Enphase Energy Inc (ENPH) 2013 Q4 法說會逐字稿

Good day, ladies and gentlemen, and thank you for standing by. Welcome to Enphase Energy's fourth-quarter 2013 financial results conference call.

(Operator Instructions)

As a reminder, this conference is being recorded.

I would like to hand the conference over to Mr. Bob Dentzman, Treasurer. Sir, please go ahead.

Thank you, and good afternoon. Thank you, everyone, for joining us on today's conference call to discuss Enphase Energy's fiscal fourth-quarter and full-year results. This call is also being broadcast live over the web, and can be accessed in the Investors Relations section of Enphase Energy's website at www.enphase.com. On today's call with me are Paul Nahi, Enphase Energy's Chief Executive Officer, and Kris Sennesael, Chief Financial Officer.

After the market closed today, Enphase issued a press release announcing the results for its fiscal fourth-quarter and year ended December 31, 2013. If you would like a copy of the release, you can access it online at the Company's website.

During the course of this conference call, Enphase management will make forward-looking statements, including, but not limited to: statements related to Enphase Energy's financial performance, market demands for its microinverters, advantages of its technology, market trends, and future financial performance. These forward-looking statements are based on the Company's current expectations, and inherently involve significant risks and uncertainties. Enphase Energy's actual results and the timing of events could differ materially from those anticipated in such forward-looking statements as a result of these risks and uncertainties.

Factors that could cause results to be different from these statements include factors the Company describes in its press release of today, especially under the section entitled Forward-Looking Statements, as well as those detailed in the section entitled Risk Factors of the Company's report on Form 10-Q for the quarter ended September 30, 2013. Copies of these documents may be obtained from the SEC or the investor relations section of the Company's website. Enphase Energy cautions you not to place undue reliance on forward-looking statements, and undertakes no duty or obligation to update any forward-looking statements as a result of new information, future events, or changes in its expectations.

Also, please note that certain financial measures used on this call are expressed on a non-GAAP basis, and have been adjusted to exclude certain charges. The Company has provided reconciliations of these non-GAAP financial measures to GAAP financial measures in its earnings release posted today, which can also be found in the Investor Relations section of its website.

And now, I'd like to introduce Paul Nahi, Chief Executive Officer of Enphase Energy. Paul?

Thank you, and welcome to everyone joining us for our fourth-quarter and full-year 2013 earnings call. I'm going to start with a general overview of our fourth-quarter performance, and then provide a recap of 2013. After that, Kris will take us through the financials, and we'll go to Q&A.

We closed 2013 on a distinctly high note, with an exceptional fourth quarter, having achieved several key milestones. Our fourth-quarter revenue was a record $67.1 million, as we shipped over 100 megawatts AC of microinverter systems for the first time in any one quarter. This top-line performance was mainly driven by healthy demand and strong business momentum in our core US residential market.

Gross margin for the fourth quarter was also a Company record, coming in at 32.3%, marking the first time we have exceeded the 30% threshold, and representing a 430-basis-point improvement over the fourth quarter of 2012. Combined with our ongoing focus on expense management, we delivered an operating profit of $400,000, and positive cash flow from operations of $7.6 million. This is the first quarterly operating profit in Enphase's history, and a major achievement for the Company.

Kris will go through more of the fine points regarding our fourth-quarter and full-year financial results, but I will say that we are very pleased with our ongoing progress. This quarter's results demonstrate the power of the Enphase business model, the demand for Enphase systems around the world, and importantly, our ability to execute on key initiatives. We are extremely pleased to have achieved these milestones during the fourth quarter, and I'm very proud of the entire Enphase team for their great work in making this happen.

In addition, we exited 2013 with strong business momentum, and a very solid business and operational foundation that will enable our continued success. We are well positioned for 2014, and off to a great start for the new year.

Since the beginning of Enphase, back in 2006, we have consistently made tremendous progress. And our impact on the global inverter and solar industry has been nothing short of disruptive. We've introduced a system-based high-technology approach to solar energy generation, which formerly did not exist, and is transforming the industry. Our value proposition is being embraced by a growing number of global industry participants, and has resulted in Enphase rising to become the leading inverter technology used on homes in the Americas.

Since inception, we've shipped over 1 gigawatt AC, or 1.2 gigawatt DC, of microinverter systems. We are, by far, the highest volume inverter company, with more than 5 million units shipped. We also passed a key milestone of 1 terawatt hour of clean energy produced by our microinverter systems.

We continued to build a strong Enphase brand in 2013, both domestically and in the global markets. In the US residential market, we've continued to grow our Business and increase our market share to become the number-one inverter company. We estimate that our market share in the US residential market is over 45% by megawatts, and over 50% by revenue.

Internal data, obtained through our Enlighten monitoring software, reflects that our installations in the US residential market showed very impressive growth of about 45% in 2013 year over year, as we solidified our position as the dominant inverter technology in this market segment. This speaks to the value of our microinverter system, which is being embraced by our growing customer base, including the thousands of small, medium, and larger installers, along with third-party financing companies.

During 2013, we experienced even higher growth rates in our businesses outside of the US, despite some challenging market conditions as a result of uncertain and declining government incentives. We believe that markets such as the UK and Australia represent tremendous opportunities, and we're very excited about our progress there. Both markets have large, relatively stable residential and commercial solar businesses.

In the UK, we've made great strides in developing the Enphase business by creating brand awareness, building out a distribution network, and most important of all, developing relationships with installers through education, training, and providing the world's most advanced inverter technology. As a result, we estimate our residential market share in the UK has grown to over 6% in the fourth quarter of 2013.

In Australia, we've established our team, the corporate infrastructure, and are rapidly making an impact. We are now poised for significant market share growth.

As in other countries, we're targeting both the residential as well as the commercial markets. And in fact, in December, the largest Enphase array in Australia, a 100-kilowatt installation, was completed for the Glenlyn Care Facility in Melbourne. We look to build on this success and others, as we continue to grow our Business in Australia in 2014.

So, in summary, our 2013 international business showed strong growth, and we believe we're well positioned for substantial contributions from our international business segment in 2014 and beyond.

During 2013, we continued to look to new partners, markets and channels to accelerate our top-line growth. One of these channels is new homebuilders, which is highlighted by our strategic relationship with Lennar, one of the largest homebuilders in the country. The Enphase microinverter system provides the flexibility, performance, quality, and monitoring capabilities that has helped Lennar in their rapid expansion of the very successful Sun Street program.

Nearly 820,000 home starts are projected in the US for 2014. And this relationship helped set the course for advancing solar energy adoption in new homes across the country.

In addition to our initiative with new homebuilders, we recently announced that we're working with Ingersoll-Rand Nexia Intelligence to evolve smart home energy monitoring. These collaborative efforts are aimed at integrating the performance data from rooftop solar systems using Enphase microinverters, with home automation systems, and making it accessible via the Nexia Home Intelligence platform. This provides yet another example of how Enphase continues to expand its offerings for US residential solar customers.

Product development and innovation continue to be at the heart of what we do at Enphase. In 2013, we successfully introduced our fourth generation product, the M250, to the US market to augment our highly successful third generation product, the M215. In addition to providing better performance and supporting higher output panels, the M250 has features that reduce requirements for both labor and material, decreasing the cost per watt of our microinverter system, while at the same time being accretive to gross margin.

In early January of 2014, we announced the expansion of the Enphase system with new hardware and software products. Two examples of new hardware products include: a Wi-Fi option for the on-board communications gateway, and the new M215 microinverter with integrated ground. The Wi-Fi option provides greater flexibility and reduced installation time. The new M215 now includes our integrated ground technology, eliminating the need for a separate copper wire to be attached to each microinverter, which saves both labor and material. These features, introduced with the M250 in 2013, are now included in the complete Enphase microinverter product family in North America.

Along with these products, we also introduced two new Enlighten software products, MyEnlighten and Enlighten Manager, which will further improve the solar consumer's experience, and the installers' installation and management of their fleet of systems. MyEnlighten has been specifically designed for the educational and informational needs of solar homeowners, while professionals, using Enlighten Manager, will see new, sophisticated, web-based software tools to help them more efficiently and effectively install and manage their solar systems. As an example, Enlighten Managers will help installers identify, confirm, and prioritize maintenance needs across multiple installations, thereby reducing O&M costs.

These recent introductions demonstrate our commitment to the development of new products which improve performance, enhance our customer experience, and a reduced cost throughout the value chain. These efforts are ongoing, and are in addition to our continued development of successive generations of microinverter systems.

In closing, 2013 was another year of growth, global expansion, technical accomplishments, the achievement of significant financial milestones, and the continued success of our high-technology business model. It required a lot of hard work, cleverness, as well as the grit and perseverance of the Enphase team.

Looking forward to 2014, the business environment for solar appears to be stronger than ever, and so is Enphase. We are eagerly anticipating our new challenges and opportunities, as we continue to spearhead the industry's transition to microinverter systems. We are poised to deliver strong results, and continue to execute on our balanced profitable growth strategy.

And with those comments, I'll turn it over to Kris.

Thank you, Paul. First, I will start by providing some more detail on the financial results for the fourth quarter of 2013, touch on some of the full-year results, and then I will turn to the business outlook. As a reminder, the financial measures that I'm going to provide are on a non-GAAP basis, unless otherwise noted.

During the fourth quarter, we experienced better-than-expected, strong business momentum. Total revenue for the fourth quarter was $67.1 million, exceeding the high end of the revenue outlook of $62 million to $65 million that we provided during the third-quarter earnings call. $67.1 million of revenue is a new Company record, up 8% compared to the third quarter of 2013, and an increase of 16% year over year.

We shipped approximately 107 megawatts AC, or 123 megawatts DC, during the fourth quarter, which is an increase of 14% over the third quarter of 2013, and an increase of 30% on a year-over-year basis. The 107 megawatts shipped represents roughly 485,000 microinverters, of which approximately 20% were our fourth-generation microinverter systems. Revenue from outside of the US represents approximately 15% of total shipments.

Fourth-quarter gross margin was a record of 32.3%, an increase of 400 basis points compared to the third quarter of 2013, and an improvement of 430 basis points compared to the fourth quarter of 2012. Our ongoing gross-margin improvement has been exceptional, driven by ongoing cost reductions and higher volumes. To provide some perspective, this quarter's gross margin of 32% compares to 8.3% in the first quarter of 2010.

Operating expenses during the fourth quarter were $21.3 million, up slightly over the third quarter, mainly as a result of semiconductor tape-out-related engineering expenses. R&D expenses were $8.2 million, sales and marketing expenses were $7.7 million, and G&A expenses were $5.4 million. These non-GAAP operating expenses did not include $1.8 million in stock-based compensation expenses.

As Paul noted, in the fourth quarter we posted the first quarterly non-GAAP operating profit in the Company's history. Our top-line growth, when gross margin expansion combined with our efforts to keep operating costs relatively flat, resulted in an operating profit of $400,000. This provides some insight into the leverage of our business model, as we were able to post our first quarterly operating profit on $67 million of revenue.

For the fourth quarter of 2013, net loss was $700,000 or a loss of $0.02 per share. On a GAAP basis, the net loss was $2.8 million or $0.07 per share.

In addition to our strong top- and bottom-line performance, we did an excellent job of managing our balance sheet in the fourth quarter. Cash flow from operations during the fourth quarter was $7.6 million, while our net cash flow was $6.3 million, due primarily to improved financial performance, and management of our receivables and inventory. We ended the quarter with DSO of 44 days, and inventory on hand of 33 days. Capital expenditures during the fourth quarter were $1.4 million, and depreciation and amortization was $1.9 million.

We repaid approximately $600,000 of our existing term debt. As a result, the Company exited the year with a total cash balance of $38.2 million, and $8.7 million of term debt. As a reminder, our working capital facility remains undrawn, and we recently extended the maturity of this facility to November 2016.

Closing on my fourth-quarter summary, we have repeatedly stated we have line of sight to profitability and positive cash flow. This quarter's result underscores the progress we have made. We still have more work to do to improve on this quarter result, and make them sustainable, but we believe we are well on track to achieve this goal.

Now, I would like to talk about a few of the full-year highlights, starting with the top line. Full-year 2013 revenue is $232.8 million, up 7% compared to 2012.

However, keep in mind that during 2012, we benefited from the 1603 cash grant program that expired at the end of 2011. As a result of this, we recognized approximately $28 million of incremental revenue during the first and second quarter of 2012. Some of those units were installed during the second half of 2012, but a large part of them were being installed during 2013 or later.

Excluding these 1603 units, revenue would have been up approximately 23% on a year-over-year basis, which we believe is a better representation of our true growth story. This is also clearly demonstrated in the continuous high growth that we experienced in installations. Fortunately, the 1603 effect is largely behind us, and year-over-year revenue growth comparisons going forward should no longer be materially impacted by this.

Turning to gross margin, our performance in 2013 extended our track record of remarkable improvements in an industry that is seeing eroding gross margins in general. Our fourth-quarter gross margin of 32.3% is a Company highlight, and with our full-year gross margin of 29.1%, we continue to make good progress towards our target of 35% to 40%. Our ability to expand gross margins, based on our balanced pricing actions, and continued focus on cost reductions through innovation in our semiconductor base product platform, is a clear differentiator for Enphase.

Also, 2013 was a year where we shifted our focus from investing in operating expenses to leveraging the infrastructure that has been put in place. For the full year, our operating expenses totaled $82.5 million, representing only $1 million increase over 2012. We have implemented the financial discipline that will help guide our spending as we move forward. That said, we expect 2014 to be a year where we make some incremental investments in operating expenses to continue to fuel top-line growth. We expect these investments to be modest, and will be aligned with supporting efforts around driving profitable growth.

Finally, turning to cash flow and liquidity. We made great progress in 2013, approaching breakeven in cash flow from operations. Our top-line growth, improved margins and financial performance, and focus on working capital management resulted in a full-year cash flow from operations of negative $900,000.

In addition, our low CapEx model, based on outsourced manufacturing, resulted in $6.3 million of capital expenditures for the year. We closed the year with $38.2 million of cash, and we believe that our cash on hand, combined with our committed credit facility and improved cash flows, gives us ample liquidity for the foreseeable future.

Paul noted that 2013 was a pivotal year for us. A key element of this is our significantly improved financial profile, which positions us well to participate in what is projected to be a very strong 2014 for the solar industry.

Before turning to our outlook for Q1, I'd like to take a moment to discuss an accounting change that we are making effective January 1, 2014. This change will affect how we will account for the warranty obligations on our microinverters going forward. To date, we have recognized warranty obligations on an undiscounted cost basis. These undiscounted obligations are then settled over a term of up to 25 years. Effective January 2014, we've elected to account for such warranty obligations on a fair value basis.

It should be noted that this election is applied on a prospective basis only, and will not apply to the warranty obligations incurred prior to January 1, 2014. Under the fair value accounting, warranty obligations will be presented on a discounted net present value basis at time of sale. These obligations will then be accreted up to their undiscounted cost over the warranty term. We believe the election to present warranty obligations on a fair value basis more accurately reflects the time value of money associated with obligations that are settled over a longer period of time.

Now let's discuss our outlook for the first quarter of 2014. The first quarter of every year is typically a soft quarter, due to weather and other seasonal trends. However, we continue to experience strong business momentum. As a result, we expect revenue for the first quarter to be in the range of $54 million to $57 million. At the midpoint of the revenue outlook range, revenue is up 22% compared to the first quarter of 2013.

Regarding gross margin, we expect the gross margin to be within a range of 30% to 33%. This also includes the improvements in gross margins of approximately 1 percentage point as a result of the introduction of fair value accounting for warranty expenses on a going-forward basis. We also expect operating expenses to be up approximately 5% to 8% compared to the fourth quarter of 2013, as we continue to invest in the growth of the Company.

And now, I will open the line for questions.

(Operator Instructions)

Philip Shen, Roth Capital Partners.

Hello, guys. Congrats on the performance in the quarter, and especially the margins.

Thank you.

Let's talk about 2014 if we can. You've got into Q1 clearly -- how should we think about revenue growth in 2014, and how perhaps your international exposure changes? Because I think you had about a 15% mix of international sales in Q4. What are your thoughts on how this evolves in 2014, and for us what overall revenue growth might be relative to consensus of just around North of 20%?

Sure. So clearly we only guide to the current quarter, so I can't give you any definitive numbers beyond that. But what I can say, is that if you look both historically and what we're doing in the current quarter, you'll see tremendous momentum both in our core markets in the US as well as what we're seeing as really fantastic growth outside of the US as well.

We expect the momentum both domestically and internationally to continue. And as we continue to build out our operations overseas and continue to invest in new go to market channels in the United States, I think we're very comfortable with the current growth path.

Okay. I think given your guidance for Q1, can you share with us perhaps what the Gen4 mix of shipments might be that's baked into guidance?

So in the fourth quarter, roughly 20% of our shipments were fourth generation. And looking forward to Q1, we expect approximately the same, maybe slightly up. When you look at the fourth generation, especially the M250 shipments, they are driven by the availability of the higher power modules.

Unfortunately, in our core markets, the US residential market, there is not a lot of demand for the higher power modules right now. We expect that to continuously increase over time, but for now there's not a lot of economics that support the use of those higher power modules. And as a result of that, most of our customers continue to use the 250, 260 watt DC modules and pair them with our M215.

Okay. What do you think -- what will it take to shift the US market to the higher wattage panel?

That's really up to the installers and the module manufacturers. What we have seen is that the economics of the lower power modules are better, and are quite good right now. I think as the higher powered modules scale up in production, we should see efficiencies there. We should see costs come down there, and I think you'll see a more rapid migration.

But importantly for Enphase, we're a little bit ambivalent. While we'd love to see the continued adoption of higher modules, the higher powered modules, we have a very broad product offering that allows the installer to exactly tailor the installation to the module and the inverter, and make sure that it is as efficient as possible for their consumer.

Okay. That's helpful, Paul. So how long do you think the transition might take? Originally, you guys were thinking a year. Is it the case that we could see the 215 and the 250 available for another year or even two, together?

Distinctly possible. Again, since we don't really control the volume of the higher output modules or the prices of the higher output modules, all we can really do is provide the commensurate inverter for them, which we do. But it looks like certainly throughout 2014, you're going to see the M215 do quite well and possibly into 2015.

All right. And I would like to add there, we will of course continue to drive down the unit cost, the product cost of the M215 down. We announced now the availability of the M215 with the integrated ground feature, and so we will definitely will continue to push hard and drive down the cost of that product as well.

Great. Great. Shifting gears, I think last quarter you guys had maybe 15% of your sales go into the commercial market. Or I think you were talking about 15% to 20% of your shipments could become or could go into the commercial market.

What's your view on that now? How is that mix evolving? What are your thoughts there?

As of now, the percentage mix is not changing. We feel very good about both the entrance obviously of what we're doing in the residential market, as well as our penetration into the commercial market.

Now we do have multiple products under development that very specifically address both the commercial and the utility scale market. The product right now that's being used in the commercial market is much more similar to the residential product than it is to a purpose built commercial or a purpose built utility scale product. So for right now, we're extremely pleased with the adoption and our penetration into the commercial markets, both domestically as well as internationally.

Great. One more question, and I'll jump back in queue, Paul. We noticed from Greentech Media that the DC optimizers have started to gain some share, and I think 17% of overall residential share in 2013. Just talk to us about what you're seeing out there, and how you expect market share to trend in 2014. And if you feel like you're coming more head-to-head -- competing more head to head with those technologies these days.

Actually, our main competition right now continues to be the standard string and central inverters. We're not seeing any significant or any meaningful contribution to the competitive landscape from either the DC optimizers or our competition's micro inverters.

At this point, it's become very clear I think to all companies that -- all inverter companies, that if they want to stay relevant in the rooftop, the global rooftop market, they're going to have to produce a micro inverter, and several of them have. But once again, they're not really providing yet any meaningful competition. We expect that to change, and we expect them to be very strong competitors over time, but not necessarily with their first generation product.

Okay. Great. Thanks, Paul. Thank you, Kris. I'll jump back in queue.

Thank you.

Krish Sankar, Bank of America Merrill Lynch.

Hello. Thanks for taking my questions, and congrats again on the good result in Q4. I had a couple of them. Number one, Paul, or Kris, kind of curious for the reason for the change in the warranty obligation from January 1. And along the same path, I noticed in Q4 the warranty obligation balance was up sequentially more than shipments were up. So was it related to any field performance concerns or what is going on there?

Yes. So let me first address the change in the accounting. We have an ongoing process in which we review our accounting policies and practices. And especially going into a new year, we pay some more attention to it.

And for us, it's clear that when you have an obligation that is settled over a period of up to 25 years, that the fair value accounting is a much better presentation of a long-term obligation. And as a result of that, we are making that change right now starting with the new FY14.

In reference to the warranty disclosures last quarter, really, what we do as a hardware company is very, very standard. We will, every quarter, review the data from the field. Remember we have over 5 million units all over the world in all kinds of environmental conditions.

We will review the data from that, and we will make the appropriate modifications. Sometimes up, sometimes down, to the warranty obligations based on real field data. So the process we use is very standard. And as you will have noticed, some products may have gone up, some products will go down. That process will continue.

All right. And then another case, obviously there's this solar trade keeps going on in the tariffs from IPC and the Department of Commerce. In a situation where it drives up the price of the modules, does it mean that there's going to be extra pressure on inverter prices to help offset some of the BOS cost, or how do you view the solar trade case and the impact on your pricing?

I think that there has been consistently pressures on ASPs for inverters. I don't think that's anything new. We won't necessarily opine on this specific case.

What we do know is that the industry right now is extremely robust. That because of the lower prices of solar in general and because of the rising prices of fossil fuel energy, we're seeing a better and better environment for solar in the US and across the world. Clearly doing something that raises the price of the modules isn't helping, but at the same time we need to find a balance between a fair trade and doing something that encourages the development of the solar market.

Having said all of that, in reviewing the trade case, it's our view that and our anticipation that whatever changes that may come out as a result of it most likely won't necessarily materially affect the demand in the US.

Got it. All right. Fair enough. And then a final question from my end, if I look at your Q1 OpEx guidance, somewhere around the mid $50 million revenue run rate, your OpEx as a percent of sales is much higher than when you did last Q2 or even Q4 of 2012. So is this the new normal on a go forward basis, or is this a one-time OpEx pickup that should probably tail off some time as the year progresses.

Well I'm definitely very pleased with the operating expense management that we did during 2013. Keeping them flat for almost four quarters in a row, with some slight increase towards the end in Q4. But to be honest, that was not really sustainable.

If we want to grow the top line let's say at about 20% in revenue, which is, of course, more like 30%, 35%, 40% in megawatts, we will have to continue to invest in the future of the Company, and we'll have to continue to invest in R&D resources, and sales and marketing resources to support the international growth that we have.

So I think a good way to think about that is if you assume a 20% top line growth, OpEx will grow at half the speed of that, so let's say more like a 10% year-over-year basis. Obviously, if revenue would grow faster, let's say at 25%, then you look more at a 12.5% growth, or if revenue grows slower then that would come down as well. But that's kind of a good way to look at it in order to support the growth of the Company.

Got it. Thanks, Paul, and, Kris.

Thank you.

Colin Rusch, Northland Capital.

Thanks, guys. Can you just talk about what's going on with the working capital? Obviously, both inventory and payables were down pretty dramatically on a percentage basis. Are you starting to see a different cycling with the way customers are ordering or is something changing with your supply chain?

Well, let me first address on the receivables side, Q4 is somewhat like in preparation of a softer Q1, and so the business start getting a little softer already in the December month. And then January and February is typically softer, and then we start seeing a rebound in the March timeframe. And so that seasonal trend definitely helped to reduce the overall DSOs.

On the inventory side, it's a big focus item for us. We want to manage our inventory levels down, and improve our inventory turns. We feel very comfortable with what we have achieved there, and going forward it's definitely going to be a big focus item for us as well.

And then on ASP trend, I know there's some mix between the system level and just the inverter mix. But you had a pretty healthy decline quarter-over-quarter. Can you just talk a little bit about what's driving that, and what you're doing with pricing as we go into 2014?

Pricing for us is -- it's obviously a very important topic that we're looking at on a quarter to quarter basis. We're continuously evaluating the competitive landscape, and we're looking at our growth as well. And finding the right balance between the right ASP, and then obviously getting to an operating profit.

We have said several times in the past that we don't believe that either ASP declines or cost reductions are going to be linear. They're going to be by definition a little bit lumpy. But are we seeing anything right now that would lead us to believe that there should be a very dramatic change in 2014? No. But we do believe that 2014 will be a very competitive environment, and we do believe that there will be very significant pricing pressure, and we have obviously built that into all of our models.

Okay. And then just on the product development cycle, historically you've introduced a new product every 18 to 24 months or another generation I should say. We're about a third of the way through that timeframe with the gen 4. Can you talk a little bit about how you see that cycle changing as we go forward?

And with the relatively slow adoption on the gen 4 given the availability of the higher power panels, how you're focusing the R&D efforts as you look at the gen 5 where it seemed like going to a higher power rating could have been one of the key drivers for cost reduction?

Sure. Higher power is one element of cost reduction, but there are several others. Semiconductor integration, volume, manufacturing efficiencies. So there's a lot more there than just higher power, but higher power is important.

In terms of the timing for the introduction of the next generation products, you had mentioned that we had said in the past, 18 to 24 months. That cadence seems accurate, and I don't know that I would make any adjustments to that right now. And those are obviously very approximate.

What is important to note, however, is that the one element of a solar system that is far and away going to need to change the most to adapt to the evolving grid is the inverter. The inverter is where all the intelligence is housed, it is the brains of the system, and as we approach increasing density of solar, on a particular grid, on a particular feeder network, the inverter is going to have to work far more closely with the utility and more interactively with the utility to support that.

So one of the reasons why we are spearheading the charge of with a working group in California to evolve some of the dynamics required, some of the technical specifications required of the inverter to work in these kind of environments. So there is a lot of work going on within Enphase. A tremendous amount, I should say, for the next generation of inverter, that will support these evolving technologies, these evolving requirements that are not just coming from California, but California, from Hawaii, and from the rest of the world. So we see our R&D actually ramping up to support this.

But at the same time, is there going to necessarily be the same path towards higher power modules or could that potentially slow down? Yes, it could. But the need for the next generation inverter is higher than ever right now.

And I'll just sneak one last one in. With the change in the Board, bringing on the [Delman Firm] from Landis+Gyr, which is obviously owned by Toshiba, can you talk about this integration with utility services? Is there a new revenue stream that you can see starting to emerge yet in terms of selling this data back to utilities for monetizing it through that? And then also if you could comment on the Japanese market and your approach at developing products for that market? And then I'll stop there. Thanks

Sure. So the dynamics of the business of the inverter business as it relates to utilities, is really too dynamic for me to comment on. We do know that there are going to be some requirements to work within a grid that has higher density of solar. So those are very likely going to be table stakes. But on top of that, is there an opportunity to work more closely with the utilities to provide them information to help them manage their grid? That is distinctly possible. But again, those business models are evolving, the technologies are evolving. So I can't really be any more specific at this time.

Now in reference to your comment about Japan, we are working very, very closely with multiple Japanese companies. Looking at both the market, as well as the technologies necessary to enter Japan. It's still a work in progress for Enphase. There are a lot of obvious challenges associated with the Japanese market, but we feel that the market itself is very well suited to Enphase and to our micro inverter system solution. So we're bullish about our prospects there, although I can't provide any timing.

And I will take this opportunity to say that we are very excited to have Richard Mora join the Board of Directors as the COO of Landis+Gyr with his experience both with the utilities and with metering. We believe that his contributions are going to be very meaningful over the next several years.

Thanks so much, guys.

Thank you.

So do we have the next question? Operator? Hello? We may be experiencing technical difficulty. If we could ask for everybody's patience.

Vishal Shah, Deutsche Bank.

Hello. Thanks for taking my question. Paul, I was wondering when you think you can hit your margin targets of 35% to 40%? Your guidance of 30% to 33% of the run rate of $50 million, $55 million of revenue would suggest that at some point in 2014 you should be able to hit at least the low end of the targets. Can you just talk about that?

And also, as you look into the market in the US, where do you think the market, the demand is coming from? Which states are really active right now? Are you seeing broad-based strength across all the states, or is it only one or two states that are driving the growth?

Then finally, how do you think about the demand from some of the larger leasing companies? I think that pricing has been an issue with some of those leasing companies. Are you trying to work with some of those companies to fix the pricing issue? Thank you.

Sure. So for your first question on when we plan to hit our model. Our goal, and we've said this many, many times and will continue to say it, is we are on a path of profitable growth. Which means that we need to chart a way to optimize both growth and profitability. If we wanted to focus on, as an example gross margin, we can get there relatively quickly. If we wanted to focus purely on growth, we could do that as well. Neither one of those independent of the other we feel is the best long-term solution for Enphase.

What we are doing right now is focusing on the middle ground, if you will, that nuanced path that allows us to continue to grow, but doing it in a responsible way that allows us to become more and more profitable or chart a path towards profitability with every quarter.

That means that we're not necessarily focused on getting to the target gross margin model right away. That isn't necessarily the goal. The goal is to maintain our growth, while increasing profitability, and while increasing the gross margin over time. We've also said that gross margin -- our gross margin expansion isn't necessarily linear. That it will be lumpy. That we don't always time a cost reduction with a price reduction, so we may see some up-and-down over time.

In terms of demand from the US, we are definitely seeing the demand come from multiple states. These are the states that I think everybody is familiar with. But we're also seeing an expansion. There are new states coming online. There are new programs coming online, not just with different states but within a state. So I think that if you look across the US, you're finding that solar, the demand for solar is coming from a wider and wider geography. It is still very concentrated in California, but I think that over time you're going to see that concentration dissipate even as California continues to grow.

In reference to the leasing companies and the pricing that's associated with that, we are today -- we work with almost every large and small PPA in the country. In some cases, we're the exclusive micro inverter, in some cases maybe not. But we have outstanding relationships, and very, very deep ties to many of them.

You had mentioned pricing being an instrumental part of those relationships. We couldn't agree more. But we feel that we have a very good handle on where their demand is, and are very comfortable with our ability to meet the upcoming pricing requirements, the upcoming ASP requirements in 2014 from the leasing companies.

Thank you so much. Well, just on that front, where do you think your market share is in the leasing space, and do you expect your share to go up in 2014 within the leasing market?

So we don't talk about the specific percentage within the leasing markets. What we do say, however, is that almost every third-party leasing company uses Enphase. And as I mentioned just a moment ago, in some cases exclusively, and our share of the leasing market has continued to grow. And yes, we do expect it to grow in 2014 as well.

Thank you so much.

Thank you.

Pavel Molchanov, Raymond James.

Congrats on a nice cash flow in the quarter. Kind of building on the prior question about the drivers behind the growth domestically, have you noticed any changes in your customer concentration? And I ask because you've obviously disclosed publicly some of the relationships that are quite relevant like Vivint. Has there been any changes in that sense?

I would say in general no. We continue to support both the large and small customers that we currently have. But there hasn't been any material change. Now what is true is that some of the larger companies are growing quite fast. So that, by default, would change the mix a little bit. But if you look at it in terms of the number of installers that we're supporting, I think you'd see the percentage to be fairly consistent.

Okay.

And we have approximately two or three customers within the 10% to 20% customer range, and so that hasn't changed over the last two, three years.

Okay. And your largest customer, I'm not sure if you want to identify it, but has their share of your revenue increased over the past year?

It has increased over the past year, yes, but it's still within that 10% to 20% range.

Okay. Got it. And then a second point from me is, you've mentioned OpEx is going to go up in a year when you're looking to do some investing. Is capital spending, which I know has not been that meaningful historically, should that be ticking up as well?

No. In 2013, we spent $6.3 million on capital expenditures. For 2014, we definitely target to keep the CapEx below $10 million.

Okay. But higher than the $6 million?

It could be slightly higher than the $6 million. Yes.

Okay. Understood. Appreciate it guys.

Thank you.

Ashok Ramji, Lamoreaux Capital.

Hello, Paul, and, Chris. Congratulations on this quarter's results. A follow-up on the competitive landscape, you mentioned that the main competition is still in the form of central string inverters. But we're seeing some press on SMA Sunny Boy micro inverter product now coming to market. Granted, in other parts of the world. Could you comment on this please, and is their entry into the US still some time away? Thank you.

Well I certainly can't comment on the timing for the entry into the US. That question would need to be addressed to SMA. What I will say is that, it has been out there for some time. And as I mentioned before, we're just not seeing it as a strong competitor.

Our competition both internationally and domestically remains the string and central inverters. But as we talked about, you mentioned SMA and there are other companies out there that have micros. There's a clear recognition from these companies that they're going to need to do one. And long-term, we absolutely expect these companies to produce very competitive products. But today, we're not seeing any meaningful competition come from other micro inverters.

Great. Thank you very much.

Thank you.

(Operator Instructions)

Paul Strigler, Esplande

Hello guys. Just a couple quickies. One, on the slower adoption of the gen 4 product, are there any penalties with your OEM manufacturing partners if you don't hit -- if it's 20% of your volume and you budgeted for 30%, is there any sort of penalties you might face?

So, the answer is no.

Great. And then so when I think about 2014 for the residential market in the US, obviously SolarCity is going to be a huge chunk of that growth. And you guys know the residential market probably better than anyone. What do you forecast the non-SolarCity growth for the residential market in the US for 2014?

So, I probably would not break out SolarCity versus not. What I would say is that we would expect market growth in the US to grow somewhere between 20% and 30%, US residential market.

And so going from how many megawatts to how many megawatts would that be?

It's probably 750 megawatts plus or minus plus for 2013.

Great. Thanks a lot, guys.

Thank you.

Thank you. And that concludes our question and answer session for today. I would like to turn the conference back over to Paul Nahi for any concluding remarks.

Thank you for joining us on our call today. We're excited with our progress, highlighted by our record fourth-quarter revenue and gross margin, as well as our first ever operating profit. The focused execution of our business strategy has propelled us to the number one position in the US residential solar inverter market, provided a platform for global growth, demonstrated our ability to expand our margins, and enabled us to chart a path to sustainable profitability and positive cash flow. We're taking this momentum into 2014, and look to build on what was a great 2013.

In closing, I want to once again acknowledge the efforts of everyone at Enphase. To achieve these outstanding results requires a team effort, and we truly have a great team here at Enphase. We look forward to talking with you again next quarter.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may now disconnect. Everyone have a good day.