact that it takes a lot of capital to develop projects and to build factories. So I think our employees were readily able to see the financial benefit. Then they heard about R&D and they heard about other parts of the value chain and the 130 offices, so they all felt great about that. There was a little bit of concern of, gee, it would be great if it wasn't an oil company. And we pointed out to our employees, it's an energy company and it's an energy company that definitely is in the oil and gas business, but they are taking oil and gas money and they are putting it into solar and what could be more transformational and direct than that.