Enphase Energy Inc (ENPH) — Q3 2025 Earnings Call Transcript

Good afternoon, and thanks for joining us today to discuss our third quarter 2025 financial results. We had a good quarter. We reported quarterly revenue of $410.4 million, our highest revenue level in 2 years. We shipped 1.77 million microinverters and a record 195 megawatt hours of batteries. We generated free cash flow of $5.9 million. Our Q3 revenue also included $70.9 million of safe harbor revenue. As we exited Q3, our microinverter channel inventory returned to normal, while our battery channel inventory was slightly elevated due to sell-in of our new fourth-generation battery. For the third quarter, we delivered 49% gross margin, above the higher end of our guidance range, 19% operating expense and 30% operating income, all as a percentage of revenue on a non-GAAP basis and including the net IRA benefit. Mandy will go into our financials later in the call. Our customer service NPS was 77% in Q3 compared to 79% in Q2. The average call wait time was 2 minutes. To further enhance the customer experience, we are preparing to launch our AI-powered assistant in the Enphase app, which will help customers find answers quickly, troubleshoot issues and manage their systems more intuitively. Our data engineering team continues to strengthen the intelligence behind our support systems, leveraging analytics and machine learning to identify common issues, predict service needs and reduce response time across all regions. Let's cover operations. In Q3, we shipped approximately 1.53 million microinverters from our U.S. facilities, booking 45X production tax credits. Our domestically made microinverters help residential lease PPA providers and commercial asset owners to qualify for the 10% domestic content ITC adder. We grew our U.S. battery production in Q3, shipping 67.5 megawatt hours compared to 46.9 megawatt hours in Q2. We are now building our fourth-generation battery, the IQ Battery 10C in the U.S. using domestically made microinverters, domestically made thermal and battery management systems as well as packaging, while only sourcing cell packs from China. These batteries have greater than 45% domestic content and help our lease PPA customers qualify for ITC bonuses. We remain on track to source non-China cell packs by the end of this year, scaling into battery builds in the first half of '26. Therefore, we expect limited exposure to the recent China-related tariffs as our supply chain transitions away from China. In summary, our U.S.-made microinverters and batteries can help customers qualify for domestic content ITC bonuses as well as meet environmental compliance even as the criteria becomes increasingly stringent each year, a big differentiator for Enphase. Let's now cover the regions. Our U.S. and international revenue mix for Q3 was 85% and 15%, respectively. In the U.S., our revenue increased 29% in Q3 compared to Q2, primarily due to increased demand as well as higher safe harbor revenue of $70.9 million compared to $40.4 million in Q2. The overall sell-through of our products was up 9% in Q3 as compared to Q2. In Europe, our revenue decreased by 38% in Q3 compared to Q2, while overall sell-through decreased by 27%. Europe negatively impacted our Q3 revenue by approximately $25 million compared to Q2, a larger sequential decline than expected. The overall business environment across the region is still challenging, but we are maintaining our discipline on the channel as well as targeting specific growth areas that could drive higher 2026 revenue. I will now provide some color on key markets in Europe. In Netherlands, the solar demand remained soft in Q3. We are making steady progress towards the sizable battery retrofit opportunity we see in 2026 and beyond. Rising solar export penalties and the planned sunset of net metering at the end of 2026 are creating a compelling use case for storage. With an Enphase installed base of about 475,000 residential solar systems in Netherlands, we estimate a $2 billion total opportunity for batteries. We recently announced a collaboration with Essent, one of Netherlands' largest residential energy providers or REPs, enabling customers to add IQ Batteries and participate in Essent's smart steering VPP program. This program is designed to boost self-consumption and lower utility bills. Through the smart steering, participating customers may receive fixed monthly compensation of up to EUR 122 depending on the battery size. Essent intelligently controls charging and discharging to optimize value for the home and the grid, supporting a more reliable energy system. Building on this momentum, we are advancing additional partnerships and expect battery sales in Netherlands to be a growth driver in 2026 and beyond. In France, the residential demand remained muted in Q3. Many households waited for the October 1 VAT cut of 5.5% for sub-9 kilowatts, but its limited scope and dependence on low-carbon panels reduce the impact. Meanwhile, 2025 policy changes have extended payback period, creating a tougher market for installers. We are focusing on self-consumption where low export incentives strengthen the value proposition for solar plus battery solutions. In Germany, the residential market remained weak in Q3. Lower export value and stop-start incentives have kept many households on the sidelines, softening demand for both solar and batteries. Even though our performance was relatively stable, supported by our partnership with leading installers and the strong uptake of the FlexPhase battery, which provides both self-consumption as well as 3-phase backup. In the U.K., residential solar and storage adoption is stable, driven by time-of-use tariffs, low export rates and a growing focus on resilience and self-consumption. We are deepening ties with REPs and supporting them with a robust API platform. In Q3, we also added backup capability for our batteries in U.K., which was long overdue and further expanded our resilience offering. In Australia, the residential storage demand is accelerating following the July 2025 battery rebate program with installers bundling PV and batteries and the average battery sizes increasing as low export rates for self-consumption. Distribution operators are rolling out dynamic export limits and interoperability standards favoring systems with fast controls and 3-phase backup. Against this backdrop, we launched the FlexPhase battery in Q3, delivering 3-phase backup as well as flexible power to meet evolving DSO requirements. We also launched IQ8P high-power microinverters for higher power modules as well as our newest IQ EV chargers, strengthening our position in the strategic market. Let's discuss our outlook for Q4. We are seeing a further ramp in the U.S. demand in Q4, primarily due to homeowners moving to capture the expiring 25D tax credit before the end of this year. In the first 3 weeks of October, our U.S. sell-through was up over 20% compared to the Q3 average. We anticipate this elevated activity will continue for much of Q4. We also anticipate that our overall sell-through for the company to be between $350 million to $400 million in Q4. However, our revenue guidance is in the range of $310 million to $350 million. And for IQ Batteries, we expect to ship between 140 and 160 megawatt hours. There are 2 reasons contributing to this lower revenue guidance. First, we had $70.9 million of safe harbor revenue pulled in from Q4 to Q3 as customers wanted the product before the U.S. Treasury guidance in Q3. And second, we are reducing shipments of product to the channel in order to destock the channel as we head into 2026. This positions us to enter 2026 with a healthy channel, setting us up for a clean Q1 and beyond. Currently, we are approximately 75% booked to the midpoint of our Q4 revenue guidance. Safe harbor opportunities are not yet included in our Q4 guidance, but similar to Q3, they present upside opportunity. We are working closely with several TPO partners on safe harbor planning and are well positioned to support both methods of safe harbor, the 5% method as well as the physical work test method based on each partner's preference. Let's look ahead to 2026. While we don't typically guide beyond the next quarter, we are sharing our preliminary views to frame expectations. For Q1 '26, we anticipate a larger-than-normal seasonal decline following the expiration of 25D tax credit and estimate a company revenue of $250 million. We view Q1 as the cycle trough with conditions improving through the rest of the year. While we are constructive on the balance of the year, there are 3 external drivers that could support recovery. First, the U.S. power prices are rising about 5% this winter with additional increases expected in 2026. Second, interest rates are declining, easing affordability. Third, new and attractive financing solutions are entering the market to help offset the loss of 25D. Taken together, these drivers could enable a second half of 2026 rebound and set the stage for growth. In addition, we see several Enphase specific revenue drivers that are expected to fuel growth through 2026. Our fourth-generation battery, the IQ Battery 10C is positioned to capture share through lower installation costs for backup. We are now entering the 480-volt commercial solar market with our IQ9 and GaN microinverter, which we expect to ship this December and ramp in 2026. We are also leveraging strategic partnerships to capture the battery retrofit opportunity in Netherlands. Our newest IQ EV chargers and upcoming IQ bidirectional EV chargers are poised to expand our market and our fifth-generation battery system paired with IQ9 residential microinverters will drive a step change reduction in system cost in both the U.S. and Europe. While there is uncertainty around 2026, we remain confident in our ability to execute and deliver growth across these vectors. Now let's talk about financing. The industry is moving towards the TPO model in 2026. Enphase supports all the major TPOs today. We are further strengthening these relationships through safe harbor and tax equity support, providing domestic content as well as compliant products offering O&M services, Solargraf integration and helping to implement innovative financing solutions. Looking ahead, we see a strong trend developing in the market towards prepaid lease offerings, which can provide homeowners with the option of ownership after 5 years. In this model, the TPO captures the 48E tax credit and in turn, offers the homeowner an attractive lease prepayment or a lower monthly payment when paired with the loan. This structure makes the economics similar to today's solar loan economics with the 30% 25D tax credit. Furthermore, financing providers like the Enphase system value proposition, which includes not only the Enphase equipment but support for operations and maintenance as well as Solargraf integration to offer an overall attractive package to consumers. We believe the TPO market is poised to grow in '26 and see multiple ways for Enphase to support the growth. Let's talk about products, starting with IQ Batteries. In August, we began shipping our IQ Battery 10C supplied by our manufacturing facilities in the U.S., delivering domestic content, which is significant value in the growing TPO market. As a reminder, we introduced our fourth-generation battery towards the end of June. The fourth-generation battery stands out for its smaller footprint, enhanced features, easy installation and reliability. It delivers 30% more energy density, occupies 62% lesser wall space and reduces installation cost of backup compared to our prior products. In addition, our fourth-generation battery system also includes the IQ Meter Collar, which simplifies backup and IQ Combiner 6C, which seamlessly integrates solar, batteries, EV chargers and load control. The IQ Meter Collar is now approved by 39 U.S. utilities, and that list is growing every week. We are making strong progress in building partnership with REPs as well as VPP operators around the world that are looking for flexible distributed energy capacity. Homeowners can receive attractive compensation for installing Enphase batteries as part of these programs. In addition to the Essent program I mentioned earlier, we signed multiple new contracts with the utilities, including one recently with San Diego Community Power. With advanced APIs, our batteries seamlessly integrate into VPPs in regulated markets like the U.S. and participate in wholesale energy markets in deregulated regions such as Europe and Australia. We are actively engaged currently in over 53 VPP programs worldwide, and this is growing at a strong pace. Let's talk about microinverters. In September, we opened U.S. preorders for the IQ9N Commercial Microinverter, our first microinverter powered by Gallium Nitride or GaN. We expect to begin shipping the product in December, as I said earlier, we believe IQ9 marks a major leap in performance and platform flexibility and most importantly, unlocks a 2-gigawatt market opportunity by enabling us to service 480-volt 3-phase commercial systems in the U.S.A. for the first time. This represents an approximately $400 million total addressable market for Enphase, which we believe will help drive additional revenue in 2026 and beyond. IQ9 microinverters are expected to meet compliance as well as domestic content right off the bat, offering a powerful and reliable alternative in a market still dominated by Chinese equipment. Why does GaN matter? GaN replaces legacy silicon power devices to deliver faster switching, better thermal performance and higher reliability. We have invested over 5 years in the semiconductor technology, and this rollout sets a new trajectory for cost and performance across our next-generation microinverters, batteries, bidirectional EV chargers and more. Let's talk about EV charging. We are now shipping our latest and greatest IQ EV charger 2 across 18 European countries as well as Australia and New Zealand. The charger supports up to 22 kilowatts 3-phase charging and works as a standalone unit or fully integrated with Enphase Solar and batteries. We have opened U.S. preorders and expect Q4 shipments into the U.S. with further expansion planned in additional European markets and India. Let me share an update on our IQ bidirectional EV charger expected to launch in mid-2026. We showcased this 11-kilowatt solution powered by 3 high-performance GaN-based microinverters of 3.84 kilowatts each at the recent RE+ trade show. The IQ BiDi EV charger only needs to be paired with the IQ Meter Collar for a simple, powerful configuration that enables home backup and grid services. Together, these 2 components offer one of the lowest cost and simplest ways to provide whole home backup even without rooftop solar or home batteries. Homeowners can just start with this configuration and expand over time by adding Enphase solar and batteries to build a full energy system. Let's now switch to Solargraf, our all-in-one platform purpose-built for installers. We have been rolling out major enhancements, including seamless integration with TPO partners, an Express Editor that allows installers to quickly adjust proposals on the spot, a powerful custom tariff builder, advanced installer management tools and a simplified AI-driven design experience. We believe these updates make it easier for installers to service more homeowners at the kitchen table with greater flexibility, speed and financial transparency. We plan to expand the Solargraf platform into additional markets and countries and introduce new features to support productivity, sales velocity and customization for solar installers. Let me conclude. There is a significant change occurring in our markets. The loss of the 25D tax credit is a near-term headwind that will impact our results in early 2026. But we believe there is also tremendous positive change that is bolstering the long-term outlook for our business. We are entering an interest rate reduction cycle, which historically has been the catalyst for the residential solar sector. Power price outlooks are surging on the back of AI power demand as well as overall electrification growth. Utilities are struggling to keep up with this demand, creating bottlenecks and price inflation across the grid that are poised to accelerate. We provide homeowners and commercial businesses with an easy off-ramp from this price inflation with a solution that can be interconnected in 90 days. The U.S. residential and commercial rooftop solar industry brings on nearly 2 gigawatts of new power interconnected to the grid every quarter with the 48E tax credit expanding to more customers in 2026 through innovative financing solutions like the prepaid leases, we see an attractive value proposition for solar driving recovery in the second half of 2026 and beyond. We are laser-focused on the revenue drivers we can control, growing battery sales with our fourth-generation battery, expanding into the 480-volt commercial market with GaN microinverters, capitalizing on battery retrofits to our solar installed base in Netherlands, ramping our EV chargers now and the BiDi EV chargers, which will launch later in 2026. And last, launching our fifth-generation residential batteries along with IQ9 residential microinverters to reduce system costs significantly for residential solar in both the U.S. as well as Europe. As always, we remain focused on operational excellence, product reliability and quality and customer service, delivering best-in-class solutions for our long-term growth markets. With that, I will turn the call over to Mandy for her review of our financial results.

Thanks, Badri, and good afternoon, everyone. I will provide more details related to our third quarter of 2025 financial results as well as our business outlook for the fourth quarter of 2025. We have provided reconciliations of these non-GAAP to GAAP financial measures in our earnings release posted today, which can also be found in the IR section of our website. Total revenue for Q3 was $410.4 million. We shipped approximately 784.6 megawatts DC of microinverters and a record 195 megawatt hours of IQ Batteries in the quarter. Q3 revenue included $70.9 million of safe harbor revenue. As a reminder, we define safe harbor revenue as any sales made to customers who plan to install the inventory over more than a year. Non-GAAP gross margin for Q3 was 49.2% compared to 48.6% in Q2. GAAP gross margin was 47.8% for Q3 compared to 46.9% in Q2. Non-GAAP gross margin without the net IRA benefit for Q3 was 38.9% compared to 37.2% in Q2. Reciprocal tariffs impacted our gross margins by 4.9% in Q3. GAAP and non-GAAP gross margin for Q3 also included $42.5 million of net IRA benefit. Non-GAAP operating expenses were $78.5 million for Q3 compared to $77.8 million for Q2. GAAP operating expenses were $130.1 million for Q3 compared to $133.5 million for Q2. GAAP operating expenses for Q3 included $47.4 million of stock-based compensation expenses, $2.9 million of acquisition-related amortization and $1.3 million of restructuring and asset impairment charges. On a non-GAAP basis, income from operations for Q3 was $123.4 million compared to $98.6 million for Q2. On a GAAP basis, income from operations was $66.2 million for Q3 compared to $37 million for Q2. On a non-GAAP basis, net income for Q3 was $117.3 million compared to $89.9 million for Q2. This resulted in non-GAAP diluted earnings per share of $0.90 for Q3 compared to $0.69 for Q2. GAAP net income for Q3 was $66.6 million compared to $37.1 million for Q2. This resulted in GAAP diluted earnings per share of $0.50 for Q3 compared to $0.28 for Q2. We exited Q3 with a total cash, cash equivalents and marketable securities balance of $1.48 billion compared to $1.53 billion at the end of Q2. The 5-year convertible notes we raised in 2021 are coming due on March 1 next year, and we expect to settle the principal amount of $632.5 million at maturity with our cash on hand. As of September 30, 2025, we have approximately $280 million of production tax credit or PTC receivable on our balance sheet, net of income taxes payable. $108 million is related to U.S. microinverters shipped to customers in 2024 and $172 million is for shipments made in the first 9 months of 2025. As we elected direct pay, the net PTC will be refunded by the IRS through our annual tax return filing. Due to extended IRS processing timelines, we expect to receive 2024's $108 million payment from the IRS in Q2 next year. We expect to receive our 2025 tax refund sometime in the first half of 2027 based on the current estimated IRS processing time. As part of our anti-dilution plan, we spent approximately $1.7 million by withholding shares to cover taxes for employees stock vesting in Q3, that reduced the diluted shares by 49,023 shares. There were no repurchases of our common stock in Q3 due to our limited free cash flow generation in the quarter. We are evaluating opportunities to accelerate the monetization of our PTC. Our remaining buyback authorization is approximately $269 million, and we remain confident in our overall business outlook over the long term. In Q3, we generated $13.9 million in cash flow from operations and $5.9 million in free cash flow. Capital expenditure was $8 million for Q3 compared to $8.2 million for Q2. Now let's discuss our outlook for the fourth quarter of 2025. We expect our revenue for Q4 to be within a range of $310 million to $350 million, which includes shipments of 140 to 160 megawatt hours of IQ Batteries. The revenue guidance doesn't include any safe harbor transaction. We expect GAAP gross margin to be within a range of 40% to 43%, including approximately 5 percentage points of reciprocal tariff impact. We expect non-GAAP gross margin to be within a range of 42% to 45%, including the reciprocal tariff impact. Non-GAAP gross margin excludes stock-based compensation expense and acquisition-related amortization. Given the vast majority of our manufacturing occurs in the U.S. and due to fluctuating tariff impacts to our international manufacturing cost baseline, we will no longer be guiding and reporting gross margins without the net IRA credit. As always, gross production tax credit earned will be reported in our 10-Q quarterly statement and 10-K annual financial report filed with the SEC. We expect our GAAP operating expenses to be within a range of $130 million to $134 million, including approximately $53 million estimated for stock-based compensation expenses, acquisition-related amortization and restructuring and asset impairment charges. We expect our non-GAAP operating expenses to be within a range of $77 million to $81 million. For 2025, we expect our GAAP tax rate of 18% to 20% and a non-GAAP tax rate of 14% to 16%. With that, I'll open the line for questions.

Can you talk a little bit about the dynamics going into the first quarter next year in terms of the amount of inventory that you feel like is appropriate? Are you still thinking about kind of 8 to 10 weeks' worth of inventory out in the channel as you enter into the first quarter of next year?

So Colin, you might have missed our comments in the prepared remarks. We expect total sell-through for the company to be between $350 million and $400 million in Q4, but we are only guiding Q4 revenue to be in the range of $310 million to $350 million. Hence, at the midpoint, that indicates approximately $45 million of undershipment. We are being very cautious because we want 2026 to have a strong setup in the channel. Our guideline is to maintain inventory for about 8 to 10 weeks, and we aim to be exceptionally careful not to overload the channel, which is why we provided revenue guidance from $310 million to $350 million. Another factor for our reduced Q4 guidance is that we moved about $70 million of safe harbor from Q4 to Q3 since customers wanted the product before the U.S. Treasury guidance in Q3. We exceeded the guidance comfortably for Q3, but we are more cautious for Q4.

I'll take the clarification offline. With the new battery, can you discuss the pricing dynamics? Are you managing to implement incremental price increases alongside the added functionality? Or are you leveraging some of that functionality to gain market share?

Yes, we are not raising any prices. In fact, over the last two quarters, there have been tariffs, and we are paying approximately over 40 percent tariff on the cell packs coming from China, in addition to the high costs of battery production in the U.S. However, we have decided not to change our pricing and our aim is to capture market share. Our gross margins are already quite healthy; in Q3, they were 49% even after accounting for a 5% tariff. Our gross margins are strong, and we expect them to improve further with our fifth-generation battery, which will significantly reduce costs. This new battery features a 100 ampere hour cell pack with almost 50% higher energy density compared to the fourth-generation battery, and it integrates power electronics into a single board for a more streamlined design. It is a stackable battery, which can provide 20-kilowatt hours while maintaining a unified appearance on the wall. We are making progress with our batteries; notably, the fourth-generation battery is expected to make an impact. We have previously mentioned that our third-generation battery was excellent for grid-tied backup, especially in California with NEM 3, while the fourth-generation battery can serve both grid-tied and backup needs for nearly the same cost, with a small additional cost for the Meter Collar. We began shipping this new product in June, and it takes installers about 60 to 90 days from order to installation. Additionally, we launched the domestically manufactured fourth-generation battery in August. Our progress is on track, as 40% of our total battery shipments to the U.S. in Q3 were from the fourth-generation battery.

I have two questions related to the guidance. First, regarding non-U.S. revenue, I noticed that it's at its lowest point since 2021. I'm trying to understand the reasons behind this. While I recognize there’s seasonality in Europe and a weak market, it appears you may be underperforming compared to your peers. Is there something specific to the company that could explain this, such as a product shift, changes in market share, or pricing issues? Additionally, could you provide insight on what to expect moving forward? Will the fourth quarter be similar, or could it decline further? I'm looking to understand the potential recovery path given our current low position. I also have a question about margins.

Yes, you're right that Europe experiences seasonality in the third quarter, which we're seeing. In the Netherlands, the end of net metering creates uncertainty for the solar market. However, we've recently formed a significant partnership with Essent, which presents a major opportunity. Currently, there are 475,000 homes with solar in the Netherlands. Unlike in the U.S., energy contracts there last only 1 to 3 years, meaning future utility bills for solar customers will likely increase. To address this, we offer customers battery solutions for self-consumption, allowing them to manage their utility costs while supporting the utility's balance. This innovation could stimulate our battery sales through 2026. Despite a weak solar market from the loss of net metering, we see potential for a robust solar and battery market in the Netherlands. In France, changes in the feed-in tariffs and a reduction in export incentives have significantly impacted the market, which is now focused on self-consumption. As we have over 50% market share in France, we are adapting by selling solar plus storage systems directly to consumers. Payback periods may extend to 8 to 10 years but remain manageable. For customers who cannot afford batteries, we have developed solutions that allow them to divert solar energy for various uses, such as EV charging or heating. Additionally, the recent removal of the 5.5% VAT tax for installations under 9 kilowatts should help the market, though complications regarding low-carbon content panels are delaying recovery. The future will lean towards solar plus battery systems, rather than a return to previous conditions. In Germany, various disruptions have affected feed-in tariffs, but our collaboration with leading installers based there has led to better performance. In the UK, we maintain a strong partnership with top renewable energy providers, focusing on the solar plus storage approach, which has been stable with new backup capabilities introduced. Thus, the main focus remains on the Netherlands and France, where we've laid out clear strategies. We recognize significant competition due to a reduced total addressable market, and our innovative responses will be key. For instance, our current third-generation FlexPhase battery dominates the European market, and we plan to introduce a fifth-generation battery soon, which will lower costs and enhance value. This new battery will feature modularity, high quality, superior serviceability, and improved cost efficiency. We are also set to launch the IQ9 residential microinverter in early 2026, which will utilize GaN technology to deliver up to 10% more power for the same cost structure. This reduction in cost per watt for installers is crucial, and we are committed to significantly lowering their system costs. Overall, that's our trajectory in Europe.

No, I appreciate all that additional color. Maybe just one on the margins. The guidance at the midpoint, non-GAAP gross margin guidance, 43.5%. I mean it's lower than you've seen in some time. You did the 49% this quarter. Can you kind of help bridge the gap why margins are down so much? And then what sort of additional margin decline should we expect on the $250 million revenue low point that you telegraphed for Q1 next year?

Yes, our margins are affected by a 5% reciprocal tariff. Without this tariff introduced in 2025, we would be at 48.5%, which is a reasonable number. The main impact is on batteries, which face a 40% tariff. We've diversified our supply chain for microinverters over the last 3 to 5 years, so the impact on that front isn't as significant. The recovery in gross margin will occur when our battery costs decrease, which will happen as we transition to sources outside of China. We aim to ramp up our non-China batteries and our fifth-generation battery by early 2026, leading to a significant change in costs. At this point, it's too early to discuss our Q1 gross margin, but we've managed to keep our gross margins quite stable over the last 2 years, fluctuating between 45% and 50% despite significant revenue pressures. We expect to maintain this approach, but it's too soon to provide guidance for Q1.

Just a super quick clarification. So I think 3Q, you said the gross margin result included a 4.9% tariff impact. So you're saying there's an incremental 5 percentage point impact in the 4Q guidance. So it's not flat impact Q-to-Q, it's an incremental 5%. Just want to clarify that.

Let me say like this. In Q3, we shipped a lot more microinverters because of the $70.9 million safe harbor shipments, which was all microinverters. So therefore, our gross margin was elevated. And yes, that is correct. Our gross margin was 49%. And if we did not have the reciprocal tariff, the gross margin would have been 54%. What we are saying in Q4, our gross margin is 43.5%, and that reflects a more normal mix. We have not yet indicated any safe harbor right now at this point in time. That could change. But with the current mix, we are talking about 43.5%, including a 5% tariff impact. That means without that 5% reciprocal tariff impact, our gross margin would have been 48.5%.

I wanted to ask if we could get some more color around the safe harbor approach using the physical work test. Thus far, historically, at least through this safe harbor season, you guys have done more safe harbor, I think, or all safe harbor with the 5% of FMV with your customers. And so with the physical work test that you guys announced or talked about today, can you talk to us about how you're helping your customers satisfy that test? In the past, I've heard something about a customized bracket or something. And so I was wondering how you guys are helping your customers do that. And then from a revenue contribution standpoint, I think typically, the physical work test likely is less revenue as it's not buying the full microinverter versus the 5% safe harbor efforts. So I just was wondering if you might be able to talk through that as well.

I cannot discuss the specifics as they relate to individual customers on the physical work test, but we are actively engaged in conversations with all our TPO partners. The idea is straightforward. We are creating a custom product for them that offers better performance than our standard product and includes a component not typically found in our inventory. This is a high-level overview. If the TPO partners and their tax advisors are comfortable, this approach can serve as an effective safe harbor by minimizing their cash outlay. From our standpoint, we prefer not to receive all the revenue in a single payment. This setup indicates that they are purchasing only the custom component from us, which means they will return later to buy the main microinverter when they require it. This situation works well for us as it provides a consistent quarterly revenue stream without lump sum payments, which we favor. For our partners, it could lead to a significant reduction in their cash expenditures compared to the 5% method. It's beneficial for everyone involved. Regarding timing, the 5% method might be considered if they want to secure benefits for 2028, 2029, and 2030. As always, both the 5% method and the physical work test need approval from their tax advisors.

Shifting to the prepaid lease concept discussed by Tesla during their last earnings call about launching a PPL, I was curious if you could elaborate on any efforts you might be seeing in that area and whether this is something you might participate in. On another note, regarding commercial and industrial markets, the outlook seems to be improving. Many small residential EPCs that have relied on the 25D might be transitioning to the small-scale commercial and industrial market. I wonder if this shift could be a source of strength for you, as these smaller EPCs might offset reduced megawatts in residential by gaining some back in small-scale commercial and industrial projects.

Yes, there has been considerable discussion about prepaid leases in the industry. We've independently learned that a few companies are exploring this option and plan to offer prepaid leases. We're collaborating closely with several partners on this. In our view, prepaid leases combined with loans could be very appealing. Consumers would have the option to own after five years. The third-party owner receives the 48D tax credit, while the consumer benefits from a lower monthly payment without any escalation. This setup mirrors the economics of a loan structure with the 25D tax credit. We believe this approach could revive the market, especially since many believe the 25D loan market will diminish. However, the combination of prepaid leases and loans might breathe new life into that market. We recognize that it will take time to introduce this and gain acceptance. Our role involves supporting our third-party owner partners, providing access to this new structure for our extensive network of installers, and assisting them with operations and maintenance, as we are well-suited for that. We also aim to aid them in Solargraf for modeling this type of prepaid lease efficiently, along with offering support such as safe harbor and tax equity assistance. We look forward to collaborating with our partners to implement this structure, but all communication will come from them, not us. Our focus is on providing help and support.

Just a quick follow-up on that. As it relates to your job. You mentioned tax equity support. So could that mean you could provide some of your tax liability? And from a financial standpoint, how much might you guys contribute to this effort?

Yes, we are not going to provide a specific number. Regarding your question on Commercial and Industrial, we are very excited. This is the first time Enphase has introduced a 480 volt 3-phase product. In the small C&I market, approximately 80% utilizes 480 volts, while 20% uses 208 volt 3-phase. With gallium nitride technology, we can now serve the 480-volt market. It operates at 480 volts line-to-line and 277 volts line-to-neutral, maintaining the benefits of the microinverter, which include exceptional reliability, excellent thermal performance, and rapid shutdown compliance. Our product is manufactured in the U.S., has domestic content, and is CARB compliant. It is an outstanding product that we will market aggressively, and we anticipate it will have a significant impact. Additionally, we are observing that some of our residential installers are looking to expand into small commercial solar opportunities, as that market is currently more stable.

Maybe just starting on the Q1 '26 outlook of $250 million. Can you provide any more detail on how you're sizing the expected decline in the U.S. post 25D? So is that based on consultant forecast or I seem to recall, you have kind of a real-time feed of demand. And so are you seeing any change over the last few weeks now that it's presumably too late to secure the 25D credit?

Yes. We won't provide specific numbers on that. We thought it would be useful to give you a preliminary estimate of $250 million. This isn't official guidance, just our initial assessment. Our forecasting process involves a rolling six-quarter review, which we evaluate monthly. Each month, every sales representative examines their accounts in detail, engages with their customers, and compiles this information for headquarters. We then hold a meeting to make decisions based on that data. While we can't guarantee complete accuracy, we generally have a good understanding of the trends, which helps us make informed choices. That's why we've shared our preliminary estimate with you today.

Could you provide insight into why there is a forecasted drop of 50 megawatt hours in the Q4 guidance for batteries? Also, regarding the Q1 '26 outlook, which is still preliminary, is it based on the Q4 battery level, or does it account for any anticipated market share gains related to the 10C launch?

Yes. I believe it's primarily about entering 2026 with a strong channel. That's why we are guiding for 140 to 160. For Q1, we anticipate performing well in the battery sector. We don't expect batteries to face significant impacts next year, as they remain in good condition. Especially regarding 48E, the batteries have a much longer lifespan, and we are well-positioned in this area. We comply with CARB regulations and have domestic content. Our IQ meter collar is now approved by 39 utilities, which is comparable to our leading competitor. We've managed to significantly reduce installation costs for backups, and we are very optimistic about the battery segment. The installation times are also quite short compared to the third-generation battery. The only challenge is the high tariffs on batteries. We haven't increased prices and are maintaining our pricing to capture more market share. While the tariffs are a concern, I have previously outlined our strategy to improve battery gross margins, and I won't revisit that now.

Just a follow-up on that $250 million revenue number for 1Q. Would you say that this is kind of what you're expecting sell-through to be? Or would you expect some destocking to continue in the first half of next year?

I would expect equilibrium there is what I would expect. I would expect maybe slightly higher, but it's too early for me to say.

Slightly higher what?

Yes, sell-through is slightly higher than $250 million.

Okay. And then apologies if I just missed this, but with the prepaid lease structure that you've been talking about that you're going to launch with partners, when should we expect like an update with more detail? And with respect to safe harbor for this entity, should we think that it's going to be Physical Work Test here or would it be 5%? and if the latter, how would you and the partners go about forecasting annual demand for this product, just given that there hasn't been great historical data to lean on?

That's a lot of questions to unpack. To keep it simple, our partners will announce the prepaid lease, and we won't provide a specific date. You will see it when it comes out, hopefully in the current quarter. As for safe harbor and the Physical Work Test or 5%, it's too early to discuss specifics. However, we are in discussions with all TPO partners about both options. There was a misunderstanding that Enphase would only conduct the 5% physical work test and not the physical work test at all, but that's not accurate. We will do whatever our TPO partners prefer and feel comfortable with. We are actively collaborating with all TPO partners on both methods of safe harbor and plan to continue doing so with the PPO.

I appreciate the early look into 1Q '26. I guess my question is, are you expecting to have to take any further actions to reduce OpEx heading into that? And can you just give us some color around what kind of OpEx model you're considering for 2026 just given the uncertainty around how demand could ramp through the year?

Yes. I'd just point you to how we have managed OpEx again in the last 2 years of the downturn. So this quarter, for example, with almost half the revenue that we once had, we are talking about 49% gross margin. The OpEx was approximately 19% and 30% is our operating income. So we are laser-focused on operating income, laser-focused on operational excellence. So our run rate today is $80 million a quarter, non-GAAP. It is safe to say we are going to be looking at our expenses to trim down spending in order to track revenue. And it's also safe to say that we won't compromise on any innovation activity or anything that affects customers adversely.

And then just my follow-up. If we can go back to the conversation around the PPL, Badri, I think you were saying that how Enphase is well suited to offer the O&M service. Can you just clarify, is that expected to be like an enhanced revenue stream for you guys? And if so, could you just kind of level set us on what that could look like in terms of margins or how much you could get?

Yes, it's too soon for me to provide any specific numbers, but the idea is straightforward. If the TPO partner utilizes our equipment, we excel in operations and maintenance. Our data analytics team effectively analyzes issues, identifies trends, resolves problems remotely, and sends field service technicians to sites when needed. This is reflected in our high Net Promoter Score of 77% and call wait times averaging two minutes. Consequently, our partnership with TPOs is appealing to them. For instance, if we can assist with operations and maintenance for batteries in a market like Puerto Rico, TPOs would definitely appreciate that, and similar opportunities exist elsewhere. This allows us to create tailored partnerships where we might provide incentives for operations and maintenance as well. Each TPO partnership is distinct, making it difficult to generalize, and it’s still early for us to discuss any financial figures. Also, we have Solargraf, which has evolved significantly. We’ve developed the platform over three years and it now has many installers using it. All TPO partners can be integrated and accessed through this platform, and the PPL can also be sold directly by installers at customers' homes. Naturally, this requires considerable work, but we are prepared to undertake that effort. The benefits we provide include Solargraf integration, operations and maintenance, safe harbor support, and tax equity support as required.

Appreciate it. Look, maybe to follow up on this $250 million. Obviously, you guys are speaking to the year-over-year trends here. How do you think about that annualizing? Like what's the early expectation about the offsets here, right? Like be it PPL plus loan or what have you, that would otherwise mitigate it, right? You described it as a seasonal trend and an exacerbated seasonal trend of 1Q. But what's to suggest that, that doesn't persist, right? I mean if you adjust your 1Q '25 for the safe harbor, it looks like it's down almost 20%, which is kind of consistent with industry trends that are contemplated for the full year '26. Can you speak to maybe the cadence of '26 what you're seeing? You talked about these early strong developing trends on PPL, is that supposed to mitigate in the back half of next year, for instance?

It's currently impossible for me to provide any quantification. However, we are optimistic about the remainder of the year. We believe there are three external factors that will support a recovery. First, power pricing is increasing by 5% this winter, with further increases anticipated in 2026, and AI advancements will amplify these increases. Second, interest rates are on the decline, improving affordability, and we expect several interest rate cuts next year. Third, new attractive financing options are emerging to compensate for the loss of the 25D. Together, these factors could enable a solid recovery in the second half of the year. Additionally, we have several Enphase-specific revenue drivers. I am particularly excited about our progress with the fourth generation battery, which accounted for 40% of our shipments in Q3 in the U.S. Installers are just starting to use this product, and we are now qualified at 39 utilities with the meter collar, which significantly lowers backup costs. We are also entering the 480 volt commercial market with our IQ9 GaN microinverter expected to ship in December, ramping further in 2026. Moreover, we have strategic partnerships to seize the battery retrofit opportunity in the Netherlands. Our new IQ EV chargers, especially the bidirectional ones, are innovative because they offer home backup and grid services with a straightforward setup, integrating three of our GaN microinverters into an 11-kilowatt charger. We're collaborating with several OEMs and will make announcements soon. Finally, I'm very enthusiastic about our fifth generation battery. It features a 100 ampere hour cell with 50% higher energy density in a compact design. Each modular unit is 5-kilowatt hour, and several can be stacked to create a 20-kilowatt hour setup. The system's serviceability allows you to replace individual components without taking down the whole unit, which will significantly lower costs. We plan to pass these savings to homeowners while maintaining our gross margins. Regarding our IQ9 models, the first one launching in December will deliver 427 watts, followed by a 548-watt version mid-year. The 427-watt product maintains the same cost structure while providing 10% more power, enabling us to continuously reduce costs. All these factors are aligned positively, leading us to expect revenue growth in the second half of the year.

Quick follow-up there, if I can, just that in response to the earlier comments. Just with respect to the battery in the Netherlands, can you comment a little bit around what the total opportunity is? Like how would you quantify the 475,000 household and the potential for battery retrofit? Like how would you begin to quantify that for '26-'27 in terms of like the rate of adoption there?

I'm not going to provide specific numbers right now, but here's a way to think about it. There are 475,000 homes, and if each of them were to have a 7.5 kilowatt-hour battery, we're looking at around 3 gigawatt hours. If we consider only a 10% adoption rate, you can do the calculations, and it shows a significant opportunity. To achieve that 10% adoption, we need to establish strong partnerships, which is not an easy task. Achieving a 10% take rate is challenging since customers have their own preferences. Our focus should be on these virtual power plant partnerships. One key factor driving demand is a utility like the partnership we announced with Essent, which offers consumers up to EUR 122 a month for a 20-kilowatt-hour battery. That's a significant incentive. Programs like this can notably reduce payback periods, but we also need to collaborate with other utilities. While this partnership is with the largest utility, we need to engage with others as well. There are many opportunities ahead, and we are very enthusiastic about this potential.

This is David Benjamin on for Maheep. I know we talked about Europe. Can you talk a little bit about the international markets that side, specifically, in the past, there's some enthusiasm about Japan. Where does that stand today? Is there still a strong outlook there?

We launched the product in Japan in April and are very enthusiastic about this market. The key driver is Tokyo, which has mandated that all new constructions must include solar. Tokyo's smaller roofs, typically around 2 to 3 kilowatts, present an excellent opportunity for our microinverter technology as it fits these roofs perfectly. Homeowners in Japan receive an incentive for using microinverters, roughly $0.13 per watt, making it an attractive option. However, it's important to note that the Japanese market tends to be slow to respond. We have partnered with ITOCHU and are currently in the process of training numerous installers. We have established an entity and will have around 10 staff members in Japan by early next year as part of our investment. Additionally, we are developing new products tailored for Japan, including backup features that are in demand. While we anticipate steady revenue growth, we do not expect a rapid increase. In Australia, the situation is more promising. Since July, there has been a government rebate that significantly lowers battery costs, leading to increased sales. The attach rate for batteries has jumped from about 10% to 80% or 90%. We recently introduced the FlexPhase battery, designed for three-phase backup, which adjusts power to meet DSO requirements. This 5-kilowatt hour battery can provide 3.84 kilowatts of power, with options to scale the power during commissioning. Our teams are currently participating in a trade show in Australia. We also launched the IQ8P product, which is a 480-watt AC inverter, catering to the growing panel capacity. Additionally, we introduced our latest IQ EV chargers and are planning to add hot water heater capabilities to our ecosystem. This holistic system includes Enphase solar, batteries, EV chargers, and hot water functionality, and we are eager to make significant progress in this market soon. I'm not going to provide specific numbers right now, but here's a way to consider it. There are 475,000 homes, and if each of them were equipped with a 7.5 kilowatt hour battery, that would amount to approximately 3 gigawatt hours. However, if we assume a 10% attachment rate, you can calculate the impact from there. This presents a significant opportunity. To achieve that 10%, we need to establish strong partnerships, which is not an easy task. Attaining a 10% take rate can be challenging since customers have their own preferences. Our focus should be on these Virtual Power Plant partnerships. A major factor driving demand is utilities like our partnership with Essent, which compensates consumers for their batteries, offering up to EUR 122 a month for a 20-kilowatt hour battery. This is a substantial development. Programs like this can greatly shorten the payback period, but we need similar partnerships with other utilities as well. While Essent is the largest utility we are working with, collaboration with additional utilities is necessary. There are many more developments on the horizon, and we are excited about this opportunity, which is tremendous for us.

Thank you for joining us today and for your continued support of Enphase. We look forward to speaking with you again next quarter. Bye.