Powering Ahead with Energy as a Service (EaaS) Strategy

Key Points

  • Capstone is positioned in the distributed energy generation (DEG) – or microgrid industry – with a proprietary microturbine technology platform.
  • According to Capstone, its platform can reduce energy costs, ensure power availability, and meet CO2 reduction goals with a near-zero emissions profile, which also positions the product within the customer’s Environmental, Social & Governance (ESG) framework.
  • We believe broader industry trends will continue to favour technologies and services that will help companies reduce their carbon footprint driven by regulation as well as corporate responsibility.
  • The global microgrid industry is expected to grow over 10% CAGR between 2020 and 2025 and we expect the industry will continue to benefit from long-term trends.
  • Capstone’s business has pivoted over the last 12 months to increasingly focus on developing an energy as a services business (EaaS) around its core energy technology platform.
  • If the company can continue to execute on an EaaS strategy, it should lead to more predictable and stable cash flows, despite product orders and backlog experiencing variability quarte to quarter.
  • The company recently reached adjusted EBITDA breakeven following a multi-year cost cutting effort, but also acutely demonstrated the importance and positive impact EaaS can have on profitability.
  • In addition to the existing distributor sales model, Capstone has initiated a National Account effort, which management believes will better target more substantial, corporate accounts with the potential to land larger orders for multiple locations.

Catalyst Monitor

  • Continue to pivot towards the EaaS model demonstrated by growing the rental fleet to the targeted 10MW and beyond in addition to communicating the next leg of the strategy.
  • Refinancing the Goldman Sachs’ note of $30 million Senior Secured Notes and sourcing additional capital to drive the EaaS strategy and in particular the rental business. The note carries a relatively high cost of capital at 13%, so anything Capstone can do to reduce the cost of borrowing should subsequently improve the IRR on rental business.
  • Management has stated FY21 goals of $10M+ of Y/Y adj. EBITDA improvement, 10MW of rentals, 22% gross margin, 15% of revenue from direct sales and 6 inventory turns. Delivering on these goals should help to further establish the credibility and ability of the company to deliver on the stated strategy and improve investor confidence.
  • Reaching cash flow positive could help relieve concerns about the need for or the use of proceeds from any future capital requirements as the transition would move from survival capital to growth capital. This would also help to solidify the financial health of the company from a customer perspective and management believes this would meaningfully reduce the perceived risk of working with Capstone on large scale deployments.

Our Insight

The Opportunities

Capstone has experienced a variety of cycles and shifts in the industry over the past decade, but management believes it has never been better positioned to leverage what is now a sea change in how energy is viewed, created and delivered. The proliferation of renewables, a focus on energy security and reliability, outdated power grids and energy as a service (EaaS) are all driving change. It is important to note that Capstone’s products are not experimental but rather have been deployed in wide scale commercial applications for decades. The platform has proven itself to be as advertised and is demonstrated by the fact that the company has to date shipped over 10,000 systems into 73 countries logging millions of operating hours. So, the question stands what is different today? Some of the highlighted opportunities include the following:

  • Management took aggressive steps to reduce the operating costs of the business designed to make the company profitable on a much lower revenue base.
  • The mega trend towards microgrids is firmly in place in our opinion, which should therefore increase the total available market to Capstone and aid in expanding revenue opportunities.
  • There is a greater focus by numerous industries to lower their carbon footprint driven by corporate responsibility and/or regulations and Capstone’s energy systems can help achieve those goals.
  • A continuing pivot by the company to drive EaaS should, if successful, help stabilize the cash flows, improve predictability, and increase overall margins based on management commentary.

The Obstacles

Although there are numerous favourable tailwinds, there are also challenges that must be navigated and overcome. The company has a long operating history throughout which it has not been profitable. There are a variety of externalities and issues that have been problematic, but nonetheless that is the reality. Some of the highlighted obstacles include the following:

  • It is obvious, but external economic factors, elections, geopolitical issues, pandemics, etc. can all negatively impact demand for any product or service and Capstone is no different. Despite the variety of factors helping to sell microturbines, customers are still sensitive to the global economic conditions, which makes the product sales of the company somewhat cyclical. This is being offset to some degree for EaaS, but we believe the company needs both product sales and EaaS to grow to be successful.
  • If the company can not refinance the Goldman note, the balance sheet could be strained and capital costs would remain high. The company needs to lower its cost of capital for long-term success and build an EaaS business.
  • The direct sales force focused on national accounts needs to succeed as they are pivotal in increasing the average size of orders and driving more scale. This could prove to be a challenge given Capstone’s size and balance sheet, but management has stated this is an important part of the strategy to return to revenue growth.