SMA: far from out of the woods

Meet the new trend, same as the old trend. Or is it? Finnish mobile phone provider Nokia’s fortunes are well known in the technology world: market leader to cellar dweller in the blink of an iPhone. By placing an illustration of Nokia’s plummeting market share adjacent to SMA’s, some stark similarities can be observed.
Smart Solar Consulting has calculated the market share development for the once dominant player in the PV inverter industry, Germany’s SMA. The company played an equally crucial role in establishing distributed PV power as a viable source of electricity as Nokia was instrumental in the widespread adoption of mobile communications. In 2009, SMA captured global market share in the PV inverter industry of above 50%. Except for the fact that the downturn of SMA’s global market share in the inverter industry began two years later than for Nokia, namely in 2010, the chart of SMA’s market share development up until 2014 looks alarmingly similar to the development of Nokia’s market share in the smartphone market segment.
There are a striking number of similarities between the rise and demise of Nokia in its industry and the changeof fortunes at SMA. Yet in 2015 SMA has managed to turn the negative trend around and regain market share, something that Nokia never achieved once its market share began to erode. But is it a “dead cat bounce” being witnessed with SMA, and why did the company lose market share so rapidly?
The answer to this second question is rather simple: the German market. In the graph to the right Germany’s annual PV installations since 2007 as well as SMA’s inverter shipments are illustrated, over the same period – both expressed in MW. As the chart shows, between 2007 and 2012 both figures match extremely well, the difference between the two columns only amounting to a few percentage points. In 2008, when Germany’s global PV market share for the first time since 2004 fell below 50%, SMA was not negatively affected because of its robust supply to Spain. Many of the larger PV projects in Spain in 2008 were executed by German EPC firms, which already were loyal customers of SMA.

The German collapse

But insulation from the declining importance of the German market wouldn’t last. Strong European demand was crucial for SMA riding out falling inverter prices. So when the German market halved in 2013 and then again in 2014, SMA was hard hit. While SMA had kept expanding the international share of its sales ever since 2009, Germany was still by far its most important market, accounting for more than 30% of shipments in 2013.
When new PV installations in Germany declined by 4.3 GW in 2013 compared to 2012, SMA managed to limit the decline in its inverter shipments to 1.8 GW year over year. SMA benefitted from the fact that it had invested in PV markets outside of Germany and Europe early on such as in Japan and in the U.S. These countries were among the leading growth markets for the PV industry over the past three years. In 2014, Germany’s PV installations fell by another 1.4 GW whereas SMA’s inverter shipments only declined by 300 MW year on year.
SMA’s financial problems began in 4Q12 when the company had to report an operating loss, the first since the company had gone public in 2008. The string of quarterly losses continued for another two and a half years until 3Q15. In the meantime, the accumulated operating losses over nearly three years amounted to more than €280 million ($311 million).

Staff cuts

Along with SMA’s reduced market share, a further challenge aggravated the situation: average selling prices (ASP) slipped annually by a double-digit percentage rate. SMA reacted by initiating headcount reductions: 10% below 2012 levels by 2014. However, when shipments drop by 30% over the same period (and ASPs decline more than 10% YoY), a headcount reduction by 10% is not going to be sufficient to compensate.
However, the task for SMA to adjust its cost basis was more complicated than it appears from a bird’s eye view. Since SMA had to increase its international sales efforts and expand to new countries, the company had to grow its employee base internationally while downsizing the team in Germany. Between 2012 and 2014 SMA shed some 25% of its employees in Germany. In 2012, SMA still considered itself well on track to master the challenges that internationalization imposed on the company. However, there remained what proved to be a tempting mirage on SMA’s horizon: China.

A very costly mistake

With more than 10 GW of PV installations China had grown to become the biggest national market for PV systems in 2013. While being confronted with dwindling PV demand in Europe and highly competitive domestic suppliers both in the Japanese as well as the U.S. markets, SMA could no longer ignore China. Analyzing its cost base, SMA realized it had no chance to make any returns in China if it planned to import inverters. Only with a local manufacturing facility would SMA be able to compete. The company, therefore, opted to acquire a Chinese inverter manufacturer. It hoped to benefit immediately from Chinese cost structures and at the same time draw on established sales channels. Furthermore, a Chinese inverter company with less sophisticated products added to SMA’s portfolio would not endanger the SMA brand and pricing structure in other markets.
In March 2013, SMA proudly announced the acquisition of a majority stake in Jiangsu Zeversolar New Energy Co., Ltd. By October 2013, after a capital increase to the tunes of €21 million ($23.4 million), SMA owned 99% of Zeversolar. The enterprise value of SMA’s stake in the Chinese inverter manufacturer plus the transaction costs of the acquisition resulted in a price tag of roughly €100 million ($111 million) by the end of 2013. However, in 2013 Zeversolar only generated revenues of €13 million ($14.5 million) and what was even worse, the operating losses of €22.2 million ($24.7 million) amounted to 170% of turnover. The following year Zeversolar managed to increase its revenues to €17.6 million ($19.6 million) while reducing operating losses to €18.5 million ($20.6 million). But still operating losses exceeded turnover.

A €70 million mistake?

After two years of disappointment, SMA had to realize that its attempt to enter the Chinese PV market had only generated revenues of €30 million ($33.4 million) in 2013 and 2014 combined while the operating losses incurred during the same period already amounted to €41 million ($45.6 million). The costs of write-downs on goodwill, other intangible assets plus the write-downs on equipment as well as on receivables in this period added another €27 million ($30 million) to the losses of Zeversolar. After an impairment test at the end of 2014, SMA reported Zeversolar’s remaining value as being €36 million ($40 million). By that time SMA had to concede that its Chinese subsidiary Zeversolar no longer had (and perhaps even never had had) a viable business opportunity in the domestic Chinese PV market.
Instead of closing Zeversolar down SMA decided that its subsidiary would instead focus on establishing itself as a low-cost brand in markets such as Australia as well as some European PV markets and, at least, compete in those countries head to head with other Chinese inverter suppliers. With its accounting changes in 2015, SMA decided not to identify Zeversolar as a separate business unit but instead opted to incorporate Zeversolar’s results in the so-called “other operations” segment, which also includes the railway business for example. In 2015 “other operations” accounted for a double-digit million euro operating loss. In its most recent business outlook for 2016, SMA avoided any reference to the “other operations” segment and when specifically asked about it could not forecast break-even for the segment in 2016. So far the cumulated losses from SMA’s “experiment” in the Chinese PV market already surpass €70 million ($78 million), and it is doubtful if this business entity will ever generate profits for SMA. At least 30% of SMA’s cumulated losses in the period 4Q12 – 2Q15 can be directly attributed to the failed entry strategy into the Chinese PV market.

External threats to SMA’s share

Except for its (epic) failure in the Chinese PV market, SMA has been remarkably successful in its internationalization strategy. SMA is present in more than 20 countries and has established itself as the leading inverter supplier in the U.S. market with a market share north of 25%. While its global share has decreased from 50% five years ago to now 16% (measured in MW), it still holds on to the number one position in global inverter rankings. Does this mean SMA has nothing to worry about besides misadventures such as its experience in China? If only it were that simple.
There is a technology trend rapidly gaining traction in the PV industry that SMA first tried to belittle, then sought to join, and now hopes to be able to ignore: the module-level power-electronics (MLPE) market segment, also known as microinverters and power optimizers. Israel’s SolarEdge is the most prominent player in the MLPE segment, supplying an optimizer+inverter solution to the market. Just going by SolarEdge’s business figures, it is currently the fastest growing inverter company in the industry.
In the chart to the left SolarEdge’s (estimated) residential sales can be compared to SMA’s sales in the same segment, both in terms of volumes as well as profitability. While SMA provides sales and profitability figures for its residential business segment, it does not provide the related megawatts shipped. Through crosschecks with wholesalers and distributors, estimates of the MW shipped by SMA to residential customers worldwide can be derived. Regarding MW sold to residential installations, SMA’s shipments varied between 200 MW and 300 MW on a quarterly basis over the past two years. In 4Q15, SolarEdge shipments of 290 MW in the residential segment mean it has almost caught up to SMA supplying an estimated 300 MW to residential installations in that period.
The growth trajectory of SolarEdge, shown on the chart, is impressive, increasing its residential shipments more than fourfold over a period of fewer than two years (from some 70 MW in calendar 1Q14 to an estimated 290 MW in calendar 4Q15). The underlying assumption used is that some 84% of SolarEdge’s sales were linked to residential in 1Q14, whereas residential sales by the end of 2015 accounted for some 70% as the company’s growth rate was even higher in commercial.
Some 12 months ago, some traditional string inverter manufacturers put the success of MLPE-companies as being a testament to the limited know-how of U.S. residential installers, which in their opinion were not capable of properly designing PV installations. If the lack of know-how argument was correct, then why are the most important customers of MLPE-suppliers solar lease companies, which on average equip more than 50% of their installations with MLPE-solutions (in fact some have gone 100% with MLPE-solutions)? After all, these companies have a high level of sophistication and utilize all the necessary tools to set up well-designed PV systems.
It appears, in fact, that the opposite argument holds true: The more professional the customer is and the bigger the scale of the distributed installed base, the better this customer can capitalize on the advantages provided by MLPEsolutions. The first advantage of MLPE-solutions is the fact that the energy harvest is increased by anywhere between 1% and 3% on average through the avoidance of any limitations on the power output – through mismatch of the modules’ power ratings. If shading plays a role or modules are installed at different orientations and inclinations, the possible increase in energy harvest is even higher. An important advantage to solar lease companies is the fact that MLPE-solutions provide them with more design flexibility for the PV system thus allowing them to install more modules on a given roof. Given that customer acquisition costs represent a significant proportion of the overall cost for the solar installer in the residential segment, spreading these (fixed) costs over a larger number of kWh generated from the same roof is a major advantage of MLPE-solutions. Finally, the module-level performance monitoring capabilities that come included with MLPE-systems are an additional boon to solar lease companies’ O&M costs.
From Smart Solar Consulting’s discussions with European wholesalers and distributors, it’s apparent that SolarEdge generates roughly 30% of its turnover outside of the U.S. Obviously, SolarEdge has been able to expand its market reach beyond the realms to which many thought MLPE would remain confined.
It is therefore safe to predict that in 2016 SolarEdge will surpass SMA’s inverter shipments in the residential segment. Regarding revenues as well as profits, SolarEdge was already ahead of SMA in residential in 2015. SolarEdge broke even on the EBIT-level once quarterly shipments exceeded 160 MW. For SMA, it looks like an EBIT-breakeven threshold in residential is closer to 300 MW/quarter. SMA’s attempt to enter the microinverter market with its own product was undermined by a two year delay in getting to market. It now faces challenges in maintaining R&D on a microinverter that is virtually non-existent in the market.

Challenge of R&D

Today SMA is the leading supplier of central inverters globally and derives more than 50% of its profits from this segment. However, it has to make sure it keeps up to the changing market requirements that drive demand in different market segments. Medium-sized string inverters with power levels of 30 – 60 kW are gaining market share in utility scale.
Today such distributed inverter solutions are economically competitive for system sizes up to around 10 – 15 MW. SMA has to make sure that three-phase inverters, initially aimed at the commercial rooftop, do not cannibalize its most profitable division. A higher penetration of solar lease companies in markets outside the U.S. would also favor MLPE-companies, thus posing a further threat.
It all boils down to the challenge that SMA must not lose ground too quickly in a market segment, which it once pioneered 25 years ago. So while the vast number of utility-scale PV installations being pushed through the project pipeline in the U.S. make a promising business outlook for SMA in 2016, it is too early to make a call on whether SMA will be able to hold on to its leading market position by the end of this decade.