USA Innovation Accelerating

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1 USA Innovation Accelerating Strong Driver for Growth Two Key Areas of Innovation Energy and Transportation June 2014 by Rob Lutts, Cabot Wealth Management In our research work we are impressed with the rate of innovation development in the United States. We are growth investors and seek out new companies that are developing innovation in a wide range of industries. Over the past few years it seems the pace of innovation is accelerating. Why is innovation accelerating? There are many reasons; however, there are very real and specific elements required to foster and encourage innovative development. The United States is by far one of the most innovative, adaptable, and creative economies on the planet. We believe innovation is related to a number of factors: first, a country needs to have supportive financial markets and an economic ecosystem that encourages investors to develop new technologies and innovation. The United States has a great network of venture capital, private capital, angel investors and a very healthy financial market that all provide billions of dollars annually to worthy C a b o t W e a l t h M a n a g e m e n t, I n c. P a g e 1 5

2 entrepreneurs with great ideas. A second reason for strong innovation in the United States relates to technology itself and the internet. The cost of computing has declined to the point where the mapping of our DNA is possible and computations once costing millions can now be done in a tablet or laptop for a just few hundred dollars. These reductions in cost are driving analytical power to these new markets and are allowing great innovation. A more complex factor is the introduction of the internet just about twenty years ago. The connective power of the internet is allowing us to share information and knowledge across industries and countries while contributing to the advanced pace of innovation. The internet has a unique connective multiplier effect that acts to accelerate the development of Rob Lutts information and knowledge. Finally, we need Founder, President creative entrepreneurs who lead these companies to and the development of real businesses. Fortunately, we Chief Investment have many very good business schools like Wharton Officer (U of Penn), Babson College (my alma mater), MIT, Harvard, Stanford, UCLA and Cabot Wealth more who turn out very capable entrepreneur-oriented and highly educated Management executives. In the United States we are fortunate to have a culture that values and Boston and Salem, protects our innovation cycle. The number of industries undergoing significant Massachusetts innovation appears to be accelerating. Healthcare, traditional energy, solar, wind and alternative energy, transportation, manufacturing, data management and security management are just a few areas of our economy which we believe are experiencing acceleration in the pace of innovation. The Silent Innovative Revolution Here are two industries undergoing significant change and innovation: Energy Innovation Exploding: Energy innovation in the form of hydraulic fracking technology is changing production levels in a major way. We have seen dramatic increases in the level of oil and natural gas production today and this is putting pressure on both natural gas prices and oil as a substitute for gas. We believe this process of hydraulic fracking is in the early stages of changing the energy industry. The United States expanded its natural gas production sevenfold in the last five years! Oil production could double in about a ten- year period. We expect natural gas and oil prices will have a downward bias in the coming years unless we see dramatic change in growth level globally. Some experts are projecting the U. S. to be the world s largest energy producer by This development may help keep growth in the USA much higher than expected in Alternative Energy - Solar and wind power continue to move forward in our economy. The level of efficiency of solar panels is now approaching 17-20% for some technologies. This is up from about 12% efficiency just 7-8 years ago. We are now investing in some equipment companies that have plans to produce systems that could reach an efficiency level of greater than 22% in just a few years. The key point here is that Solar C a b o t W e a l t h M a n a g e m e n t, I n c. P a g e 2 5

3 power is now coming into the key efficiency levels that make solar a very real, reliable, efficient alternative to coal, oil and gas. If we were to put the real cost of pollution into the cost of coal, oil and gas, then solar today would be a bargain. Further, solar has no moving parts a very critical advantage. We believe that in ten years nearly all large commercial buildings will be built with solar electric panel creation incorporated in the design. This industry is in a very real fast growing phase. Stock prices today do not reflect the incredible potential of this industry. Solar Power Cabot Top Sector Pick in the Energy Innovation Five Reasons Why Solar Power Could Grow ten to twentyfold in the Next 10 Years. It is possible that in 15 years solar power could generate more than 15% of the energy production in the United States. (Today it is less than 1%). 1.) The Electric Grid is a mature industry that is ripe for innovation. Distributed generation via technologies like solar and wind have progressed so much that they are now meeting and exceeding grid parity. I believe in 5 years it is possible that the cost of solar power will be cheaper than most conventional fossil-based fuel alternatives. 2.) The cost of solar energy has dropped more than 40-50% in the past 7 years. This is an extraordinary advance in technology. This has put solar power on an inflection point that could catapult solar to become extraordinarily competitive with current electricity fuels. 3.) Our society is now ready and willing to buy green energy. Solar power has reached a point where large scale utility or rooftop solar can do the job of creating clean, efficient electricity. Buyers of power want clean technologies and they are willing to pay for them now especially when they produce high return on investment. 4.) Securitization of solar power assets is a powerful growth driver and could unlock bountiful low cost capital that could bring hundreds of millions of dollars into the solar energy complex. Recently two large-scale securitizations took place and could become a template for many more deals. 5.) Storage Battery Technology a key next step in developing a very large solar growth phase. Once businesses and residential customers can store their own power from their rooftop systems or largescale utility farms, this will enable users to disconnect from the grid. The cost of storage today is still a bit too high to make it an easy decision it is estimated that the cost of these systems will drop in the coming two years as Tesla Motors builds its Gigafactory the world s largest battery factory to allow large-scale implementation of these systems. SolarCity (SCTY) SolarCity is the fastest-growing major company selling, designing, financing, monitoring and installing efficient residential roof top solar energy systems. SolarCity is growing % per year. We believe they will likely continue to grow at a very fast pace over the coming 4 years. Why? The economics of solar energy are now very attractive. Many customers want to lock in low-cost energy production today. SolarCity can give them the opportunity to reduce their electric bills percent today and pay out no money to get this done. This is an impressive offering. We believe SolarCity can keep their low- cost advantage and maintain a very fast pace of growth. There are a few catalysts ahead for the solar industry. Most today expect the Federal Tax Credit of 30% will be reduced to 10% per current law in We believe C a b o t W e a l t h M a n a g e m e n t, I n c. P a g e 3 5

4 that it is possible that the tax credit is not reduced that far maybe to 20% or 15%, or possibly not even reduced at all. This would be a surprise to the market. Further, we believe that in the next 2-3 years SolarCity will be able to sell a storage system with the solar panel system that will allow customers to basically unplug from the grid meaning they can use the power in the future when they need it once it is stored. A very popular feature may be to charge up your electric vehicle with solar power generated by your rooftop solar system. * Transportation Innovation Electric Vehicles Next Generation Vehicles Transportation Innovation. Today s automobile industry has changed dramatically in its execution of an old technology. We now have far superior combustion gas engines and new computer tools to improve our driving experience. However, it s high time we actually developed a new, improved cost and improved ecological mode of transportation. We are impressed with the technology developed in the use of battery power that utilizes an electric engine. If battery life can be improved and costs can be driven down, we believe a much more ecologically friendly mode of transportation could be right around the corner. The leading companies in this space have a chance to create a great deal of value. We believe this industry is in the early stages of change and feel there is a great deal of potential in this area. Tesla Motors (TSLA) is the company behind this innovation and is a company with extraordinary investment potential. The automobile industry has delayed the commitment to a new power platform for years. That delay is ending with the introduction of the new electric vehicle from Tesla Motors. Five reasons why Tesla is an exceptional investment today: 1.) It is a disruptive technology aimed at a $1 trillion industry (automobile) that is not very innovative. 2.) Tesla has a 5 to 7 year technology lead on automobile competitors other company electrics and hydrogen fuel cell technology are big economic failures. 3.) Tesla may also lead in battery storage for the solar industry this could launch them into another trillion dollar industry (Electric Power Industry) with a disruptive technology. 4.) If they achieve desired result from the Gigafactory this could catapult the solar industry into high growth gear and Tesla could revolutionize the power industry. 5.) Management at Tesla (Elon Musk) is extraordinarily talented with multiple skills engineering, financing and marketing skills- very unusual. Here are some key highlights of Tesla: In July of this year, they will have plant capacity up to 50,000 cars per year or 1,000 per week. This year Tesla will sell about 40,000 Model S vehicles. Next year the company could raise production to 80,000 by year end. The Model X is a larger gull winged vehicle with a similar price range as the Model S. Tesla s Gen. 3 car which we believe could change the car industry will be coming early Price will be $30,000-$35,000 without federal tax credits. 200 mile range will be standard. They will have the option for more range for more dollars. It is noted that they expect the extraordinary performance features of the Model S car will also be present on the lower cost Gen 3 model. Cost of production is key...they will be able to maintain 28% gross margins and operating margins of better than 15% are likely. C a b o t W e a l t h M a n a g e m e n t, I n c. P a g e 4 5

5 Competition is getting worse...toyota Prius hybrid is 13-year payback. Hybrids economics are awful. Electric competition is not good. BMW i3 has a range of miles and cost $45,000 and you can also buy a gas option to rescue you when your battery dies. I think it is likely TSLA could be producing in the 70,000 to 80,000 range by the end of 2015, and possibly 100,000 by 2017 when the Gen III is introduced. If Gen III is a big hit sales could exceed 400,000 cars by 2020, or only 6 years from now. Morgan Stanley, the biggest bull on the street, has a revenue estimate of $11 billion in 2017 and $23.5 billion by Some of these estimated numbers include sales of batteries to other companies. Tesla has expanded its technological lead over the competition. I think six years from now they will be selling more than 400,000 cars. We believe Tesla will become a very significant company. Today s market cap of close to $25 billion, of course, is high and incorporates some of the positive future Tesla will bring our country. However, in hindsight several years from now we believe this valuation will in fact look low. Tesla is a very high-risk investment and will be volatile; however, we do not know of another company today with as large an advantage and potential as this company. Someday Tesla could be a leading car company with $100 billion market cap. One only finds companies like Tesla every few decades. The catalysts for great value creation are...great management, low competition, and a customer base ready for a new, clean, green mode of transportation. They make a fantastic mix of components for a growth company.* Innovation Creates Wealth and Drives GDP Growth It is well known, of course, that investors who are on the right horse in new innovation can be part of significant wealth creation. However, it is less understood that this innovation is actually a fairly significant driver to economic growth overall. The innovation noted above is having real, dynamic and specific impacts on hundreds of industries now as the advancements can magnify great improvements in productivity and service gains in many industries. We continue to remain fairly optimistic about economic growth in the coming few years. Yes, there will be many challenges ahead; however, the United States is positioned quite well in our digital world to continue to lead in many industries. For this reason, we believe the glass is more than half full in the coming years and we are enthusiastic about our future. Most people today are underestimating our potential. *As of the publication date of this white paper, Cabot Wealth Management owns both Solar City and Tesla in our managed portfolios. The analysis outlined here is for informational purposes and should not be considered a recommendation to buy either security. No investment allocation can entirely eliminate risk and every investor should consider their portfolio allocation in light of their goals and tolerance for risk. Past performance is no guarantee of future results.* For more information about Cabot Wealth Management, Inc.: Go to for information about our investment management and wealth management services. Address: 216 Essex Street, Salem, MA or our Boston office. Tel or MGMT. C a b o t W e a l t h M a n a g e m e n t, I n c. P a g e 5 5