At First Glance, SolarCity Deal Would Be A Big Negative For Tesla

Tesla Motors Inc (NASDAQ: TSLA) has offered to acquire SolarCity Corp (NASDAQ: SCTY) in an all-stock deal that represents a 21-30 percent premium to the latter’s closing price on Tuesday. Pacific Crest’s Brad Erickson maintained a Sector Weight rating for Tesla, saying that the deal seemed to be “fraught with financial risk” and the initial take is “largely negative” for the automaker.

Tesla’s offer, which values SolarCity at $26.50-$28.50 per share, is still to be approved by the latter’s board and is subject to normal regulatory approvals. Analyst Brad Erickson pointed out that the transaction would require Tesla to issue about 14 million new shares, or 10 percent.

SolarCity Financials Negative for Tesla

Although both companies operate in the broader alternative energy sector, their business and financing models are very different.

Related Link: Tesla's Bid Suggests "Very Little Value" In SolarCity; Gordon Johnson Maintains Sell

“The concern on SolarCity from our outsider's perspective was investor uncertainty about whether its cost of capital structure would support profitable economics down the road. Coming under Tesla's wing could serve to improve certainty, although we are not sure how,” Erickson wrote.

SolarCity has an atypical model, which is based on the net present value [NPV] of future cash flows from its long-term annuity agreements. This is likely to weigh on Tesla's financials, the analyst stated.

SolarCity's management indicated that the company had sufficient recurring revenue under contract to repay all debt. Erickson mentioned, however, that the consensus estimates imply that SolarCity would burn about $400 million in cash from operations next year, while recording non-GAAP losses of nearly $1 billion.