Enphase Stock: Strong Fundamentals, But Overvalued (NASDAQ:ENPH)
Phase (NASDAQ: ENPH) is a fantastic company with exceptional leadership and products. It is active in a hot sector: solar inverters, residential energy storage and electric vehicle chargers. It has just posted another explosive quarter and the stock market has rightly rewarded it with a new ATH.
I bought more shares of Enphase in January. The recent peak made me reduce my position again because the valuation is less attractive. It’s still a big business, though.
I’ve talked about Enphase before as a company that handles inflation with no problem. I also talked about its growing markets and outstanding products. These articles give more information about this performing artist.
Excellent second quarter and outlook
Enphase again showed its strength in the second quarter. Revenue increased 67% year-over-year and its margins improved. It produced a record free cash flow of $192 million, one of its best cash-earnings conversion rates to date. The outlook is also stunning, with revenue growth of 73% at the midpoint of the forecast. The forward GAAP margin forecast also increased to 38% to 41%.
Enphase has a long history of ending at the top of its forecast. The improved margins come from its latest inverter, the IQ8. Enphase’s technological leadership remains a key advantage that both provides customers with the best experience and gives Enphase best-in-class financial results.
Growth: mainly organic, some external
As I just said, Enphase’s past growth is undeniably rapid and has recently even accelerated. The company is already very profitable and should be able to maintain this profitability. Growth comes both organically and with acquisitions. The company has a targeted acquisition policy that aims for margins equal to its current products and high compatibility with its business. Overview of its latest acquisitions:
- March 15, 2022: SolarLeadFactory adds lead generation capabilities for Enphase installers.
- January 3, 2022: Enphase adds EV chargers by acquiring ClipperCreek. He is now looking to acquire additional loader software.
- December 21, 2021: 365 Pronto is a software platform that connects installers, asset owners and service providers.
I expect more small acquisitions that add value to customers and installers. Acquisitions constantly expand Enphase’s proposition in its current markets.
Organic growth remains promising for Enphase. In the United States, a total of 4.2 GW was installed in 2021. The forecast for 2022 is 6 GW and 7 GW in 2023. Enphase should at least maintain its market share and profits thanks to the increase demand for electric vehicle batteries and chargers. EV batteries, grid services and chargers enhance Enphase’s potential revenue per household. An increasing number of houses and more income per house create a flywheel effect.
The revenue growth rate in 2022 will be around 60% to 65% based on the current third quarter guidance and assuming a strong fourth quarter. 2023 could easily be north of 30% growth as Enphase introduces portable battery and improved home battery.
Free cash flow and returns to shareholders
Free cash flow is vital because it is what a company could use for shareholder returns. Potential buyouts or dividends are only possible if the company generates sufficient cash. I’m also looking at stock-based compensation, as it could distort free cash flow. SBC is not a cash expense but has an impact on shareholders.
Enphase has strong free cash flow conversion as it turns 0.27 of every revenue dollar into cash. It also uses a lot of SBCs to pay employees. By correcting SBC, the FCF is still healthy but much less.
Returns to shareholders
Enphase has used stock buyback programs to return cash to shareholders in the past. In the fourth quarter of 2021, it repurchased $300 million in shares at an average price of $196.98 per share. There is $200 million available under the program to buy back more shares. Management said the following on the earnings call regarding these potential buyouts:
If both of these are supported, then we are considering buying back shares, we are looking at our stock price, do we believe our stock price is below a conservatively estimated intrinsic value? And it’s not my idea. It was Warren Buffett who taught it to everyone.
It does not appear that Enphase will repurchase more shares at the current price.
The dividend policy also makes it clear that it does not plan to distribute cash to shareholders now.
I expect Enphase to hoard more cash until it can repurchase shares at a reasonable price.
Enphase’s balance sheet is looking good. It has approximately $1.25 billion in cash and marketable securities for Capex, acquisitions and buyouts. The long-term convertible debt of $1.2 billion is only due in 2026 and 2028. The current form of the business should facilitate debt refinancing as payment dates approach.
Enphase is a fast-growing company that won’t be cheap anytime soon. It has traded at high ratios over the past two years, and with good reason. The company has successfully executed its strategy of rapid and profitable growth.
I consider Enphase to be buyable at an EV/FCF ratio below 70 and I reduce my position further if EV/FCF exceeds 100. The chart shows that EV/FCF is still well below 100. If I correct FCF for the SBC, it increases significantly to ~145. Looking ahead, I estimate FCF-SBC in 2022 at ~$400M. Enphase is currently hovering around an EV/FCF ratio of around 100 based on this estimate.
Even a large company can become overvalued, and Enphase is heading into the overvalued zone. These metrics are rapidly diminishing as it has more exceptional quarters.
As I just described, the biggest risk to the stock is the current valuation. Enphase is a big company but an expensive stock. That makes me cautious about the business today.
Renewable energies and solar benefit from numerous government supports. The evolution of potential tax credits has often strongly influenced Enphase’s share price. U.S. tariffs on Chinese solar panels have also often moved Enphase shares. Enphase’s business is robust and often unaffected by these policies.
I like Enphase as a company. It thus exceeded its forecasts and analysts’ expectations quarter after quarter. He builds great products with loyal installers and satisfied customers. It has made targeted value-added acquisitions that fit perfectly into its business. The sector is proliferating, and Enphase is moving even faster.
The stock price is also worth considering, primarily how it compares to valuation metrics. I feel like it’s pretty expensive right now and I’ve pared back my position. Long-term investors will object, but even large companies can become too expensive. When I wrote about Enphase in May, some investors already found it too expensive, and shares have risen 72% since then.