Sunworks, Inc. (NASDAQ:SUNW) Q2 2022 Earnings Conference Call August 9, 2022 1:00 PM ET
Company Participants
Jason Bonfigt – Chief Financial Officer
Gaylon Morris – President and CEO
Conference Call Participants
Donovan Schafer – Northland Capital Markets
Operator
Greetings. And welcome to the Sunworks Second Quarter 2022 Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation [Operator Instructions]. As a reminder, this conference is being recorded.
I would now like to turn the conference over to your host, Jason Bonfigt, Chief Financial Officer of Sunworks. Thank you. You may begin.
Jason Bonfigt
Thank you, operator. I’m Jason Bonfigt, Chief Financial Officer of Sunworks. On behalf of our entire team, I’d like to welcome you to our second quarter 2022 results conference call. Leading the call with me today is our President and CEO, Gaylon Morris. Today’s discussion contains forward-looking statements about future business and financial expectations. Actual results may differ significantly from those projected in today’s forward-looking statements due to various risks and uncertainties, including the risks described in our periodic reports filed with the SEC. Except as required by law, we undertake no obligation to update our forward-looking statements. Following the prepared remarks, we will open the line for questions.
With that, I’d like to turn over to Gaylon.
Gaylon Morris
Thank you, Jason. And welcome to those joining us today for our second quarter results conference call. Before I cover our progress on our strategic objectives and provide a Q2 financial update, I wanted to highlight the importance of the likely passage of the Inflation Reduction Act. The provisions of the act support the Biden administration’s domestic, renewable resources and climate policy goals by promoting clean, reliable and low cost energy to businesses and homeowners. We view this as a significant win for the solar industry, specifically the 10 year extension of the investment tax credit at the 30% level. The ITC is a proven path to rapidly growing solar adoption. While costs in the solar industry have declined over the past decade, they have risen sharply in 2022 and this ITC extension is expected to have a meaningful impact on lowering the cost of solar and storage and additionally should promote US manufacturing.
Moving on to our business update. During the second quarter, we demonstrated measurable progress on our business transformation strategy, while continuing to capitalize on increased demand for our integrated solar solutions. Net sales and gross profit each increased on a year-over-year basis in the second quarter, driven by strong residential demand, while both orders and backlog increased to multi-year highs. Since our last quarterly conference call in May, demand conditions have strengthened materially across both our residential and commercial markets. While supply chain disruptions, module availability and wage inflation remain a headwind, we’ve enacted several consecutive price increases in 2022, the benefits of which will position us to achieve improved gross margin capture as we move into the latter months of the current calendar year, while moving us that much closer to free cash flow breakeven.
In our Residential Solar segment, which represented nearly 90% of second quarter revenue, new installation activity continued to accelerate, while total lots installed increased by nearly 35% on a year-over-year basis as concerns around rising energy costs and grid reliability have contributed to increased customer adoption of our rooftop solar solutions. Within our Commercial Solar Energy segment, order activity accelerated meaningfully in the second quarter, positioning the segment for improved performance as we look to the second half of 2022. We secured a multi-year high of nearly $24 million in new orders in second quarter, more than double our order intake in fiscal year 2021 due to strengthened demand for commercial and public works solar projects. As discussed last quarter, we’ve continued to execute on a well defined slate of growth priorities designed to both capitalize on favorable demand conditions across our markets and maintain a level of margin discipline required to support sustained profitable growth. Over the last year, we’ve significantly restructured our residential go-to-market strategy. [In just] 12 months, we have grown our originations from the direct channel to 25% of our total originations, a strategy that will allow us to profitably scale our business. During the second quarter of 2022, the direct sales team was responsible for nearly 15% of total installation revenue versus 5% in the prior year period.
Operationally, we remain focused on reducing our velocity of installation or the time between when a contract is executed and when final installation is completed. We believe a reduction in installation times not only improves customer retention, it also encourages more channel partners to work with us, which provides us more leverage around how we price our projects. Following a recent pilot test during which we decentralized all design, permitting and installation activities, we were able to significantly reduce our installation times. Given the success of this pilot, we are actively mapping company wide workflow to marry the benefits of scale with this decentralized approach, the combination of which we believe will improve the overall customer and dealer experience, while ensuring improved conversion on signed contracts. Further, as we have highlighted on recent calls, we continue to expand our sourcing and procurement relationships to ensure a cost effective, high quality supplier modules. While disruptions to the global supply chain and tariff related policy concerns have both constrained module availability and contributed to higher material costs, we have taken action to expand our supplier relationships, while opportunistically increasing prices to more than offset labor and materials inflation. Although, we have sufficient module inventories to address current demand, inventory availability across the broader market remains tight.
As disclosed last quarter, the Department of Commerce received a petition filed by California based solar module manufacturer, Auxin Solar, in March of 2022. The petitioner requested that the DoC review solar panel imports from Chinese companies working in Cambodia, Malaysia, Thailand and Vietnam related to anti-dumping. This action served to reduce imports of panels from affected regions, resulting in reduced domestic availability of modules and a corresponding increase in module costs. In response to the significant adverse impact this investigation could have on domestic solar industry, President Biden signed an executive order in June 2022 that suspended the collection of anti-dumping and countervailing duties of certain cells and modules exported from the named regions for 24 months. While this situation is far from resolved and a DoC investigation remains ongoing, we believe panel producers from the affected countries will increasingly resume shipments during the second half of 2020, helping to ease inventory availability issues. In combination, we believe our collective focus on reducing customer acquisition costs through a growing direct sales force, improving the velocity of installation, improving the accuracy of our project bidding and pricing, together with the continued expansion of our supplier and procurement network, will position us to drive improved performance.
With that, I will hand the call over to Jason for a review of our second quarter financial results.
Jason Bonfigt
Thank you, Gaylon. During the second quarter, our team executed ahead of plan across several key operational metrics, while driving significant growth in revenue, orders and backlog. Although, we are pleased with the share gains achieved across both our residential and commercial end markets, we remain focused on leveraging recent price actions and newly implemented operating efficiencies to improve margin realization. For the three months ended June 30, 2022, Sunworks reported total revenue of $36.4 million versus $32.1 million in the prior year period. The year-over-year growth in revenue was attributable mainly to increased contributions from the residential segment, which benefited from a growth in installation volumes and the benefit of a full quarter of Solcius revenue. During the second quarter, residential and commercial revenues represented 91% and 9% of total revenue respectively. Total gross profit increased to $16.9 million in the second quarter 2022 versus $15.1 million in the prior year period. The year-over-year variance was primarily attributable to revenue growth, partially offset by inflationary pressures in the current year. We reported a net loss of $7.6 million in the second quarter or $0.23 per basic share versus a net loss of $1.9 million in the prior year period or $0.07 per share. The year-over-year variance was primarily attributable to the forgiveness of the PPP loans in the prior year and investments to support anticipated growth in each of our company’s segments. Adjusted EBITDA loss was $5.7 million in the second quarter compared to $1.7 million loss in the second quarter of the prior year.
Turning to a review of our residential solar segment, which is our Solcius business. Segment revenue increased 42.5% year-over-year to $32.5 million, driven by growth within our direct sales platform. Total residential watts installed increased 34% year-over-year in the second quarter. Direct sales represented approximately 15% of total revenue installed in the second quarter versus less than 5% in the prior year period. The residential segment generated EBITDA loss of $1.9 million, driven by continuing investments in our direct sales function, expanding our direct labor force to meet growing demand, as well as inflationary pressures, which we expect to offset throughout the year through price actions and improved operating leverage. Total residential backlog increased 26% sequentially to approximately $60 million in the second quarter, driven by growth in both direct and dealer originations. Within our Commercial segment, revenue declined 19% sequentially to $3.9 million, driven by lower order intake in the preceding quarters. Our pipeline of opportunities has increased in recent months, resulting in approximately $24 million of orders in the second quarter. The commercial segment generated EBITDA loss of $1.9 million in the second quarter, primarily due to volume.
Turning to our balance sheet. Our unrestricted cash and cash equivalents balance as of June 30, 2022 was $12.1 million compared to $19.5 million at the end of the first quarter 2022. Operating working capital increased by $2 million sequentially as a result of continued investments in inventory, partially offset by payables management and improvements in other working capital measures. Total inventory at the end of the second quarter was $18.8 million compared to $10.2 million at the end of 2021. Given the AD, CVD issues Gaylon referenced earlier, we will continue to make investments in inventory from our expansive list of module suppliers and distributors. Operator, that concludes our prepared remarks. Please open the line for questions as we begin our question-and-answer session.
Question-and-Answer Session
Operator
[Operator Instructions] Our first question comes from the line of Donovan Schafer with Northland Capital Markets.
Donovan Schafer
Congratulations on the revenue numbers, growth is a pretty important part of kind of the story and your strategy. So that’s nice and cool to see. And especially also, I guess, on the residential side, you’ve been kind of more concentrated there. So looking forward from this point, you had a nice bump in the backlog going from $60 million to $90 million. And you said I think in the prepared remarks, there’s a sales kind of originations or something were double on a year-over-year basis. So I’m curious if these are things that we can read into as leading indicators, looking at kind of Q3, Q4? I mean, I know you don’t give guidance. But with the bump in the backlog and the origination numbers, would it be appropriate to extend that into some kind of improvement in revenue performance, meaningful improvement in Q3, Q4, or would we be mistaken, misleading ourselves by reading into that?
Jason Bonfigt
Just if we take apart the segments, I think it’ll provide more context. So — on the commercial side of the business, so that was a really an excellent quarter for us from an order standpoint. And we are continuing to have further discussions with customers to even expand this backlog further. Really the question mark that we have or we’re pushing forward is for these to start to record revenue quickly, that may happen as early as Q4. But depending on project timing that could that could delay out into Q1. But certainly we’re planning that we see some revenue growth in Q4 in that commercial business, because it has been depressed for the last few quarters. And on the residential side, so the backlog is rising sequentially. We’re bringing on new crews to support that growth, so we’re expecting growth throughout the rest of the year based on that backlog improvement and the origination growth that we saw in really since we’ve seen since the beginning of the year.
Donovan Schafer
So is it fair to say that most of the increase in backlog was from commercial and industrial? But there was still, like you said, a sequential increase in the residential backlog. Is that accurate?
Jason Bonfigt
That’s accurate. Our backlog in our commercial business rose from about $16 million at the end of Q1 to $36 million, again, of Q2, balance of that is from the [residential]…
Donovan Schafer
And then for sales and marketing, I like the way that you guys kind of report and break things out. So we can kind of look at your gross margins and isolate that as sort of how you operate as getting the product sourcing and installing. And whereas the customer acquisition cost is you keep it separate and selling and marketing, it’s super variable and tightly with revenue. But I think, I might have been a bit premature in my own thinking in terms of how sales and marketing could come down as a percentage of revenue as you’re shifting to more direct channel sales. So I’m wondering if we can kind of get an update there. Obviously, it was up in the quarter because of the good revenue numbers, so of course that’s a good thing. But it’s about the same as a percent of revenue from the first quarter. I’m wondering if we should expect that to start coming down with the direct sales efforts, or maybe even as I know you launched the new Web sites, maybe those expenses will go away. So I’m just trying to think about the selling and marketing side of things, and how I should expect that to trend.
Jason Bonfigt
We’re expecting that sales and marketing as a percent of revenue to come down slightly throughout this year and we’ll look to further expand on that into 2023. There are a few levers there. Leverage will certainly help us, because we do have salaries and benefits in sales and marketing. And then what’s really going to impact the numbers in the second half of the year are the price increases that we’ve made in our residential business to offset the inflationary pressures in the first half of the year. So that will — those two factors will compound on each other over time, and we’d expect gross margin to expand and at the same time, sales and marketing should come down slightly.
Donovan Schafer
And with the sales and…
Gaylon Morris
One more point, on the residential side of the business, the timing of our recognition of revenue is significantly later than the timing of the beginning of commission payments due to just the way this market is run. So we are often — as you see backlog build, you we’ll see sales and marketing costs to increase in advance of revenue.
Donovan Schafer
And then just a follow up on that. So is it something in terms of making the improvement in transitioning to more direct sales? One, if we can get an update on kind of what the delta there is on customer acquisition costs? How much money can you save or what fraction of a external lead do you pay internally to generate the same lead? And then — and is there anything changing there where because if it’s going to be a gradual decline as a percentage of revenue. Should we expect it to just kind of continue as a gradual decline also in 2023 or just in the future? Are there any kind of, sort of inflection points or something where a certain thing gets rolled out or something happens that makes a more abrupt reduction there, or should it really just be a pretty gradual thing?
Jason Bonfigt
I think we can cover it more off, this is a little bit competitive. We want to stay away from that. But I think your assessment that your direct sales channel should have a higher margin, we do believe that and that’s why we are focused on growing that channel. It does allow us to select certain markets, be more selective of products as well. So it does help us operationally as well to move more to this direct channel. But I think I wouldn’t be expecting any major inflection points in our margin profile over the next six months to a year.
Donovan Schafer
And then I’m going to ask one more question and then I’ll jump back in the queue, because I could always — I could probably ask questions as the day is long. So with the Inflationary Reduction Act moving through Congress right now, seems like it’s got a pretty good chance of passing. You could probably talk about — I’m sure there is some commercial and maybe public works benefits and stuff in there, but the thing that immediately really jumps comes to mind for me is the sort o standalone or 30% ITC for adding a battery and storage. And I know historically that just kind of doesn’t really fit as well with sort of like your demographic, what — where a lot of your customers are in socioeconomic sense. I mean, you guys are really kind of serving I think of like the Trader Joe’s population, sophisticated people, but kind of on budget. And so you haven’t really emphasized battery sales or battery attachment rates too much. Is that something that could change with the ITC, or do you think it still — it doesn’t kind of change that equation in terms of how often or how much you try to push to get more battery sales and battery attachments?
Gaylon Morris
I think the ITC pushes batteries in a good way, and we are going to continue to emphasize selling those, probably emphasize them more. The ITC also pushes and makes more valuable PPAs, which will change our market space in some good ways, I believe also. I would say that on the commercial side, the ITC definitely will have a significant opportunity to drive the business forward based on that.
Operator
[Operator Instructions]. Our next question comes from the line of Donovan Schafer with Northland Capital Markets.
Donovan Schafer
I thought — I know obviously former colleague, Phil Shen, I thought you may be on asking a question. I know that there is a lot of companies reporting today, there is a lot going on. So I’ll just opportunistically monopolize your time. I think, we should probably talk a bit about kind of the cash situation. It seems like you guys are in a good position. You have healthy amounts on the balance sheets. And since last quarter actually a decent amount of that has gone to accounts receivable, building the inventory, kind of contract assets. And I know some of that’s, at least like on the inventory side, that’s around supply chain concerns. So I’m curious from an outlook standpoint, kind of looking forward from today and where you’re at with the supply chain and your backlog. Are you going to need to continue building inventory, or is this — are you actually in a fairly comfortable position to — and I think you have enough — you look like you have enough cash anyway to be good for quite a while. But if there’s a — someone would have doubts on the comfort level or something. Are you going to be in a position to not be building up as much inventory in this kind of proactive staying away from, I mean, staying ahead of demand or are you going to actually, do you think you might actually need to continue to achieve more inventory with what’s going on in the supply chain?
Jason Bonfigt
On balance we believe that we have the working capital in place to support the growth. With that said, we have well documented issues at the ports related to documentation of panels that are coming in from various countries. And those — I believe that many of the module manufacturers are working through the documentation that’s been requested so that they can clear customs. So that’s the environment that we’re living in. We need to make sure we have adequate inventories to support any near term disruptions. So we may from time to time procure materials on a spot basis if we feel it’s the right timing and the right price and it mitigates risks. So I think that’s really the one uncertainty that we have right now on our…
Donovan Schafer
And I suppose the increased commercial backlog, I suppose probably also adds a little bit there where now you know you have sort of a time horizon with respect to well. We know we’re going to have to have certain modules ready but the project won’t be until the fourth quarter. Is that fair?
Jason Bonfigt
We’re starting to plan for that and we did receive some modules for Q4 and Q1 [relations] during the quarter, so that was a portion of that inventory increase.
Donovan Schafer
And then, Gaylon, I think you said in the opening remarks, you said something about where you would get to positive cash flow, positive operating cash flow. Moving in that direction towards the end of 2023. I missed it if you actually said you thought you would hit positive operating cash flow by the close of 2023, or if that you’d be getting sort of close and then that’s something you expect would happen in 2024. Just curious if you can clarify that a bit more, when you think or see that that is likely to happen and maybe any particularly big assumptions that are behind that or caveats that might be important to highlight?
Gaylon Morris
We’re making every effort to approach breakeven cash flow. It’s the number one priority for the company with regards to shareholder value, and we recognize the importance of it. As we close out this year, we anticipate being significantly closer to that. And our intention, every effort is being made to reach breakeven next year.
Donovan Schafer
And my last question is, to some may seem trivial, but I’m quite interested in it. And I know you did launch the new Web site and that’s something you guys have been thinking about for a while. And in this line of work, I think it can be such an important, especially on the retail side, if you’re getting sold on your roof, it’s sort of — who is who are these people I’m working with? Who is that someone knocked on my door or whatever it is, okay, I’m going to go Google the name and pull it up? And so I’m curious, are there specific things in the Web site change or relaunch that you guys, you made certain changes that you think could help increase kind of either customer leads or close rates, something that kind of translates into the financials for the company? Of course, just at a high-level, it’s always good to have you know, better Web site, brand, marketing, whatever. I’m just wondering if there’s anything kind of more concrete built in there and/or even if not, if you’re sort of tracking metrics to try and understand how often does someone come to your Web site and then are you able to link that to a phone call, an inbound phone call, things like that? I’m just kind of curious what’s been built into the new Web site that can kind of help from getting to the bottom line in some way?
Gaylon Morris
We did a number of search outreaches to customers over the first half of this year, both on the residential and commercial side to find out what they thought of the company, what were their driving motivators, when they were making the decisions, what resonated with them. And then we took that feedback and filtered that through a market lens where we looked at what others in the marketplace are doing and what makes sense from a growing and evolving marketplace standpoint, and built all of that into what we think is a much more modern and accessible Web site that takes into account the changes in search algorithms by the major search engine providers, those were all critical inputs to that process. So what we have here in this commercial focused Web site, the residential focus Web site will be released later this year, refresh will be released later this year, is a Web site that we think speaks to the potential customer and gives them not only reasons for going solar but reasons for going solar with Sunworks and on residential side when we do that with Solcius. And we’re excited about that being a increaser in our lead generation, lower cost lead generation, I think, it’s going to benefit the business [trailing].
Donovan Schafer
And then I know I said that was going to be my last question, but one just occurred to me. So I’m going to sneak another one in. I noticed — so I think one of the things, as an analyst, I’ve been [valuated] on your stock since I initiated, I think there’s a lot of interesting opportunity here with the Solcius acquisition, and how a lot of that, that was driven in a lot of ways by kind of the crazy run up in the stock price part of the — GameStop, and the meme stocks and everything that gave you the opportunity to sell shares at a very, I think, $15 a share or something for pretty — reasons we all recognize and understand as an anomaly, but you guys were able to, in a savvy intelligent way, take advantage of that at the time. But then from that same perspective, I think there — as an analyst, I also had the thought in the back of my mind of well, gee, whizz, I hope they don’t raise, try to sell a bunch of shares at a very, very low share price. And so I’m pleased to see that in the second quarter, the share price was fairly low. Obviously, there were a lot of political headwinds, and you really didn’t — there was a small amount of share issuance, I think, but it was really quite tiny. And so that’s great and reassuring that you kind of weren’t selling shares down in this $2 share and that you really have that view and conviction that as a company, you’re worth meaningfully more than that. So I’m curious, if going forward, if you have maybe what — if you have an internal evaluation approach or something, or how you kind of try to make those judgment calls, and/or if maybe you just feel very comfortable with where you are from a cash standpoint where — that you have pretty much no intentions to really issue shares in the near term as is. Just any clarification or kind of color on there would be great.
Gaylon Morris
From a high level standpoint, we look at our value when we decide whether or not we’re going to sell shares and raise capital. We look at our share value as — against the competitive marketplace and evaluate whether or not the value in our shares is above, at or below where we think it should be with regards to the market. And I will say that right now if we were to execute on shares the goal would be to grow the business. Our only ad mechanism or primary mechanism for raising capital is the ability to sell shares. ANd if we do that, we’re doing that with the intention of increasing our ability to grow the business. And in a volatile marketplace where any number of different geopolitical and/or supply chain type issues or combination of the two could occur, there’s always the outlook of de-risking the situation, and being able to have cash reserves or greater cash reserves always de-risks the situation.
Donovan Schafer
So there’s still — even in there’s kind of a conceptual either arbitrage or sort of accretive aspect where you could kind of value what the associated risk is that you’re trying to offset. And so maybe it makes sense in some ways to issue shares at a relatively lower share price, but it’s because of what you’re able to do with that somehow seems to have a better sort of economic trade off. Okay, well, that’s great. Thank you, guys. Very helpful. And congratulations on the quarter.
Operator
Thank you. Ladies and gentlemen, that concludes our question-and-answer session. I’ll turn the floor back to Mr. Morris for any final comments.
Gaylon Morris
So once again, to everybody on the call, thank you for joining. Should you have any questions, please feel free to contact us at ir@sunworksusa.com and a member of our team will follow up with you. This concludes our call today. You are now free to disconnect.
Operator
Thank you, ladies and gentlemen, this concludes the conference call. You may now disconnect your lines.
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