Mad Maxeon: Beyond The Roof – Seeking Alpha

Comparing Maxeon Solar (MAXN) since it came public in August to the 20%+ run-up in the TAN ETF over the same period, it’s clear that the company is unloved relative to its solar peers, but for all the wrong reasons. Maxeon should be trading at a premium, as it is now operating from a superior competitive position with no debt and arguably superior technology over peers like JinkoSolar (JKS) and Canadian Solar (CSIQ), coupled with drastically improving manufacturing capabilities relative to the old SunPower (SPWR). Furthermore, if the Maxeon 7 panels can achieve the expected efficiency and cost reduction targets, Maxeon could become the dominant panel manufacturer with a significant technological moat. Maxeon is an underfollowed and underappreciated solar company with only two analysts providing coverage at the time of this writing, suggesting share price discovery is still in the early stages.

The Spin-Off

Maxeon, which is headquartered in Singapore, fully came into existence a few months ago as a spin-off of SunPower, with investors in SPWR receiving 1 ordinary share of MAXN for every 8 shares of SPWR. As a result of this 1-for-8 transaction, MAXN had roughly 21 million shares outstanding prior to the investment by Tianjin Zhonghuan Semiconductor (TZS). TZS’s investment of $298M for roughly 29% ownership, implying a $1 billion valuation brought the total ordinary share count up to ~30 million shares. Prior to the spin-off, French oil giant Total (TOT) owned ~88 million shares of SPWR, giving it ~11 million shares in MAXN, or an approximate 35% ownership stake. Maxeon summarized this with the following graphic:

(Source: Maxeon Investor Presentation August 2020)

Maxeon’s 20F filing clearly states assets contributed by SunPower as a result of the spin-off, which I highlight below:

  • SunPower’s non-U.S. manufacturing business
  • SunPower’s international sales and distribution business outside of the 50 U.S. states, the District of Columbia and Canada
  • 20% interest in Huansheng Photovoltaic
  • 80% interest in SunPower Systems International Limited
  • 25% interest in Huaxia CPV Power Co. Ltd.
  • 8% interest in Deca Technologies Inc.

The overall results of the spin-off are two: more pure-play companies with SunPower focused on installation and sales inside the US and Canada while Maxeon focuses on equipment production, with exclusive supply agreements connecting the two companies discussed later. SPWR keeps its cash and debt obligations, while Maxeon begins operation with cash from the TZS investment and $200 million in debt raised from its 6.5% convertible notes minus transaction expenses. Maxeon inherits the old SunPower’s above-market polysilicon contract and becomes a 20% owner in the HSPV joint venture, all of which is discussed in more detail later.

Business Structure

As a near pure-play solar panel manufacturer, the easiest way to understand Maxeon is by separating its premium panel production from its performance series, which largely falls along distributed generation and utility scale lines.

Premium, Integrated Back Circuit Panels

IBC panels, which in the past have in many ways been globally synonymous with the SunPower brand, having shipped 17x more IBC than the next closest competitor, known for their:

  • Efficiency advantage over commodity panels of ~3%
  • Designed out thermal cycling degradation and reduced fire risk
  • Industry-leading reliability with a .005% panel warranty return rate

Maxeon’s cells have always had a clear technological advantage over competitors when it comes to efficiency, but historically paid that price in process complexity, which is why Maxeon Gen 7 is so groundbreaking.

Unlike commodity mono-PERC cells that have focused on cost reduction for a while after pushing up against efficiency limits, Maxeon has been improving efficiency, and Maxeon 7 shows there’s significant room for improvement on the process side.

(Source: IBC Technology and Manufacturing from 2020 Capital Markets Day)

Maxeon produces the IBC cells at its factories in Malaysia (Fab 3) and Philippines (Fab 4), and panels in Mexico and France, with a total 1.5GW of annual capacity. It owns over 500 patents related to this technology globally, and exclusively licenses patents from SunPower in the US. To date, the company has not been able to recognize most of the benefits of Maxeon 5/6, as these cells only accounted for roughly 10% of its cell manufacturing mix.

(Source: IBC Technology and Manufacturing from 2020 Capital Markets Day)

2022 is shaping up to be a major inflection point, as the combination of Gen 5/6 ramp combines with the end of the company’s above-market polysilicon contract discussed later. That momentum continues with the development of Maxeon 7, possibly available in 2023, and the potential inclusion of G12 wafers, a specialty of new investor TZS. With no net debt and a capital infusion, Maxeon can make the investments that the old SunPower struggled to implement in order to build its moat around a product that commands a significant premium to commoditized panels.

Performance, Shingled Panels

The shingled panel business is a bit more complicated, but it’s worth understanding as it’s the key to Maxeon’s growth in the large-scale solar market where the old SunPower has historically struggled to build momentum. Maxeon’s 20% ownership in a joint venture known as Huansheng Solar Photovoltaic (HSPV) is critical to its future success in this market. The other 80% of HSPV is owned by TZS (77%), which is also a 29% shareholder in MAXN, with the remaining 3% owned by YXIP. Wang Yan, CEO of HSPV, described YXIP as its Yixing government shareholder, which, in my experience, is a common occurrence in Chinese companies. This graphic helps illustrate the inter-company dependencies between MAXN, TZS, and HSPV, although it requires further explanation:

(Source: Large Scale Solar from Maxeon 2020 Capital Markets Day)

Because TZS has a majority stake in HSPV and a significant stake in MAXN, shareholders of MAXN will want to be assured that TZS’s interests are aligned with MAXN, and that MAXN has safeguards in place should the interests not align; I believe both these criteria are met.

Benefits MAXN provides to TZS through HSPV:

  • HSPV provides an additional buyer for TZS’s wafer supply, as MAXN provides additional sales channels for the end-product.
  • Increased demand for panels through MAXN to end-users means increased demand for panels from HSPV and HSPV profits for TZS.
  • HSPV relies on shingled technology patents owned by MAXN.

Benefits TZS provides to MAXN through HSPV include:

  • MAXN gains access to industry-leading efficient wafers manufactured by TZS and incorporated by HSPV.
  • MAXN gains access to a large supply of competitively produced panels with very limited upfront capital requirements.
  • TZS benefits from MAXN profits, which provides some incentive to offer reasonable prices to MAXN through HSPV.

For these reasons, the interests of TZS and MAXN are strongly aligned, and it builds on a partnership in place since at least 2017. Nonetheless, it’s good to know that MAXN has additional safeguards in place.

  1. As stated in Maxeon’s 20F filing, “We have the right, but not the obligation, to take up to 33% of Huansheng’s capacity for sale directly into global DG markets outside of China and power plant markets in the United States and Mexico regions, and a further 33% for sale into global power plant markets with the exception of China, the United States and Mexico through a marketing joint venture in which we own an 80% stake.” This is extremely important, because unlike on the IBC side, where MAXN owns the cell and panel manufacturing process, it only has a minority stake in HSPV. The company states as a very clear risk that, “If the operations of our joint venture was disrupted or its financial stability impaired, or if it was unable or unwilling to devote supply to us in a timely manner, or at competitive prices, our business could suffer.”
  2. Maxeon’s patent ownership provides significant protection in many markets that would make violations expensive and mutually destructive on all sides.
  3. Finally, while not necessarily a safeguard, TZS has a good reputation and track record with several thriving joint ventures.

Despite the complications and risks inherent in this business structure, the upside justifies it as described above in the benefits HSPV provides Maxeon. Specifically, MAXN has the right to purchase two-thirds of HSPV’s output, despite contributing no capital other than discretionary spending to maintain a significant stake in the joint venture. Maxeon gains access to China’s supply and manufacturing ecosystem, which could take HSPV’s capacity from roughly 2GW to 8GW in 2021. Finally, the company gets efficient scaling of its R&D and patent spending, applying its shingling technology to produce cost-efficient panels with industry-leading efficiency and reduced degradation due to thermal cycling.

Maxeon-SunPower Relationship

Finally, I want to talk about the ongoing relationship between Maxeon and the new SunPower to round out the Business Structure discussion.

While SunPower and Maxeon are officially separate entities and their paths have the potential to diverge over time, their current operations are mutually beneficial and are likely to remain so, especially with regard to IBC panels, for a while. This is explicitly evident through the licensed patents from SunPower in the US and exclusive supply contracts described in Maxeon’s 20F filing. “In North America we have a two-year renewable exclusive contract with SunPower for our products to be used in its distributed generation business, including installations and energy services.” “One year for products sold directly by SunPower to end users for use in other applications, including multiple-user, community solar products.” Furthermore, they make it clear that these agreements do not apply to power plants, implying that these agreements primarily apply to the IBC side of the business. That being said, the old SunPower’s JV HSPV began in 2017 to produce Shingled Performance panels, and those operations have been transferred to Maxeon. For that reason, SunPower and Maxeon have a mutually beneficial relationship on the utility side, but there don’t appear to be any binding contracts in that regard. Additionally, SunPower’s network of 500+ installers in the US and Canada provides Maxeon with an end-market, and SunPower receives a low capital source of panels. Finally, Total S.A. remains a substantial shareholder in both SunPower and Maxeon, giving all three companies a vested interest in the continued growth and reputation of the SunPower brand.

Financials, Balance Sheet and Obligations

As of March 29, 2020, Maxeon holds $238 million in total debt, $374 million in cash and $137 million in undrawn capital if needed. Management shared CapEx expectations of $75 million, $160 million and $150 million in 2020, 2021 and 2022 respectively. Priorities for this capital investment include:

  1. Upgrades to the IBC product line, taking from Gen 2 to Gen 5/6 at Fab 3 in Malaysia
  2. Expected, although not required, investments in HSPV joint venture to maintain a significant stake
  3. Research & development towards Gen 7 and other

The largest sources of debt and financial obligations are $200 million in convertible notes and $220 million in contract polysilicon obligations. The convertible notes have a 6.5% coupon with a conversion premium “~15.00% premium over the 15 trading day average VWAP beginning on, and including, the fifth trading day after the first day of regular-way trading.” By my rough approximation, the volume weighted average price is around $19/share, so I don’t believe existing shareholders will experience dilution in relation to these notes until 15% higher, ~$22/share. Maxeon shareholders who received shares as part of the SunPower are likely very familiar with SunPower’s problematic silicon supply contract with Hemlock Semiconductor, as the above-market price obligations have haunted SunPower’s shareholders. That take-or-pay contract obligation was passed along to Maxeon as a result of the spin-off, while the other contract ended in 2019. You can see the impact to Maxeon’s financials in 2019 versus expected targets:

2019 2020
Revenue Growth 31% >20%
Adjusted EBITDA -$83.1 >12%

(Source: Financial Overview from 2020 Capital Markets Day)

With an attributable loss of $145 million in 2019 from the polysilicon contract, it’s a significant impact on the financials of a smaller company like MAXN. On the bright side, the bulk of those long-term contracts are in the past, and with a remaining net obligation of ~$220 million, of which ~$160 million are expected to be above market expiring in the 2021-22 time frame, investors can expect a significant and sudden improvement in financial results in the next few years.

Competitive Advantages

Historically, SunPower has been hindered by a large debt burden, which made upgrades on the IBC side and expansion on the Performance side difficult. In many ways, Maxeon is the result of a SunPower plan at least 3 years in the making, giving Maxeon numerous advantages. First, the company has an impressive Distributed Generation global channel footprint and a recognized brand.

(Source: Maxeon Investor Presentation August 2020)

DG trends are moving in Maxeon’s favor, as illustrated in Europe, as increased shipments have been coupled with increasing ASP premiums:

(Source: Maxeon Investor Presentation August 2020)

I believe investors can expect the IBC business to grow slowly with an improved cost structure tied to upgrades from Gen 2 to Gen 5/6, and eventually Gen 7, while the Performance business grows faster, facilitated by HSPV expansion plans. That trend has already started to play out over the last several years and seems likely to gain momentum going forward.

(Source: Maxeon Investor Presentation August 2020)

Maxeon also has a differentiated channel model with system solutions beyond the module. One example is the recent Enphase agreement facilitating AC panel production alleviating the need for an independent system-level inverter, which drives down installation complexity and cost. Management set the expectation for a similar strategy around storage, and as installation costs as a percentage of overall system price have increased, simplifying the installation process becomes increasingly important, with the potential added benefit of enhanced system reliability through pre-integrated components.

The IBC business has a significant moat from lower efficiency, lower-cost panels, as certain applications can be extremely space-constrained. Australia’s Barangaroo area of Sydney is a great example, where Maxeon solar panels were placed in skyscrapers with high electricity needs relative to the available installation area. Another futuristic example comes from a company called Lightyear that integrated Maxeon cells with a Tesla Model 3. It’s an integrated car design that’s clearly not ready for prime-time, but it does hint at the future of solar and the desire to push limits with cutting-edge startups utilizing Maxeon’s technology.

Rounding out the advantages discussed in more detail in other places are:

  • An extensive patent portfolio
  • Strong balance sheet relative to competitors
  • Access to capital efficient supply and manufacturing facilities
  • Industry-leading efficiency, reliability, safety, and degradation profiles

Risks

In general, the risks associated with Maxeon have all been inherited as a result of the spin-off from SunPower, so I believe it’s a fair statement to say that if you received MAXN shares as a result of SPWR ownership, then you should already be comfortable with Maxeon’s risks. As stated in the company’s 20F filing, there are risks associated with:

  • The HSPV joint venture and the lack of control around supply and pricing, which is mitigated by an alignment in all parties’ interests as well as the right, but not obligation, for Maxeon to purchase HSPV-produced panels.
  • The above-market polysilicon contract discussed in detail in the financials section of this article.
  • Changes in government policies as it relates to trade, tariffs and subsidies.
  • Potential costs associated with protecting IP.

Most other risks, such as solar panel oversupply or demand shock due to a global recession, are likely to affect the entire industry, and a company with a solid balance sheet like Maxeon should be able to weather those conditions as well, if not better, than most.

Valuation

There are two relatively straightforward methods to valuing MAXN, with the simpler being to trust TZS’s implied valuation of $1 billion. With ~30 million shares outstanding and a current price per share around $17/share, the market is currently valuing Maxeon near $500 million, or roughly half the price TZS paid. It should go without saying that the investment TZS made was primarily for the purpose of establishing a strategic partnership. Nonetheless, it suggests that Maxeon is undervalued relative to the price paid by TZS, and TZS presumably had access to information that was at least as good as other large shareholders like Wellington Management Group and Vanguard.

The other valuation method compares MAXN to industry-leading peers like Canadian Solar.

MAXN CSIQ
Net Cash/Debt +$136 million -$1.2 billion
Enterprise Value ~$500 million ~$3.5 billion
2019 Revenue $1.2 billion $3.2 billion
Revenue Growth ’18 to ’19 31% -14%

I believe Canadian Solar to be an industry-leading company, and have owned shares in the past, but the recent run-up in share price not only in CSIQ, but the solar industry as a whole, shifts the risk-reward investment thesis in favor of MAXN at current valuations. Given Maxeon’s lagging market position to this point, I believe there is significant room for quick, high-quality improvement as the company uses its capital infusion to upgrade the IBC business and expand the Performance business that is going unappreciated by the market. Given the tailwinds MAXN will experience over the next 3-5 years, I see no reason its valuation shouldn’t be close to that of CSIQ. Given the recent run-up in CSIQ, and the TAN ETF reaching levels not seen for a decade, I’d rather be conservative and use CSIQ’s 5-year EV average, which is closer to $2 billion. I see this as a reasonable valuation for Maxeon comparing the fundamentals of the two companies representing roughly 4x upside for MAXN at today’s share price around $17.

Wrapping Up

Maxeon is an underfollowed company being treated as an untested entrant to the solar space, when the reality is that it has a dependable history of operations as part of the old SunPower with plenty of information available for investors willing to take the time to dig into the presentations and filings. MAXN is set to experience numerous tailwinds, including:

  • IBC cell generation upgrades to efficiency and cost structure.
  • Performance panel capacity expansion through the HSPV JV.
  • The sun setting in 2021-22 on a long-term polysilicon supply contract responsible for significant losses in the past.

After substantial stock price appreciation in most solar industry participants relative to MAXN’s stagnant share price, I believe the company represents the safest choice in the solar industry for capital preservation and potential stock price appreciation at the moment.

Disclosure: I am/we are long MAXN, SPWR, TAN. 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.

Source: https://seekingalpha.com/article/4378302-mad-maxeon-beyond-roof

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