Despite 30% Rally, SolarCity Still Underperforming Other Solar Stocks

SolarCity , a leaser of solar panels to residential and commercial consumers, has underperformed other major solar companies, even after the company jumped by 30% over the past week, SolarCity's stock is up by 19% since the beginning of the year. In comparison, solar panel manufacturers such as First Solar and SunPower  have spiked by over 25% and 33%, respectively, so far in 2014. So what's holding back SolarCity?

SolarCity, unlike First Solar or SunPower, is mostly engaged in the business of leasing solar panels. This business, however, is facing ongoing falling solar panel prices, which could make, over time, leasing a less attractive option. According to the Solar Energy Industries Association, the average price of a photovoltaic installed system dropped by 15% during 2013.

But for now the company continues to increase its client base, revenue, and retained value. As of the end of last quarter, SolarCity estimated its retained value from all contracts at $1.291 billion -- nearly 220% higher than last year; its number of contracts increased to over 100,000 -- a 97% growth. This sharp growth in number of contracts and future cash flow was accompanied by a higher outlook for 2014: SolarCity expects to deploy between 500 megawatts and 550 MW -- around a 5% bump from its initial estimate. In 2015, the company expects to increase its guidance to 950 MW deployed.

Despite these impressive numbers, SolarCity didn't reach its goal in terms of megawatts installed during the quarter. The company's guidance was for 100 MW but only deployed 82 MW. This puts into question its ability to reach its annual guidance.

Moreover, the company's gross profitability dropped by 2 percentage points to around 25% in the first quarter of 2014. Most of this fall in profit margin is due to the sharp rise in operating expenses. Another way to look at the rise in operating expenses is to consider the following: Back in 2013, its retained value per watt forecast was $1.51/W. Its annual operating expenses per watt were $0.59 -- this comes to a profit margin of 60%. As of the first quarter of 2014, its retained value per watt forecast grew to $1.56/W, but its operating expenses per watt were $0.82. This comes to a 47% profit margin. This very crude calculation only demonstrates the drop in profitability, which could remain low if SolarCity doesn't bring down its operating expenses.

Therefore, the company's narrower gross profitability may have eclipsed the rise in number of clients and revenue and dragged down the company's stock.

Another reason that may have pulled down SolarCity's stock is the recent decision of the Department of Commerce to raise tariffs on solar panels made in China. This news is likely to affect SolarCity, which also imports panels from China. Following this announcement from the Department of Commerce, SolarCity stated it has signed a contract with REC Group to purchase at least 100 MW and up to 240 MW for 12 months starting the beginning of the last quarter of 2014. This means that the contract could fulfill up to a quarter of its 2015 guidance, but it could still increase its costs. The company earlier this week announced the acquisition of Silevo in order to build a solar panel factory in New York in the coming years, which may bring its operating costs down in the coming years. But until this project comes to fruition, the Department of Commerce's decision could have a negative impact on SolarCity's cost structure, which may reduce its valuation.

Final note
SolarCity is facing challenges in bringing down its operating costs, especially now with the higher tariffs on solar panels made in China. Perhaps its last couple of agreements (one with REC Group and the other with Silevo) may reduce, down the line, its operating expenses. In the meantime, if the company doesn't bring down its costs and pick up the MW installed in the coming quarters, these challenges could further cut into the company's value.