This story appears in the October/November 2023 issue of Forbes Magazine. Subscribe
This $30 billion industry is built on a shaky foundation of cheap money, questionable accounting and aggressive claims for federal tax credits. With money no longer cheap, subsidies a matter of politics and swirling allegations of fraud, a collapse could be coming soon.
By Christopher Helman, Forbes Staff, and Nikhil Hutheesing, former Forbes staff
Sitting at a mostly empty 20-person conference table in his Houston headquarters, William “John” Berger, CEO of Sunnova Energy International,
looks relaxed and confident. The top of his crisp white shirt is unbuttoned, and no strands of gray yet spoil his shock of black hair. At 50, this Texas-born Aggie engineer with a Harvard MBA has built Sunnova into the nation’s second-largest residential solar power developer, with 2,000 megawatts of generation on the rooftops of 390,000 homes. And yet, he quips, if you like cliffhangers, “you’ve come to the right place.”
Sunnova has lost $330 million on $722 million in revenue in the last 12 months. Its shares are trading around $10, off 80% from their 2021 high. Wall Street is nervous about its bonds: Its $400 million 2021 senior unsecured debt issue, maturing in 2026, initially paid 5.75%, but now yields 14%—high even for junk. But the big test, Berger says, will come if there’s a recession or difficulty raising money (which he fears more than high rates). In the worst case, he says, he could slash costs by 50%, stop seeking new business and fire himself.
The glory days for residential solar power in the United States weren’t that long ago. In 2022, a record six gigawatts of peak generating capacity were installed on 700,000 rooftops, bringing total residential solar power to 40 GWs—nearly enough to power Los Angeles and Philadelphia combined. The boom was partly fueled by falling prices for solar panels and inverters as more countries, including the U.S., jumped in to compete against China. Topping it off, in August 2022, President Biden signed the Inflation Reduction Act, an orgy of renewable energy subsidies which boosted the solar tax credit from 26% to 30% and extended it through 2032—meaning Uncle Sam is on the hook for maybe $8 billion a year for at least a decade.
Despite all this, the residential solar industry is in serious trouble. Sharply rising interest rates have sapped both growth in demand for new residential systems, which are typically financed, and the value of $21 billion in debt issued to install existing systems. High interest rates are what Sunlight Financial, a residential solar financier, blamed when it filed for bankruptcy in October. (It went public in 2021 via a SPAC.) Two days after Sunlight sought Chapter 11 protection, San Francisco–based Sunrun, the largest player in residential solar with annual revenue of $2.3 billion, said it was writing off $1.2 billion in goodwill, primarily from the $3.2 billion acquisition of Vivint Solar in 2020.
The interest rate spike is drawing attention to other problems in an industry built not only on cheap money but also on suspect accounting and a tax credit regime (born in 2005) that has invited aggressive—and in some cases fraudulent—claims. Sunrun, whose stock is off 90% from its 2021 high, faces continuing pressure from short sellers who allege it has claimed inflated tax credits. As Warren Buffett famously observed, “you don’t find out who’s been swimming naked until the tide goes out.” In emailed responses to Forbes, Sunrun defended all its practices as proper.
The shorts have some company. One industry whistleblower has told the IRS that inflated tax credit claims are endemic across the residential solar industry. The IRS isn’t talking, but the whistleblower’s attorney believes the agency is still investigating the man’s claims, which could eventually earn him a fat reward of 15% to 30% of any funds recovered.
Gordon Johnson, whose New York boutique equity research firm serves mostly short sellers, goes so far as to compare the residential solar industry’s current peril to the subprime mortgage debacle of 15 years ago: “It’s a debt Ponzi. They perpetually issue more debt to fund these projects that don’t generate the cash they say.”
This isn’t just short sellers talking their own book. “There is going to be some kind of reckoning,” predicts John Berlau, director of finance policy at the Competitive Enterprise Institute, a libertarian think tank in Washington, D.C.
“Because of the perceived goodness of the industry, they did not receive all the scrutiny that other sectors would have.”
The residential solar business has always faced one big obstacle: high upfront costs. A new 7.5-kilowatt residential rooftop solar system costs between $20,000 and $45,000. That expense is mitigated somewhat by the tax code, but claiming federal subsidies is not simple. An individual federal tax credit should eventually kick back 30% of that tab to the homeowner, but the credit is nonrefundable—meaning you can claim it only against income taxes you paid or owed in the year you installed the panels. You won’t get a subsidy check from Uncle Sam, though you can roll any unused credit forward to offset taxes in future years. The bottom line: Most families can’t—or won’t—pay out of pocket for the upfront cost of installation.
The industry’s two main solutions both depend on cheap money. One is to lend creditworthy homeowners the full installation price, which they can theoretically cover (typically over 20 or 25 years) with lower electric bills and the tax credits they eventually receive. Installers sometimes offer below-market rates on these loans, wrapping the additional interest expense into their upfront charge. The consumer loans are then securitized and sold. That’s the model used by now-bankrupt Sunlight and by GoodLeap, the solar loan market leader. When rates are low, it’s an extraordinarily lucrative business. GoodLeap’s cofounder and CEO, Hayes Barnard, has ridden this cheap money express all the way to a net worth of $3.7 billion, enough for a spot on the Forbes list of the 400 richest Americans.
The other approach is older. The installer—Sunnova or Sunrun, say—continues to own the panels on the roof, and the homeowner signs a typically 20-year power purchase agreement (PPA) to buy the juice. That allows the solar companies, or their investors, to claim a similar 30% investment tax credit for solar energy. This financing method was losing market share, but the Inflation Reduction Act gave it a boost by allowing the outright sale of renewable energy tax credits.
Even before the Inflation Reduction Act, however, the Sunruns and Sunnovas of the world were able to raise billions by selling tax credits indirectly to profitable corporations with big tax bills to offset. These “tax equity” investors put up 30% of the cost, then get nearly all their money back within two years in the form of tax credits, plus the halo of investing in green energy, and an additional return. Big players in this market include Alphabet, Meta, Bank of America, JPMorgan Chase, U.S. Bank and Wells Fargo.
In this model, debt financing—in the form of asset backed securities—covers most of the other 70%. And when interest rates were at all-time lows, fixed-income investors lined up to buy solar bonds priced like high-grade corporate debt. Sunnova has issued $4.5 billion and Sunrun $3.5 billion in asset backed securities in the past decade.But now that investors can get a riskless 5% on money market funds, they’re demanding much higher yields. “You’ve got to reflect the fact that interest rates have moved up, so your cost structure is higher,” says Sunnova’s Berger with a sigh.
“Liquidity flowing into the clean tech space is dropping. People are running on borrowed time.”
Carson Block first made a name for himself exposing dubious accounting at Chinese companies; his Austin, Texas, firm, Muddy Waters Capital, is named after a Chinese proverb that says you catch more fish in muddy waters. For more than a year, the 47-year-old lawyer turned activist short seller has been targeting Sunrun, arguing it has used unduly aggressive assumptions to inflate appraisals for residential solar systems, misleading investors and claiming excess tax benefits.
One might be forgiven for thinking that establishing the basis of a solar system for tax credit purposes is straightforward: What did it cost to buy the panels, inverters and gear, then hire a few guys to screw it to a roof? That’s the way homeowners do it.
By contrast, in the PPA segment, the customary practice—so far allowed by the IRS—is to appraise the value of rooftop systems for the purposes of both the investment tax credit and financing, based on the net present value of the income they produce. That involves lots of assumptions: adding up all the expected future cash flows, mostly from customer payments for electricity over 20 years, and subtracting forecasted maintenance and other costs, then applying a discount rate.
Block claims that as part of these calculations, Sunrun has underestimated both annual maintenance costs and the rate at which a solar system’s output degrades while failing to reserve cash to cover the future liability of sending workers out to unscrew the old panels from the roof in 20 years. Sunrun defends its accounting, saying, for example, that it doesn’t need to reserve for removals under Generally Accepted Accounting Principles because the systems have a useful life beyond 20 years.
Another Sunrun appraisal practice Block considers egregious: When tallying up expected future cash flows, Sunrun includes the value of the forthcoming 30% investment tax credit. That is, the appraised value of a system, submitted for the purpose of claiming a tax credit, includes the value of that very tax credit. “It’s an absurd interpretation of what Congress intended,’’ Block says.
Sunrun contends that the practice “is industry standard” and reflects the economics of the deal, since the corporate tax investors are counting on it. But last June the U.S. Court of Federal Claims, in an opinion denying a motion for summary judgment, found that Alta Wind, a big onshore wind farm in California, was not entitled to include in its cost basis for tax credit purposes any “premium associated with the anticipated value of a grant” of renewable energy subsidies. Attorney Keith Martin, who specializes in deals and taxes at Norton Rose Fulbright in Washington, warns the IRS or future courts could apply the same logic to the residential solar tax credit.
In late October, Block raised another red flag: Sunrun reported more working customers to investors than to the government, which mandates that companies detail the number of systems that are completed, hooked up and in service. Block’s report says the discrepancy makes it appear that in 2022, Sunrun claimed $205 million in tax credits for 14,390 systems that don’t exist. Sunrun says both sets of numbers are accurate but measure different things: Only customers being actively billed are reported to the feds, whereas its reports to investors include “customers who prepaid their service contract or whose system is installed but billing has not yet begun.”
POWER ROOFS
After a boom decade, residential solar now provides 2% of all electricity and 6% of green electricity in the U.S.
While the short sellers have aimed their heaviest fire at Sunrun, the would-be whistleblower has told the IRS about what he believes is rampant improper inflation of solar appraisals by multiple industry players for purposes of claiming excess investment tax credits. The man, a financier who got burned investing in a solar company that went bankrupt, first brought his claims to the IRS in 2018. Robert Knuts, a partner with Sher Tremonte in New York (and a former SEC enforcer), is representing the whistleblower. He says his client has continued to provide information to the IRS—suggesting the investigation is ongoing though the tight-lipped agency won’t confirm it.
Meanwhile, Sunrun has disclosed in SEC filings that one of its investment funds and three of its investors are being audited by the IRS regarding how they calculated fair market value for tax credit purposes. Sunrun has indemnified investors against such claims, and the company downplays the audit risk, telling Forbes it “has not taken up a lot of our time.”
Dean Zerbe, a Washington lawyer who wrote the IRS whistleblower law in the 2000s while serving as a tax counsel to Senator Chuck Grassley (R., Iowa), notes that while the IRS is into “big game hunting,” renewable energy players—given the murkiness of some issues—could escape with an admonition to “go forth and sin no more.”
Still, Block and Johnson speculate that if the IRS does take a stand, investors might have to repay billions in inflated credits. There’s a particularly noteworthy precedent for that. In 2019, Buffett’s Berkshire Hathaway had to record a $377 million tax expense to reverse tax credits it had gained through DC Solar—a Benicia, California–based company that took in $912 million from investors who thought they were buying into 17,000 portable solar-powered generators. Except the generators didn’t exist. Jeff and Paulette Carpoff, the husband-and-wife founders of DC Solar, are now doing 30 and 11 years in the federal pen, respectively, for their Ponzi scheme. Berkshire is suing DC Solar appraiser Novogradac & Company for failing to detect the fraud and financial advisor CohnReznick for falsely representing that DC Solar was a legit investment. (Both firms have denied liability.)
Back in Houston, Berger is keen to differentiate Sunnova from Sunrun. He says Sunnova holds hundreds of millions in cash reserves to pay for eventual rooftop removals; that he doesn’t count the investment tax credit to pump up appraisals to get more tax credits; and that he reports the same customer totals to the government and to investors. Berger doesn’t dodge the debate over other appraisal techniques: “The complexity associated with the accounting is our biggest issue. We would all like the complexity to go away.”
Give Berger credit: He has been able to attract capital over the years, even if his returns have been mixed. Deep Texas connections help. He played high school football in Bryan–College Station, studied civil engineering at Texas A&M, then got his start at Enron, where he worked on a trading desk. After Enron collapsed, he headed to Harvard Business School, then returned to Houston, where he started a string of not very successful renewable energy businesses—ranging from a residential solar installation and finance company to a biodiesel refinery that was later abandoned.
Berger founded Sunnova in 2012 and raised $170 million in a 2019 IPO. Its market cap peaked near $6 billion in 2021. There, Berger applied a lesson learned in his earlier days: It’s too hard to build a regional or national army of installers. “You can’t scale labor,” he says. From the start, Sunnova has outsourced all installation work locally and operates only a maintenance fleet—380 trucks nationwide—to respond to problems with systems.
Given the industry’s difficulties, Berger is scrambling now. To maintain healthy cash flows for older asset backed securities, Sunnova has bought millions in defaulted solar loans, in which homeowners stopped paying and technicians had to unscrew the panels. For example, it has repurchased nearly $4 million of defaulted loans from a 2019 issue, enabling it to report delinquencies of just 2.5%, instead of 4.25%, and to skirt triggers contained within the bond contracts. That keeps cash flowing down the waterfall of claims. (Cash goes to tax equity investors first, then senior debt, subordinated debt and finally to Sunnova’s common equity.)
“Managing delinquencies by buying out bad loans makes the performance of Sunnova’s solar loans appear better than reality,” says Johnson, the New York analyst who is bearish on solar.
Berger believes a recession is coming, but he insists that in tough times, households will cut other expenses and even stop paying their mortgage before they stop paying their electric bill. That’s debatable. According to the National Energy Assistance Directors Association, about 16% of American households were behind on their electric bill as of March. By contrast, only 1.7% of homeowners are behind on their mortgage.
Beyond interest rates and recession fears, Berger has another problem: California. Demand in the Golden State, which makes up 38% of the nation’s existing residential solar base, has taken a hit from rules that prevent new residential systems from selling power back to the grid (those installed before April 2023 still can). That means new customers need to buy expensive batteries to store the excess energy generated when the sun shines. Berger has cut his California sales force and is pushing Tesla Powerwall batteries, which also qualify for the 30% credit. “People are just gonna clip the cord,” he says, when they realize they can survive without the electric companies—which this subsidy junkie denounces, without apparent irony, as “communistic, socialistic, inefficient regulated monopolies.”
Berger is counting on that inefficiency. His hope is that poorly run utilities keep raising electricity prices—which lets him raise his prices too. He is also banking on even more government handouts. For example, he’s tapping into a new Department of Energy program for $3 billion in loan guarantees on debt Sunnova will issue over the next few years to install solar in about 100,000 homes, some in Puerto Rico, which has a notoriously shaky power grid and high electricity prices.
In 2023, Sunnova raised $900 million in solar asset backed debt and $500 million in tax equity, down from the $1.1 billion in debt and $600 million in equity it raised in 2022. Losses this year are running at four times last year’s levels. The company has never turned a profit.
Should he be unable to raise more money, Berger says Sunnova’s minority stakes in existing systems will still generate $100 million a year in cash flow before expenses. He’ll get rid of sales and marketing, finance and legal—and himself. (He’ll be fine. He has taken $9 million off the table through stock sales.) Only billing and collections, 380 maintenance trucks and their technicians will remain.
“Liquidity flowing into the clean tech space is dropping,’’ Berger worries. “People are running on borrowed time.”
