Hello, and welcome to the SolarEdge conference call for the first quarter ended March 31, 2024. This call is being webcast live on the company's website at www.solaredge.com in the Investors section on the Event Calendar page. This call is the sole property and copyright of SolarEdge with all rights reserved, and any recording, reproduction or transmission of this call without the expressed written consent of SolarEdge is prohibited. You may listen to a webcast replay of this call by visiting the Event Calendar page of the SolarEdge Investor website.

Thank you, Chloe, and good afternoon, everyone. Thank you for joining us to discuss SolarEdge's operating results for the first quarter ended March 31, 2024, as well as the company's outlook for the second quarter of 2024. With me today are Zvi Lando, Chief Executive Officer; and Ronen Faier, Chief Financial Officer. Zvi will begin with a brief review of the results for the first quarter, followed by Ronen, who will review the financial results for the first quarter, along with the company's outlook for the second quarter of 2024. We will then open the call for questions. Please note that this call will include forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from management's current expectations. We encourage you to review the safe harbor statements contained in our press release, the slides posted on our website ahead of this call today, and our filings with the SEC for a more complete description of such risks and uncertainties.

Thank you, J.B. Good afternoon, and thank you all for joining us on our conference call. Starting with highlights of our first quarter results, we concluded the quarter with approximately $204 million in revenue. Revenues from our solar business were approximately $190 million, while revenues from our non-solar businesses were approximately $14 million. This quarter, we shipped 1.1 million power optimizers, 69,000 inverters, and 128-megawatt hours of batteries. As we have done on previous calls, I will start with the market dynamics we see in the various regions and end markets, our underlying demand in these markets, and the implications on sell-through and inventory clean-up. Starting with the U.S. residential segment, as we commented last quarter, we did not expect significant changes in this market as long as interest rates and electricity prices remain at recent levels. As a result, our first quarter results largely reflect traditional seasonality with inverter and optimizer sell-through down 19% quarter-over-quarter. However, we have seen continued strength in the uptake of our single-phase battery product in the U.S. market, and sell-through of our battery product was up 26% quarter-over-quarter. This strength is coming from California with the accelerating adoption of battery-tied NEM 3.0 systems, as well as Puerto Rico where customers need full backup capability. Our DC coupled solution is particularly well suited for these applications given the incremental energy that is generated when compared with many alternative products. Moving to U.S. commercial, sell-through was down 22% from a record fourth quarter, largely due to seasonality. We are encouraged by the trajectory of this market, which is expected to grow this year, due among other reasons to the continued demand from large enterprise customers who want to standardize their global portfolios on our products. On a year-over-year basis, sell-through of our commercial inverters was up 42% in the U.S. Moving to Europe. The market started the year slowly due to a slightly longer-than-usual winter and continued digestion of recent regulatory changes. In residential, sell-through in Europe was seasonally down 19% quarter-over-quarter, with inverters and optimizers down 20% and batteries down 13%. In commercial, sell-through was down 2%, reflecting the relative strength of this market and the good position we have based on the same dynamics that I mentioned when discussing the U.S. commercial market. Touching on some of our major markets in Europe. In Germany, the market started the year more slowly than anticipated as declining electricity prices have negatively impacted the economics of solar. There is, however, an expectation that market dynamics will improve given the passing of Solar Package I by the German Parliament 2 weeks ago, which will simplify regulatory requirements on new solar installations. Among other measures in the package are increased feed-in tariffs for commercial installations and incremental support for agri-photovoltaic projects, which we expect will increase demand for our products, specifically, given our strengths in these segments. In the Netherlands, consumer confidence is recovering slowly following the clarifications around net metering in the fourth quarter, while the market remains at relatively depressed levels compared to recent years. We expect the market to continue to recover slowly, and we are focusing on developing solutions, in particular on the software side that will enable us to gain share in this market. I will expand on some of these initiatives in a moment. In the rest of the world, we have not seen significant changes in market dynamics outside of typical seasonality. Our revenues continue to be largely derived from Thailand, Taiwan, South Africa, Australia, and Israel. The aggregation of these trends and dynamics, in particular the slower pace of seasonal pickup in Germany, translated into first quarter sell-through of approximately $440 million, which was slightly below our expectations. The lower level of sell-through resulted in us under-shipping demand by approximately $250 million, at the lower end of the $250 million to $300 million range we anticipated and discussed in our call last quarter. Taking the first quarter into account and assuming the traditional seasonality patterns and market trends as we see them today brings us to the lower end of the range of underlying business run rate level that we estimated in our previous call for that period. Our expectation for the second quarter is that sell-through should be up 15% to 20% versus the first quarter, meaning we expect to under-ship demand in the second quarter by approximately $250 million to $300 million. Moving to products. Last month, we announced the acquisition of Wevo, which provides software solutions for C&I EV charging optimization, management for corporate employee charging, fleet charging, and charging in apartment buildings. The Wevo solution has already been deployed in Europe, Asia, and North America at approximately 1,000 sites, and more than 215,000 charging sessions have been conducted to date on the Wevo platform. Wevo together with Hark, the energy optimization platform for integrated load control and industrial IoT that we acquired in the second quarter of 2023, augment the SolarEdge C&I energy management platform and together form SolarEdge ONE for C&I. In all, SolarEdge ONE for C&I is an energy management platform that enables PV and asset owners to manage all on-site electrical power and optimizes PV production, storage, EV charging, and loads. This is achieved by consolidating internal and external data to make hundreds of intelligent energy decisions on a real-time basis. To help explain, I'd like to give a real-world example of how SolarEdge ONE for C&I is being deployed by one real estate company in a way that enables them to benefit from the SolarEdge offering. This real estate company has a portfolio of roughly 150 assets, ranging from supermarkets to logistics centers, cold storage facilities, and office buildings. This customer wanted a complete hardware and software solution that will enable them to generate clean and cheap electricity where relevant and optimize energy management, including selling the generated power to tenants and assisting the tenants with their own energy optimization needs. Given the diversity of the asset portfolio, the combined hardware and software configuration will be optimized per site and application based on the flexibility of our portfolio. In the coming months, we will be deploying PV to approximately 20% of the sites and ONE for C&I to all sites on the basis of a paid subscription. We believe that the rollout of SolarEdge ONE for C&I and the additional features that we will deliver in the coming quarters creates differentiation for our solution that will enable us to capture market share and improve profitability, including through the ability to sell software services that deliver recurring revenue. On our last earnings call, we also announced the first shipments of our commercial outdoor battery solution. This new commercial battery will be a key piece of the hardware solution managed and optimized by ONE for C&I, along with our C&I inverters, EV chargers, and energy meters. We recently began taking orders for our commercial battery in Italy, and we'll be rolling the product out to additional markets across Europe and the rest of the world in the coming quarters. At Intersolar next month, we will be showing an additional commercial DC coupled storage system optimized for indoor applications, which is a common application in some European markets, with shipments planned for early next year. Continuing with C&I, an additional angle to broadening our addressable market in this space is pushing into the multi-dwelling unit (MDU) market. The MDU space is a relatively untapped market that is gaining regulatory support in various countries and is taking the first steps on its decarbonization journey. This market will require comprehensive portfolio-level solutions that incorporate PV batteries, EV chargers, heat pumps, and energy management capabilities. We aim to be a leading provider of hardware and software solutions that will bring the energy transition to these types of buildings where roughly 50% of people in the OECD live. To broaden our exposure to this space, we recently made investments and signed commercial partnerships with two software companies in the MDU space, Ivy Energy based in California and AMPEERS based in Munich, Germany. Both Ivy and AMPEERS provide software solutions to help large real estate owners design and implement plans to decarbonize their multi-dwelling portfolios and harvest the benefits of smart renewable energy solutions. Energy management is also an important enabler in the residential space, and we continue to roll out new features for SolarEdge ONE for residential. Last month, we added a dynamic rate optimization feature, and we have approximately 1,500 users enrolled across the Netherlands and the U.K. We will be rolling out this new capability to additional countries, including Belgium, Sweden, Poland, and Germany in the coming months. The dynamic rate capability joins the Negative Rate Optimization tool we added to SolarEdge ONE for residential last year in the Netherlands. We have 10,000 sites enrolled in Negative Rate Optimization as of today and have mitigated 162 negative rate events since launching the product in the fourth quarter of 2023. We will continue to roll out additional features in the coming months that will help us maintain our technological leadership and gain market share in the residential space. As the reliance on software increases and given that residential and commercial PV systems are connected directly to the utility grid, cybersecurity is of critical importance. Over the past few quarters, we have increased our investment and activity on cybersecurity capabilities and certifications. We will continue to ensure that we are at the forefront of this topic in our industry, particularly as regulations are being drafted and implemented in multiple jurisdictions. Let's talk now about new residential products. At Intersolar in a few weeks, we will be displaying our next-generation, large-capacity, 3-phase inverter for the European residential market that is expected to be released early next year. This new 20-kilowatt inverter is optimized for the larger rooftops and system sizes that we are increasingly seeing in the German-speaking countries where the increased need for electricity and self-consumption is leading consumers to utilize all roof surfaces and increase system sizes. As historically, our products have been optimized for larger PV plus storage residential systems, this solution will further enhance our differentiation in this segment. This new inverter is based on silicon carbide power switches to drive better efficiencies and will incorporate improved safety and installability features as well. To complement this next-generation inverter, we are also developing our next-generation residential battery. This battery will be based on a single platform that will unite our single-phase and 3-phase platforms into one. We will elaborate more on this and other new products in the pipeline for the residential North American market on our next earnings call. These new products will help drive down cost per watt and deliver improved installability to our customers, saving them precious time on site. In parallel to the products above, which are to be released in the coming quarters, we continue to ramp and see growing demand for the products we released over the last few quarters. On our tracker product, there were approximately 100 megawatts that have been installed, are in the process or are in the process of installation, and confirmed orders for approximately 60 additional megawatts that are scheduled to be installed this year. On our 330-kilowatt TerraMax inverter, we recently received an order and began installation of a 20-megawatt floating PV project. Moving to operations. In our Austin, Texas facility, we manufactured approximately 250 megawatts of single-phase inverters in the first quarter and are on target to meet the 500-megawatt manufacturing run rate in the second quarter. Additionally, in the second quarter, we will begin shipments of optimizers and commercial inverters from our second U.S. contract manufacturing facility located in Florida. Also on the operational side, in the North American market, we plan to consolidate our product portfolio around an 11.4-kilowatt, made-in-the-U.S. inverter and 650-watt optimizer platform. The initiative will reduce both the number of hardware platforms and the number of SKUs across our North American portfolio. This will result in a more streamlined manufacturing process and improve efficiencies across supply chain, logistics, inventory management, and services. Following the consolidation to a single platform, all new inverters will come pre-equipped with PCS, which means customers can install much more PV while avoiding costly main panel upgrades. In closing, our first quarter results were aligned with our expectation of inventory clearing and typical seasonality. As we enter spring when installations historically tend to rise, we expect channel inventory to continue to decline and revenues to improve. In parallel, we are focused on the suite of new products that we plan to release in the next several quarters to position ourselves for the next growth cycle in our industry.

Thank you, Zvi. Good afternoon, everyone. Total revenues for the first quarter were $204.4 million. Revenues from our solar segment, which includes the sales of PV attached residential and commercial batteries, were $190.1 million. Total revenues from the United States this quarter were $65.3 million, representing 34% of our solar revenues. Solar revenues from Europe were $85.7 million, representing 45% of our solar revenues. Rest of the world solar revenues were $39.1 million, representing 21% of our total solar revenues. On a megawatt basis, we shipped 226 megawatts to the United States, 443 megawatts to Europe, and 276 megawatts to the rest of the world for just under 950 megawatts of total shipments. As in the fourth quarter of 2023, this quarter, the geographical mix of our revenues is mainly a result of the inventory situation in the channel and is not necessarily representing the installation rates, competitive environment, or long-term trends. 68% of the megawatt shipments this quarter were commercial products and the remaining 32% were residential. In the first quarter, we shipped 128-megawatt hours of our residential batteries, with the majority shipped to the United States where we see steady growth in installation rates. Similar to last quarter, there was a large portion of shipments of single-phase batteries that are manufactured using our inventory of higher-cost sales that carries significantly lower gross margins. In the first quarter, due to the continued inventory imbalances in the distribution channels, we shipped a higher ratio of inverters to optimizers. As a result, the average selling price per watt this quarter, excluding battery revenues, was $0.172, a 27% decrease from $0.236 last quarter. While the typical ratio of inverters to optimizers is 1 to 24, the ratio this quarter was 1 inverter to 16 optimizers. This quarter, we initiated some price decreases in targeted regions and products in order to help our distribution channel partners reach balanced levels of their inventory, which will be reflected in our financials starting next quarter. Our battery ASP per kilowatt-hour was $383 this quarter, down from $403 per kilowatt-hour in the previous quarter. The decrease is largely due to the previously announced price decreases on our residential batteries, offset by mix changes between our commercial and residential batteries. Revenues this quarter from our non-solar business, comprising our energy storage and all other segments, were $14.1 million. Following the discontinuation of our LCV business, this revenue is mostly attributed to our energy storage division and is following the seasonal pattern of this industry, which sees higher revenues in the back end of the year. Consolidated GAAP gross margins for the quarter were negative 12.8% compared to negative 17.9% in the prior quarter, as last quarter included higher charges from discontinued operations and restructuring activities. Non-GAAP consolidated gross margin this quarter was negative 6.5% compared to positive 3.3% in the prior quarter. This amount includes 450 basis points of net IRA benefit. Gross margin for the solar segment was negative 3.5% compared to positive 4% in the prior quarter. Similar to the last quarter, I would like to give some additional color on the movement of our gross margin given the continued environment of depressed revenues. As a reminder, the first layer of our gross margin, which we define as direct gross margin, is the difference between the price paid by our customers and our direct costs paid to our contract manufacturers. This margin layer is not dependent on revenue level but is only dependent on product and geographical mix. In the first quarter, direct gross margin was relatively similar to what we saw in the fourth quarter. We had initially anticipated a reversal of the negative impact of product mix of our Q4 2023 revenues. However, the continued adoption of our lower-margin, single-phase battery in the United States significantly exceeded our expectations and continued to weigh on our direct gross margins in Q1, offsetting the margin benefit from less revenue derived from customers benefiting from volume pricing. As a reminder, the single-phase batteries, sold mainly in the United States, utilize battery cells we purchased at higher prices. And once those cells are consumed, our next battery generation will allow the return to our target margin on the residential battery product. The second layer of expenses that make up our gross margin, which we define as other costs of goods sold (OCOGS), are not directly related to the volume of products sold and are largely but not entirely fixed costs. In the first quarter, we lowered our non-GAAP other COGS by roughly 21% on an absolute dollar basis. But the relatively higher decline in revenues led to these economies of scale that had a negative impact of 750 basis points on our first-quarter solar gross margins. On the positive side in OCOGS, we continue to see a steady improvement in our warranty costs and reduced accrual rates in relation to the sale of new products. This is a result of our transition to using certain automotive-grade components as well as other activities that improve our installed base resilience. We've also seen, as a result of lower revenues, significantly lower shipment costs. This quarter, we also increased our accruals for obsolete inventory by approximately $9 million. Our absolute inventory accrual policy applied to our unnaturally high inventory level requires us to continue to evaluate risks of inventory obsolescence and to take the needed actions. It is important to note that the accrual by itself doesn't mean that the inventory is obsolete but rather reflects a higher probability of such obsolescence. We are diligently working on reducing and utilizing our inventory levels of both finished goods and raw materials. Gross margin for our non-solar segment was negative 47.2%, down from negative 2.2% last quarter, a result of seasonally lower sales in our non-solar storage business and low utilization of the Sella 2 factory. The first quarter typically marks the seasonally lowest quarter of our storage business, and we expect improved revenues and margins in the coming quarters. On a non-GAAP basis, operating expenses for the first quarter were $109.2 million compared to $118.3 million in the prior quarter. Our OpEx was lower than our guided range, largely due to one-time items. We continue to anticipate operating expenses to stabilize in a range of $112 million to $117 million, including the impact of the workforce reduction we implemented in the first quarter. And we will continue to push for our expenditures to go down while allowing significant resources for our technology and new product development. GAAP operating loss for the quarter was $173.7 million compared to an operating loss of $237.6 million in the previous quarter. Non-GAAP operating loss for the quarter was $122.5 million compared to an operating loss of $107.8 million in the previous quarter. Operating loss from the solar segment was $110.4 million this quarter compared to an operating loss of $93.9 million in the previous quarter. And operating loss from our non-solar segment was $12.1 million this quarter compared to an operating loss of $13.9 million in the previous quarter. Non-GAAP financial expense for the quarter was $4.8 million compared to a non-GAAP financial income of $29.8 million in the previous quarter. Our non-GAAP tax benefit was $18.7 million this quarter compared to a non-GAAP tax benefit of $25.5 million in the previous quarter. Our non-GAAP tax rate for the quarter was 15%, and we expect it to climb back towards 20% as the business returns to profitability. GAAP net loss for the first quarter was $157.3 million compared to a GAAP net loss of $162.4 million in the previous quarter. Our non-GAAP net loss was $108.6 million compared to a non-GAAP net loss of $52.5 million in the previous quarter. GAAP net diluted loss per share was $2.75 for the first quarter compared to $2.85 in the previous quarter. Non-GAAP net diluted loss per share was $1.90 compared to $0.92 in the previous quarter. Turning now to the balance sheet. As of March 31, 2024, cash, cash equivalents, bank deposits, restricted bank deposits, and investments were approximately $950 million, which we expect to be the lowest cash point for this year. Net of debt, this amount is approximately $316 million. This quarter, cash used in operational activities was $217 million. This cash utilization is a result of the inventory buildup and the associated vendor payments related to inventory manufacturing. We believe that in the first quarter, we completed the adjustment of our manufacturing commitments to the required level amid our current inventory position. As of March 31, our inventory level net of reserve was at $1.55 billion compared to $1.44 billion in the prior quarter. Our average inventory days increased from 386 days in the fourth quarter to 619 days in the first quarter. The cash flow used for manufacturing was partially offset by a significant reduction in accounts receivable as we continue to make collections from customers despite lengthened payment terms. Accounts receivable net decreased this quarter to $404.4 million compared to $622.4 million last quarter. As a result, we brought down DSO from 265 days in the fourth quarter to 220 days in the first quarter. As part of our $300 million share repurchase program authorized by our Board of Directors in the fourth quarter of 2023, this quarter, we repurchased 506,000 shares of our common stock for an average gross purchase price of $65.67 per share for a total of approximately $33 million. Further share purchases continued in April, and we will continue to responsibly implement the program based on our cash flow development and expectations. Turning to guidance for the second quarter of 2024. We are guiding revenues to be within the range of $250 million to $280 million. We expect non-GAAP gross margin to be within the range of negative 4% to 0%, including approximately 350 basis points of net IRA benefit. We expect our non-GAAP operating expenses to be within the range of $116 million to $120 million. Revenues from the solar segment are expected to be within the range of $225 million to $255 million. Gross margins from our solar segment are expected to be within the range of negative 3% to positive 1%, including approximately 420 basis points of net IRA benefit.

And we'll move first to Andrew Percoco with Morgan Stanley.

I guess just to start out here on margin guidance, obviously, a lot to unpack. But if I just look at the first quarter, your revenue actually was somewhat in line with your guidance, but margins missed. And my understanding is it was mostly related to mix shift, I guess, a lack of reversal in mix shift that you were expecting following the fourth quarter. So can you just give us a sense for what you're expecting for the remainder of 2024 beyond just the second quarter and whether or not you're comfortable in your prior guidance in terms of your ability to get back to the 30% range by the end of the year?

Sure, Andrew, and thank you for the question. So I'll start by saying that we're still playing the rule of small numbers relatively. And just to explain it a little bit, in general, the amount of batteries that we planned when we guided for our gross margin was a certain level that was exceeded by approximately $15 million of additional battery sales that we did not anticipate just given the fact that the demand for our single-phase batteries in the United States is better than we expected. And the entire result is actually related to the difference in the margin of having more batteries at a very low margin compared to where we planned it. Had it been a regular quarter at the regular business level, this would be a very minimal effect. But at this revenue level, it's relatively large. Now in essence, it's a little bit of a zero-sum game because all of these batteries are based on battery cells that we've already acquired, that are already in our inventory; and it's just a question of how quickly we consume it. So by definition, if we sell a lot more of them right now, we will sell less of them next year when we’re going to basically consume all of them. So it's just a shift of the margin. In general, what we are doing, and this is already baked into the second quarter gross margin guidance, we are assuming a slightly higher battery sales than we initially anticipated as we started the year. So at the beginning, it's already there. And the second thing is, of course, that given the very small revenues that we have and we assume that they will grow towards the end of the year, we assume that any impact in that size of difference in mix will be very, very minimal. So no change in our, I would call it, stabilized margin projection.

Understood. Okay, that's helpful. But I guess as a follow-up to that, can you maybe bridge that to cash flow expectations for the year and maybe how you're thinking about liability management? I think you have a debt maturity next year to think about. So how are you thinking about that as it relates to cash flow expectations this year and liability management?

Sure. So of course, cash is, especially in these times of very low revenue, one of the major items that we're keeping our eyes on. And as I mentioned in my prepared remarks, we expect this quarter to be actually the lowest cash point for the year. The main reason for the position that we're in right now is the fact that we did see the revenues declining already when we guided for Q4. And then for Q1, you still have commitments for inventory procurement and also for manufacturing towards your contract manufacturers. And that means that during the first quarter, we still manufactured more than we actually sold. And this, of course, results in the fact that we had to pay for the inventory and we had to pay our vendors. What happens in the second quarter is that this phenomenon is actually reversing. We are going to start selling more than our actual manufacturing. And actually, we're going to utilize the inventory that is just $1.55 billion of cash sitting in the form of products. And once we're going to start reversing those, we expect the cash to start to be generated again. So we already expect to see cash generation in Q2. And we're going to see intensified generation into Q3 and Q4, where not just that we will have higher revenues, we will also have higher utilization of the inventory. And one, by the way, just to complete on the convertible bond, currently, of course, these amounts, we treat them as debt; they are out of the money. We treat them as debt. We work under the assumption that these are moneys that will have to be refunded to the debt holders. And as such, we simply make sure that all of our cash positions are not taking them into account and are something that we can use.

And we'll take our next question from Brian Lee with Goldman Sachs.

I jumped on the call late, so I apologize if you already addressed this, Ronen, but can you update us on sort of what you're seeing in the pricing environment? Are you taking any new actions in the U.S.? I know in the past, you've been saying the U.S. pricing situation is pretty stable. And then in Europe, in the past, you said mid- to high-single-digit price declines are what you're planning to implement. Have you implemented those already? Do you see any more actions potentially being needed in terms of pricing in Europe given the market dynamics out there? And then I have a follow-up.

Sure, Brian, and thanks for the question. So actually, we have already started to implement price reductions in various forms this quarter. I would divide them into two. The first one are price reductions that we've implemented to our batteries, and this is something that is done across the board and across the products. And this just simply means that you can buy our batteries today at a lower price than you used to. In other regions, what we're trying to do is actually to make our price reductions a little bit more effective in a way that they help our customers because we need to remember that some of our customers are sitting on a large amount of inventories. Sometimes if you are reducing prices, those loyal customers or channels that have a lot of inventory are in an inferior position to someone that's just entering the market or has less inventory and is therefore being a little bit damaged by this. And this is something that, of course, we don't want to do. So what we are doing is that we are trying to match various price reductions or initiatives to help our distributors. For example, in Europe today, we see that we have a lower ratio of optimizers in the channel compared to inverters. That means that our channels will have to buy more optimizers. What we basically did is that we have temporarily reduced the price of our optimizers in those regions to ensure that when our distributor is buying those optimizers, he benefits from that lower price. He can sell the entire system at a lower price. We are not just allowing them to get better pricing; we are also helping them to clear some of the inventories they have. And by this, we are accelerating the inventory clearing. So we definitely do this. We're very flexible in the way that we implement it. We put a lot of thought into how to not just use the reduction amount but also how to use it properly. Yes, we're doing it in every region separately. In the U.S., I must say that we don't see a lot of this right now because, as we mentioned before, again, the environment is relatively stable.

Okay. That's helpful. And then I know there's been a lot of focus on the gross margins here. I guess I'm a little surprised that with revenue pickup in Q2, the gross margin guidance isn't improving a bit more. I know there's a lot of like volume and fixed cost drivers or absorption drivers that ultimately are going to be a big part of the gross margin ramp back up. So I guess two questions here. What actions are you taking to get back to that target of 25% to 27% ex IRA, if that's still the appropriate target? And is there anything that maybe you've been surprised by or is more challenging than you thought and isn't getting you maybe a gross margin uplift on better volumes here in the very near term?

Sure. So first of all, no surprises on our side given the fact that we still expect to see gross margins where we said all along they will be towards the end of the year. So we don’t see a change in the end target. The two main differences that you see right now compared to maybe a quarter ago are that, one, the rate of selling our residential batteries in the U.S. is a little bit quicker than we thought. Again, when you have relatively limited revenues, you dilute the margins by very low-margin products, and that's the result here. By the way, it’s again a zero-sum game because the quicker we consume those batteries, that means that margin will recover in '25 when we completely get rid of those batteries. So that's the easier part. The second part is actually related to regular seasonal effects that we see every year. Usually, in the second and third quarter, we see a little bit of a higher spending on actual warranty expenses. You see more, first of all, replacement of units. It's easier to go on the roof to replace units, and sometimes you see a little bit of a higher failure rate during the summer.

And we'll move next to Philip Shen with ROTH Capital Partners.

The first question is about pricing. Ronen, our checks suggest that you may have recently launched a new promotion in the European residential segment, which offers a free optimizer when a kilowatt is purchased. Could you provide some details about that promotion? It seems to be available across Europe and is expected to run from May 1 to September 1. I'm interested in understanding the dynamics of this promotion. Additionally, it appears there may still be a year’s worth of inventory for the European residential segment. This could slow down the channel clearing process since distributors will receive a coupon but will need to purchase more optimizers or other products. Considering this situation, when do you anticipate the European channel will clear, and do you agree that it might be somewhat slower now?

So first of all, the initiative that you mentioned, Phil, is exactly to my last answer and is indeed one of the tools that we're taking. What we basically saw here is that we have a higher ratio of inverters to optimizers within our channels in Europe. As a result of the fact that at the very beginning of '23, we had the problem of providing inverters. Everyone ordered so many, and then the slowdown in the market came in. What we have identified is that whether they like it or not, many of the distributors will have to buy quite a lot of optimizers. This will be a necessity for them. And had we just decided to reduce prices across the board of all of our products, that means that they would not really benefit from this price decrease given the fact that what they need is optimizers. So the initiative around optimizers was very easy; let’s help our distributors exactly where they need it because they will have to buy. And by allowing them to get cheaper optimizers because we’re basically giving one on every kilowatt under this initiative means that they need, I don’t know, like 4 instead of 5, but that basically means that now they can sell a full system with an inverter that they have a little bit quicker. As of the time to clear, this varies greatly between distributors and products with those distributors. I can tell you that some of the distributors, for example, that ordered a lot of commercial inverters, just given the fact that we didn't have enough in '23, have many that may be too many. One other distributor, that didn't order so much, has a little bit of a lack of those inverters. On average, we see inventory levels that reflect more than one year. We believe that as the year continues, we will see gradual runoff of some of the products from the shelves. Not just that one day across the board, all products will be finished. We will continue to see gradual increases in revenues, gradual increases in shipment, and gradual clearing of the inventories. But again, we do not expect, in most cases, to see a year worth of inventory in total on the shelves in Europe.

Okay. Shifting over to a housekeeping question here on the Q2 guide. Can you talk to us about what you expect the ratio of inverters and optimizers to be in Q2?

So we do not give it yet simply because we haven’t shipped in. In those numbers, every small difference is or shipment is making a big difference. In general, we do expect to see a higher ratio of optimizers to inverters this quarter and, I would say, even in the upcoming quarters. I would say that we expect it to be higher than the normal 1 to 24. But again, it's a very volatile environment, so I wouldn’t be surprised if there is a little diversion here. But directionally, it should be more than 1 to 24.

We'll move next to Mark Strouse with JPMorgan.

So outside of the pandemic years, just kind of looking back over your history, we've kind of thought about your ability to bring down your cost per watt kind of in the mid- to high-single digits or so. Looking forward to learning more about the new products you have coming out. But just kind of curious, if you can talk generally, should we expect the efficiency improvements and the cost declines to be kind of in line with that versus kind of a step-function change that you can talk about?

Yes, Mark, thank you for your question. I believe you already provided part of the answer. Typically, over the lifespan of a product or its generation, we can reduce costs at a rate similar to the market's average price declines, which is about 10% per year. Additionally, we achieve larger cost reductions when transitioning to new generations, especially with higher-capacity versions. This is because our architecture allows us to maintain a fixed cost per watt on the module-level electronics, while we can lower the cost per watt on the inverter side with larger inverters. As the market shifts towards larger systems, this facilitates cost reductions. Overall, if we consider our next-generation 3-phase inverter that I mentioned, it is expected to provide a significant reduction in cost per watt—between 30% to 50%—compared to the current generation for that size of installation, which is a noticeable improvement compared to the annual reduction rate of around 10%. Is that clear enough, Mark?

Yes, that's very helpful. I look forward to seeing that. Just a quick follow-up, Ronen. Regarding the low-margin, single-phase batteries, can you provide insight on what that inventory looks like? You mentioned clearing it in 2025 a couple of times now. With the information you have, do you think that will happen in '25 or later? Any details you can share would be great.

Thanks, Mark. And first of all, by the way, looking at the industry performance in the last few quarters, crystal balls are not easy here. But in general, the way we look at it is this is basically a product that is based on around 1 gigawatt that we acquired from Samsung. Here, actually, we expected it always to be basically ending, if you remember in the history, around the end of this year. Now, of course, that all in all, the industry is a little bit slower than it used to be, we believe that we will enter this market with this inventory into 2025, and that will be the year that we believe that we’ll see some replacement with our new products. Now the question here is going to be a combination of two things. One is, again, to continue to see how the market adopts the product. The second will be when do we expect the product to be ready, and Zvi will talk about it in the next call. But we will make sure that we’re basically continuing with this product as much as needed in order to make sure that we have no product gap. The one thing I would say is that right now, it's not just the fact that we're selling these batteries a little bit faster than the others; it's also the fact that the 3-phase batteries that are enjoying much better margins in Europe, right now, the sales for them are relatively low given the situation in Europe. So when we look at the improvement of gross margins related to batteries into the end of this year and beginning of next year, it's not just how quickly we're clearing this, which is of course an important factor, but it's also what portion of these batteries are within the overall residential batteries we sell. Right now, this portion is very high. So all in all, middle of '25, we believe that will be gone with this inventory.

And we'll take our next question from Colin Rusch from Oppenheimer.

With the product redesigns and evolution, can you give us a sense of how much cost you feel like you could take out? And how important is that to the margin trajectory that you guys are talking about getting back to a normalized level?

Yes, Colin, thanks for the question. I think first, the margin projections that Ronen was discussing before were not dependent on the new products that we will be releasing because the volumes, when we're looking at the rest of this year, the volumes of the new products will not be impacting dramatically the financials. As I was alluding before, it varies from one product to another. You take a battery, the cost is very strongly dominated by the cells. So when you move from a current generation to a next generation, you're dependent on cell prices; you can become more efficient on the mechanics and the power electronics, but your potential for cost reduction is limited. When you're talking about the next generation of inverter, new components and efficiencies, the potential for step-function reduction in cost is much more significant. As I previously mentioned regarding the new 3-phase inverter, when we consider the installation size we are targeting for this inverter, specifically for large residential installations, we anticipate providing a solution that will be approximately 50% lower in cost per watt compared to current generation inverters. This cost reduction is not guaranteed for every installation size, but it is based on our design targeted at what we believe will be the primary driver in the market. Therefore, we focus on optimizing costs for that specific point. Concerning the advancements in power electronics, we expect to achieve a reduction in cost per watt by 30% to 50%.

That's helpful, guys. And with the emergence of virtual power plants, both at the residential level and, more importantly, at the commercial level, and some of the software investments that you guys have made, can you talk a little bit about your ability to monetize that and how quickly the evolution of those offerings are? What is the cadence of that evolution and your ability to really get it embedded in with some of your customers, particularly on the commercial level?

I would separate indeed between the VPP or virtual power plant, which is one application of grid services that is today more prevalent in residential than it is in commercial. We are able to monetize a subscription as long as the VPP program is active. I don't remember off the top of my head the number of batteries or residential systems that we have today under some form of a VPP. It is not huge. Otherwise, we would have probably been able to report a much better margin because of the 100% margin flow of cash. But VPP is growing. The growth rate is not huge. And when it happens, we can generate revenue from it. The other software capabilities that we enable in residential, for the most part, are not generating any type of revenue. Commercial is a different story. What we are offering there is much broader than a virtual power plant. It provides more value, and it's a wide range of capabilities from energy efficiency, load management, etc. And there, we expect to be able to have a higher ratio of or a high, relatively high ratio of software services and recurring revenue generation, but it will be a process. It's something that we'll be rolling out gradually, and it will grow gradually. So again, I don't see it having a big impact on our numbers in the next 24 months, but in the long run, it will be a source of high-margin revenue.

We'll take our next question from Austin Moeller with Canaccord.

Just my first question here, do you see any potential changes to tariffs or legislation coming that could benefit U.S.-made inverters and batteries similar to the recent change for bifacial panels?

Beyond the IRA, if you can help clarify the question?

The recent change was with tariff rules.

Yes, we're not aware of anything. I think that said, the adoption of an increased use of bifacial panels is a good thing for module-level power electronics providers because the incremental added harvest by module-level power electronics from a bifacial panel is more significant than from a regular panel. But that's completely a side note related to that regulation. We're not aware of anything cooking of a similar nature in the space that we operate in.

Okay. And just given that interest rates remain high, what trends have you started to see in core U.S. markets like California around leasing arrangements for rooftop solar?

I think the general expectation for an increase of lease versus loan is evident in the market. Again, it's not a black and white complete switch, but we see that dynamic ourselves as well, as well as the entrance of new lease providers because of that trend and because of the tendency or the benefits that the IRA creates for third-party ownership. So that is definitely evident, and it is more evident in the battery markets like California and Puerto Rico.

And we'll take our next question from Kashy Harrison with Piper Sandler.

And apologies if this was covered as I joined late, but I was wondering if you could just share your thoughts on the forward trajectory of the non-solar business? It looks like you lost roughly $12 million in Q1, I believe, or just under $50 million annualized. Cell manufacturing is becoming a little bit more competitive. And so I'm just wondering how you think about the path to either getting towards breakeven operating income or selling the business or shutting it down and just focusing on the core solar business.

Sure, Kashy, and thanks for the question. So in general, I’ll start with maybe a little bit of dynamics, but then go into the heart of the question itself. From a dynamic point of view, usually, the storage market, especially the market in which our storage division is active, is very much back-loaded with revenues in the back of the year. That means usually, you see very low Q1 and relatively strong Q4. In general, we do expect to see growth in the revenues and activity of this segment. Therefore, at least directionally, losses related to the storage division should go down as we move toward the second half of the year, not a lot in the first half but more in the second half. Now, directionally about the segment itself, I think that there are two areas of the segment that we need to look at. The first one is having a segment that is concentrated on making storage weather-control connected to solar or not. This is something that we see as a great advantage of having these kinds of capabilities. Even if we're selling batteries that are not connected to PV, the knowledge, the development, and the technology that we're developing there is helpful for us. We will continue to see multiple applications where you see storage without solar. By the way, just as an anecdote, we sell today sometimes residential batteries without a PV just for backup. So in general, having this kind of asset is something that we see a great value in. Here we invest. It's basically a segment that is developing a product. Like every developing product, it takes a while. The second part of the segment is actually owning the cell manufacturing that we have in Sella 2. As we mentioned, our next generation of residential batteries will not use NMC cells given the dynamics in the market to have LFP Chinese cells that are so cheap. We cannot compete with those, and therefore, we understand that these cells will not be used in our residential batteries. However, there are niche applications that are very much suitable for NMC. These niche applications are, first of all, large enough to cover much more than what we have today in Sella 2, and they're actually very nicely profitable areas. In general, we are developing the right products and increasingly moving towards selling more items in niches related to frequency regulations and control, specifically spinning control. I believe that over time, profitability will come from this segment. The speed at which we can utilize Sella 2 and develop the product will be key. Currently, we recognize the value in this segment and in advancing the technology. As with all aspects of our business, we will continue to evaluate it periodically.

I appreciate that, Ronen. Very helpful. And then just a quick follow-up. I think you mentioned $950 million of cash as the low point for the year. Can you just walk us through some of the drivers to increasing that cash balance for the rest of the year given that operating income should be negative still?

Certainly. The primary reason for our current position is that it takes time for manufacturers, especially with large volumes, to halt production and adjust it to match sales levels. Additionally, growing manufacturing capabilities to the desired level is quite challenging. Consequently, over the fourth and first quarters, we produced more than we sold, which means we incurred costs from our vendors for components and manufacturing. This trend has persisted into Q1 and will slightly continue into Q2. During this period, we are focused on collecting customer balances, and we had a successful quarter in terms of collections, which we will maintain in Q2. Most of our new sales outside the United States will be sourced from existing inventory that we have already paid for, which will ultimately help improve our cash flow situation. However, since we will still face some payments related to Q1 manufacturing in Q2, we anticipate that cash generation will be lower in Q2 compared to Q3. For Q3 and Q4, we expect to see a strong cash flow generation, both from operations and with significantly reduced capital expenditures.

We'll move next to Jordan Levy with Truist.

It's Henry standing in for Jordan. To begin, could you provide more details about the expected pacing of the inventory reduction over the next few quarters?

Sure. Generally speaking, this also relates to how we view the inventory clearing over time. It's not entirely clear, but it's also about the ratio of how much of the inventory we're utilizing. Currently, in the past two quarters, our sales in the United States have outpaced sales in Europe over the last few quarters, mainly due to channel inventory in Europe. This indicates that since we manufacture almost everything we sell in the U.S., the pace of inventory clearance is somewhat slower. However, once we begin to see growth in Europe again, and considering that most of the European inventory is already manufactured, the pace should accelerate. When it comes to the pace itself of finishing this kind of inventory, I would assume that of the finished good inventory that we started the year with, approximately two-thirds will be cleared towards the end of the year. And of course, here, the pace is going to be dependent on how quickly the market recovers. But of what we had at the end of the year as finished goods, about two-thirds will be clearing this year. You can linearly take it from like Q2 towards the end of the year to get there because this is the assumption that we take.

Awesome. And then just a quick follow-up from me. Outside of California and Puerto Rico, which you all had mentioned, were there any other main U.S. regions that stood out to you all from a demand perspective on battery sales this quarter? Or has demand been relatively steady state in the rest of the country?

Yes, aside from Hawaii, which is a unique situation, I can't recall another state that has an attach rate as high as the two states you mentioned. However, we are seeing an increase in battery adoption in Arizona and to some extent in Texas as well.

We'll take our next question from Vikram Bagri with Citi.

I just wanted to follow up on the sell-through guidance that you gave for second quarter. I believe you said 15% to 20% up in 2Q. We're in the middle of the quarter. I was wondering if you can highlight some markets where you're seeing the strength. I imagine some markets are growing faster than that rate and some markets are sort of underperforming relative to that rate. If you can identify markets where you're seeing that level of strength and some markets where you're not seeing the impact of the promotions and price reductions that you've implemented?

Thank you for your question. It's quite complex because we need to consider both geographical and segment differences. Additionally, our distributors' sell-through data isn't available online, so being into the quarter means we still don't have complete information. This data accumulates over time. Currently, some European countries, particularly Italy and Switzerland, are exhibiting faster growth rates. Germany has been slow, but we expect it to pick up now that recent legislation has passed, based on some specific data I've seen. Italy and Switzerland are particularly noteworthy. Furthermore, the commercial sector is also showing faster growth in certain cases, based on how we track installation rates and sell-through. Although we're slightly more than a month into the quarter, I don't think we can provide much definitive information beyond highlighting the countries I previously mentioned.

Great. And on a related note, Zvi, you mentioned gaining market share through more innovation and more features in SolarEdge ONE software, particularly on the C&I side and also on the residential side going forward. We only see that R&D line item, which is $300 million on an annual basis. Could you talk about how you plan on gaining market share going forward, both in the U.S. and Europe? Is the strategy to be differentiated on the software side? Or are there more innovations on the hardware side that are upcoming that we don't fully appreciate?

No, thanks for the question. Hardware has been our bread and butter for years, and our expertise or the expertise of our R&D team in power electronics is a significant differentiator for the company. So it's definitely a core priority for us. As I mentioned, I gave the example in my prepared remarks of the next-generation 3-phase large inverter for the European market that is targeting a growing segment. There, we definitely plan and are in route to differentiation based on hardware with the traditional factors in mind of efficiency, cost, and all the capabilities around the interaction between the battery and the inverter. So that and a lot of the things that I didn't refer to in this conversation around safety that is coming from the optimizers where we are constantly introducing more unique safety features and again, completely on the basis of our hardware infrastructure and capability. That said, and when you refer to the R&D investments, definitely the ratio of software to hardware investment today is different than it was 4 or 5 years ago. Software takes a bigger portion because it is much more important to the customers from a world that used to be based on feed-in tariff where it just mattered how much electricity you delivered into the grid to a world today that is much more complex and self-consumption-oriented, which creates again another opportunity for differentiation, which we are focused on. We are definitely taking a balanced approach between the two but in historical perspective, it means that we're doing more in software today than we did in the past because we were always very heavily invested on the hardware side.

We'll take our next question from Christine Cho with Barclays.

I have one question. Last quarter, regarding gross margins, you stated that the single-phase batteries were affecting the gross margin, similar to this quarter. You also mentioned a higher percentage of customers receiving discounts and that you anticipated this to change. However, you didn't provide any comments on customer mix for this quarter. I'm curious to know if you observed any changes or if it remained consistent with what you experienced last quarter.

Thank you for your question, Christine. As I mentioned in my prepared remarks, we noticed a decrease in the ratio of customers taking advantage of the volume discounts, which offset the benefit of the additional batteries we shipped beyond our initial plans. This was indeed the situation. The surprise here was not the change in customer mix, which we anticipated; rather, it was the higher sales of batteries, which I consider a positive development from a commercial standpoint.

And it does appear that there are no further questions at this time. I would now like to turn it back to Zvi for any closing remarks.

Thank you, operator. And thank you, everyone, for joining us on our call today. Have a good evening. Thank you.

This does conclude today's program. Thank you for your participation. You may disconnect at any time and have a wonderful evening.