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Executives

Tom Werner - Chief Executive Officer

Dennis Arriola - Chief Financial Officer

Bob Okunski - Senior Director of Investor Relations

Analysts

Rob Stone - Cowen & Company

Sanjay Shrestha - Lazard Capital Markets

Amar Zaman - UBS

Satya Kumar- Credit Suisse

Burt Chao - Simmons & Company

Paul Clegg - Jefferies & Company

Vishal Shah - Barclays Capital

Jesse Pichel - Piper Jaffray

Steve O'Rourke - Deutsche Bank

Steve Milunovich - Banc of America Securities/Merrill Lynch

Tim Arcuri - Citi

Pavel Molchanov - Raymond James

SunPower Corporation (SPWRA) Q2 2009 Earnings Call July 23, 2009 4:30 PM ET

Operator

Good afternoon and welcome to SunPower Corporation’s second quarter 2009 earnings conference call. Today’s conference is being recorded. If you have any objections, you may disconnect at this time.

I would now like to turn the call over to Bob Okunski, Senior Director of Investor Relations at SunPower Corporation. Sir, you may begin.

Bob Okunski

Thank you, Ed. I’d like to welcome everyone to our second quarter 2009 earnings conference call. On this call, Tom Werner, SunPower’s CEO will give an overview of our Q2 performance, followed by Dennis Arriola, our CFO who will go into greater detail on our financials. Tom will then discuss our outlook for 2009. Following our prepared remarks, we will open it up for questions for the remainder of the call.

During today’s call, we will make forward-looking statements subject to various risks and uncertainties that are described in our most recent 2008 10-K filed with the SEC in February of 2009 and today’s press release with our Q2 results. Please see our 10-K and press release for those factors that may impact these forward-looking statements.

To enhance this call, we have posted a set of PowerPoint slides which we will reference during this call on the Events and Presentations page of our Investor Relations website. At the same location, we’ve also posted our standard supplemental datasheet related to our historical performance. As usual we will keep today’s call to one hour including questions.

With that, I’d like to turn the call over to Tom Werner, CEO of SunPower. Tom.

Tom Werner

Thanks Bob and thank you for joining us today. Our Solid results in the second quarter demonstrate the value of SunPower vertical integration and diversified market in channel strategy. We have been preparing for over four years to strive in the transition to a demand driven market.

In the second quarter our diversified channel and geographic footprint allowed us to capitalize on demand improvements in a number of important markets by adding 100 dealers globally, improving our market share position in important markets, financing commercial systems in the United States and substantially increasing our utility business with FPL Group Xcel energy and Exelon.

Before we detail our Q2 results, there are four things I wanted to take away from this call. First; execution, we beat our goals in the second quarter as our key performed very well in a difficult industry and macro environment. Since we went public we have consistently met or beat in our public forecast.

Second; technology, we continue to integrate watching our novel T5 commercial roof system. The most powerful roof top product in the industry today, our solar cells delivered the highest energy delivery per rated watt in the industry. We continue to invest to drive even higher cell efficiency.

Third; cost, we will demonstrate with a new level of detail that we are cost leader today, compare to conventional crystal and silicon and cost competitive within players and we are on a path with our roadmap that maintains our cost leadership into the future.

Fourth; our outlook, we have the balance sheet, demand visibility and operating capabilities in place to hit our 2009 guidance and to deliver strong growth in 2010 and beyond.

After reviewing our Safe Harbor statement, let’s start on slide three of our presentation available on our website, you’ll see that our second quarter results reflected the continued strength of our vertically integrated model and diversified market in channel strategy, specifically the quarter was characterized by strong execution as we met or beat our stated goals for the quarter.

We drove a 39% sequential increase in revenue base on expanding our global dealer network and executing our large scale systems commitments. We’ve reduced inventory by more than 20% as we transition to a demand driven manufacturing model. We signed a $100 million financing agreement Wells Fargo, the commercial rooftop market to address PPA demand and utilize the facility to finance two systems.

We increased our California market share, leadership in both residential and commercial markets and we delivered solid gross margins as we managed our ASP reductions over the quarter.

Our systems in utility scale backlog and pipeline continue to grow as customers look to SunPower to supply them with solar, the rooftops, the power plants. Customers choose SunPower for three reasons.

First; because of our experience, we offer our customers more than 15 year of turnkey system experience, improvement performance on four continents. We now have more than 450 megawatts of large scale systems installed or under contract.

Second; technology, we sell the highest efficiency panels in the industry and incorporate this technology into high performance, low cost systems technology like the T5 commercial roof system that we launched this quarter.

Third; return on investment. Our customers enjoyed strong ROI based on a competitive levelized cost of energy on our high performance solar systems. I will discuss these three attributes in greater details as we struck through reporting on our channels.

Our experienced, technology and return on investment are central to why we are well positioned for future success. In parallel, we have implemented strategies to improve our financial position, by raising $458 million of capital in our second quarter, reducing inventory by approximately $80 million, lowering our operating expenses by 5% since the fourth quarter of 2008 and by implementing our regional panel manufacturing strategy through our agreement with [Jabil].

Turning to slide four, let me touch on why residential and commercial customers chose SunPower. As you know, since we went public in 2005, we have focused significant efforts on building our global brand in dealer network. Our presence in the roof top market continues to expand. We added approximately a 100 dealers in the second quarter and our network now comprises approximately 600 dealers globally.

Residential and commercial dealers joined the SunPower network because they know that customer’s value are experienced, best in class technology and our superior ROI. Our advantage is that we not only offer our dealers the highest performance solar energy systems available, but also supply many value added services, including logistics, supply chain management, lead generation, training and financing.

In the roof top market, we saw a demand recover from a difficult Q1, a seasonality ease and customers move forward with solar system purchases. We grew our volume significantly in Europe and increased our already leading market share in California. In a large scale commercial segment, we demonstrated continue progress. We believe our $100 million agreement with Wells Fargo targeted at the PPA market is a witness test for the accessibility of private financing for large scale solar systems.

This facility is not dependent on stimulus funds being available. Two systems were financed under our Wells Fargo facility, as 1.1 megawatt project to the University of California, Merced and a 1 megawatt system for the Western Riverside County Wastewater Authority. Both projects are scheduled for completion this year and will use our high performance T20 tracking system.

In Europe, we saw improved market conditions as well, in our own construction on multi-megawatt systems in Italy as we speak. Finally we continue to see customer purchase systems outright, such as a 1.1 megawatt system which will use our new T5 roof system.

In the second quarter we also invested what we believe is the first comprehensive solar brand building and lead generation advertising campaign in North America. When people think solar, we want them to think SunPower. Those of you in San Francisco and Los Angeles, you will have most likely heard our radio commercials, due to our online advertising or seeing our bay area billboard and transit adds.

This campaign resulted in record lead generation as our customer lead increased 30% in the second quarter. We are encouraged by the results and believe that we will see a substantial return on this investment, and we expect to continue upon similar high return on investment campaigns in key markets.

Moving on to slide five; as you know the California Public Utilities Commission supplies weekly data related to the California Solar Initiative or CSI. Based on analysis of this publicly available data, our overall market share increased to more than 30%. We also increased our lead in the second quarter versus the first quarter as compared to the number two market participant.

As a reminder, we focus on installed systems for analysis, because many applications are being withdrawn or switched between suppliers. While it’s understandable to track applications to discern future trends, we focused on installed systems which is the most appropriate market share measure.

Due to the relatively complex categorization our commercial system completion as discussed in an article Photon International’s July issue by Garrett Haring, it’s easy to draw inaccurate conclusions. We will continue to work with many of you on how to access the full dataset, and answer any questions you may have.

We can confirm that SunPower has maintained leading market share in both the residential and non-residential segments of the CSI and with a strong initial feedback from our marketing campaign, we are well positioned to grow our business in the second half of the year. While we are on this side, let me comment on pricing.

As we’ve seen over the past several quarters, our product continues to command a premium average selling price. This is a result of our experienced technology and return on investment we offer our customers. Our channel strategy was designed for demand driven environment, gives us the ability to manage our pricing as a result of market conditions in long term strategy.

In the second quarter, we lowered blended ASPs less than 10% sequentially and inline with our forecast. Given that our dealer business is our shortest cycle business, we give real-time feedback on our customer’s behavior with respect to pricing.

Based on the most recent CSI data, we maintained our leading share of completed systems in California and gained share in the commercial segment. This results, as well as feedbacks from our dealers and sales teams around the world, give us confidence in our pricing models and methodology.

Now, let’s take a look at slide six, and how we are benefiting from our experience and performance in the utility and power plant market. SunPower has been at the forefront of solar TV power plant since 2004, when we built the first 10 megawatt TV power plant in Bavaria, Germany.

This combination of our industry-leading high efficiency panels and high-energy delivery trackers give us the capability to compete with peak wholesale energy prices. Just recently we surpassed 1 terawatt watt hour of solar energy generation across the 100s of large scale system that we monitor at our solar operation standard in Richmond.

The second quarter, we substantially completed our 25 megawatt installation for Florida Power and Light in Desoto County, and are preparing to install another 10 megawatts at the Kennedy Space Center in the second half of this year.

As the North American power plant market has taken off, we are also investing and developing the European markets, and we just announced our new head for the business in Europe, Gian Maria Ferrero who comes to us with decades of experience in the power and transmission industry.

We also continue to establish partnerships and win business with FPL Group, extending our relationship with them to power plants, both in and outside of Florida as well as with Xcel Energy in Colorado and Exelon in Illinois. We are driving the permitting process for our 210 megawatt power plant for PG&E in California, as well as transmission upgrades in anticipation of financing in late 2010.

Turning to slide seven; at the heart of our technology advantage, is our high efficiency solar panels built with the highest efficiency solar cells available today. We are currently producing mean cell efficiencies of 22.5%, but efficiency alone does not represent the full story on energy production. We are focused on delivering a competitive levelized cost of energy, which requires us to deliver superior performance in real world conditions.

On this map, you see the results of four independent tests in research centers around the world. The metric is energy delivery per rated watt, which tells you how many kilowatt hours you get relative to the peak watt rating of the panel.

These tests include results in low light conditions, high temperature environments and other real world operating conditions. SunPower solar cells have a number of unique features that together can provide more than a 5% annual energy performance advantage for our systems versus competing technologies.

This advantage is derived from several factors. Our cells run cooler than conventional cells, since we convert more of the sun’s energy to power. We offer a superior temperature coefficient, versus most technologies providing better temperature performance in all applications, particularly hot, sunny environments.

Our panels have no light induced degradation; most technologies experiences experience an initial and permanent degradation in performance of up to 3% or more during the first 100 hours of initial exposure to daylight. Our panels exhibit superior light capture and high angle performance, due to front and back surface architecture. This is helpful in all applications.

As you can see from the slide, our panels consistently outperform a variety of technologies, in a variety of light and temperature conditions. Demonstrated, measured, superior performance is another reason our customers choose to SunPower. Please see the Appendix for URLs that will link you to these studies.

Moving to slide eight, we are leveraging our high-efficiency solar panels with new products to amplify our superior energy delivery. For example, we introduced our industry leading 96 cell, 315 watt panel primarily for the commercial rooftop and ground mount markets.

Additionally, in the second quarter we launched our new T-5 product for commercial rooftops which allows SunPower to offer the broadest array of commercial and public building products in the market. SunPower offers the most powerful roof system in the industry today, up to twice the power per roof as compared to a conventional roof system.

It is also the industry’s first all in one, non-penetrating photovoltaic roof system that combines solar panel, frame and mounting system into a single pre-engineered unit. With its polymer construction, we eliminated the need for ground, which saves cost and installation time.

As an example of the speed and installation with the T5 system, one of our dealers recently installed a commercial system in less than 48 hours. Not only are we leveraging our technology for commercial roofs, we are continually improving the cost profile and performance of our tracking systems.

Reducing tracking costs is a key variable in driving a competitive levelized cost of energy. We now have tracking systems installed in six countries totaling more than 200 megawatts, and we are constantly improving the design of our trackers as well as the ease of installation. As a proof point, we can now install one megawatt per day in the field.

We are also ahead of our five year plan to reduce tracking costs by more than 50% since 2007. Finally, there has been lots of discussions and speculation in the past surrounding our tracking costs. We can now install our trackers at less than a 10% premium to a fixed tilt system, while driving up to 30% improvement in energy generated.

Turning to slide nine, we will now focus on costs which are linked to return on investment. In many markets around the world, our tracking power plants are competitive with peak wholesale energy prices. This slide shows 2008 market price referent or MPR in California. This is the administratively set benchmark for the California renewal portfolio standard, prices against which all renewal to hedge are compared.

The MPR is neither a ceiling nor a floor and is recalculated regularly to reflect current forward pricing for natural gas. Each time the MPR is set, a stream of forward values is calculated for contracts that start in the subsequent years. This chart shows the values for the 2008 MPR for 25 year contracts.

The MRP is adjusted to reflect the time of delivery for resources bid into the RPS request for offers and thus the price shown here is increased by 15% to 30%, depending on specific utility value for peak energy delivery from a resource like a tracking PV power plant. Tying this to our cost profile the central-station power plants is a good sign in the United States. SunPower is pricing competitively with the 2008 MPR price. That means, we are now competitive with our key substitute products; that being wholesale peak energy.

Let’s now move into manufacturing cost, as a component of LCOE. If you turn to slide 10, our panel manufacturing costs were less than $3 a watt in 2006. In the fourth quarter of this year, we will be at less than $2 a watt, with 45% of that costs being the silicon wafer. This is ahead of schedule relative to our 50% costs reduction roadmap.

We are also examining ways to reduce our silicon cost. Looking forward we have a clear technology roadmap that will enable us to reach a panel costs, under $1 a watt by the fourth quarter of 2014, with cell efficiencies of 25%.

Moving onto slide 11; let me translate our panel costs to our levelized cost of energy. Since LCOE includes a range of variables, a direct comparison between panel manufacturers, cost and production can be misleading. To aid in this analysis, this chart shows the benefits of our high sufficiency and superior energy delivery systems.

Specifically, buying a SunPower power plant means less balance of system and insulation cost, lower operations and maintenance costs, and higher energy delivery per watt installed. To translate, in order to compare our module costs to conventional crystalline silicon solar panels, you would need to deduct approximately 20% from our cost per watt at the panel level. In other words, our efficiency in energy advantage delivers a 20% benefit versus conventional technology at the system level.

To compare us to the range of thin films on fixed film systems, you would need to deduct approximately 45% from our panel cost per watt compared to a 10% panel and approximately 80% compared to a 6% panel. Thus our manufacturing cost structure is more than competitive with our competition.

With that, I’d like to turn the call over to Dennis Arriola, who’ll discuss our financial results in greater detail. Dennis.

Dennis Arriola

Thanks Tom and good afternoon. I’d like to start with slide 12, then begin with an overview of our financial results of the second quarter. As Tom mentioned, SunPower had stronger second quarter results and we had secured effectively on several different strategic priority, including our successful capital raise in May and our focus to improve working capital efficiency, including inventory levels. All segments of our business performed well and our positions were even stronger second half of the year.

Revenue in the second quarter 2009, was $298 million, a 39% increase from the first quarter of 2009. Recall that we had forecasted an increase of at lease 20% sequentially from Q1 2009. As we expected, we experienced a strong turnaround in the second quarter revenue from our components business, which mainly provides products and services for the residential and light commercial customer segments.

Revenue in this category was $189 million in the second quarter, up over 75% compare to the first quarter of 2009 and up over 68% compared to the second quarter of 2008. The strong revenue growth in components came mainly from our North America and German markets, with especially strong performance from California, where SunPower continues to be the market leader in both the residential and commercial segments.

We’re encouraged by the positive trends in the California market and expect to see further pay off in the second half of the year and beyond from our new marketing campaign that Tom mentioned.

Revenue from our systems segment was $109 million, and consistent with our internal plan. The majority of the revenues in megawatts installed were related to our Florida Power & Light contract. Through the second quarter, we’ve installed approximately 25 megawatts of Florida Power & Light programs and expect to complete another 10 megawatts in the second half of 2009. We’re also starting to see additional business opportunities in Italy, as the financing markets begin to loosen up.

Gross margins from the quarter held up fairly well, as SunPower’s superior technology and value-added services continue to command a premium to generic brand. Gross margin on a non-GAAP basis was 22.6% in the second quarter and was negatively impacted by approximately 400 basis points due to higher factory variances in the period, as we deliberately moderated our capacity utilization, in order to reduce our inventory levels and optimize our working capital investment.

In order to maintain our pricing premium in the market, we are working closely with our dealers around the world, to make sure that the services we provide them are valuable and competitively priced.

Operating income on a non-GAAP basis were over 130% in the quarter to more than $27 million, as we effectively managed our operating expenses and continue to invest in areas that will help the company grow further in the future. Operating expenses as a percentage of revenues fell from just under 19% in the first quarter to approximately 13.5% in the second quarter. On a GAAP basis, operating income increased to $10 million versus a loss of $2 million in the first quarter.

Other income and expenses on a non-GAAP basis improved in the quarter to a loss of $1.3 million, from a $7.6 million in the first quarter. The improvement was mainly driven by lower foreign exchange volatility and negatively impacted by the additional interest expense related to the $230 million of 4.75% convertible debentures that we issued in the second quarter.

On a GAAP basis, other income and expenses included a one-time non-cash, non-taxable benefit of $21 million, related to our convertible debt issuance and all spread over the live strategy. This mark-to-market accounting benefit resulted for a new accounting rule implemented in 2009 and is not expected to have any recurring impact to the company’s financial statements.

SunPower’s non-GAAP effective tax rate in the second quarter was 23%. On a GAAP basis, the effective tax rate was 16% and was positively impacted by the $21 million non-cash, non-taxable benefit I just mentioned. Looking forward, we expect our full year 2009 non-GAAP tax rate to be in the range of 22% to 25% and the GAAP tax rate to be in the range 40% to 45%.

For the second quarter of 2009, SunPower reported net income on a GAAP basis of $24 million or $0.26 per diluted share and on a non-GAAP basis, net income was $23 million or $0.24 per diluted share. The first year results included the effect of the capital raise completed in May. The GAAP and non-GAAP reconciliations to our financial presentation are included in the appendix of our slides on SunPower’s website.

You can turn to slide 13, I’d like to now spend a moment on our balance sheet. In an offering that we completed on May 5, SunPower made the strategic decision to further strengthen its balance sheet by issuing $458 million in equity and convertible debt securities. The market responded favorably to this capital raise, as a result we finished the quarter with nearly $700 million in cash and investments.

We have already used a portion of our cash to retire at a discount approximately $73 million of convertible debentures that could have been put back to the company in 2010. We will continue to evaluate when to retire the company’s maturing convertible debentures in a cost effective manner.

Given the difficult economic environment, we are paying extra attention to the aging of our accounts receivable. Overall, I’m comfortable with the quality of our receivables, and we have not seen any material increase in our bad debt reserves. As for inventory, we indicated in the first quarter earnings call that we were shifting to a demand-driven manufacturing strategy, and would therefore optimize our inventory position.

I’m pleased with our execution so far, which has reduced our inventory level from $343 million at the end of the first quarter to $263 million in the second quarter. We still have a lot of work to do in working capital optimization, but we are definitely headed in the right direction.

Let’s turn for a moment to the financing environment. Overall, the financing markets remain tight, although we are definitely seeing some signs of improvement. A great example is our recently announced $100 million commercial financing facility with Wells-Fargo Bank. Through this arrangement, we are already constructing SunPower solar systems for several of our customers and expect to add more in the second half of the year.

This financing vehicle will help SunPower utilize its long term capital resources more effectively and provide our customers with a cost effective way to finance their energy systems. It will also help us build an annuity revenue stream, as the underlying power purchase agreements are 15 to 20 years in duration. The power of this structure is that SunPower is repaid nearly all of its cash costs when the construction of the project is completed.

We also build a long term revenue stream for the future. We are also working on additional financing facilities for the residential and light commercial market and hope to have these in place in the second half of the year. In Europe, we are also seeing signs that the financing markets are continuing to open up, particularly in Italy. We plan to see additional business from Italy in the second half of the year, as our customers work to finalize permanent financing for their projects.

On a limited basis, we may consider arranging or participating in the construction financing of some smaller projects, if our customers are well down the road to finalizing permanent financing, and the returns are available. On the federal side, we are pleased that the US Treasury has issued its rules surrounding the cash grant portion of the investment tax credit program.

We believe that the ability to utilize a cash grant, along with the highly anticipated Department of Energy’s loan guarantee program, will further open up the financing markets in the United States.

Our capital expenditures plan for the year remains in the range of $250 million to $300 million and year-to-year were in a $112 million. The majority of the expected spending for the remainder of the year is related to our new Fab 3 in Malaysia and the resources to fund the 2009 expenditures will come from a RMB 1 billion Malaysian loan.

Overall, we’re pleased with our second quarter results, but we also recognize that we have a lot of work ahead of us in the second half of the year. As Tom will explain further in a moment, we’re growing more confident daily that we can deliver the financial results consistent with our revenue and earnings per share guidance, in spite of the challenging economic and financial environment.

Going forward we will continue to focus closely on improving our cost structure and working capital optimization. We will also continue to invest in research and development, so that we can maintain superior technology in products. With our strong balance sheet and superior technology, SunPower has the resources and products at customers’ desire, especially in these uncertain times. We have all the tools necessary to win in 2009 and beyond.

With that, I’ll turn it back to Tom.

Tom Werner

Thanks, Dennis. Now, I’d like to turn to our guidance for the remainder of 2009. Given our strong second quarter results and our visibility into the second half of the year, we are increasing SunPower’s full year revenue to a range of $1.35 billion to $1.7 billion, from our previous range of $1.3 billion to $1.7 billion. Let me spend the moment on the drivers impacting our revised revenue expectations before I go into our earnings per share guidance.

As Dennis and I mentioned in our comments, we’re starting to see additional positive momentum in our residential and commercial business segment, especially in California. We’re starting to see the dividend from our marketing campaign in California, which is helping to strengthen our leadership position in the state.

In addition, the growth in our dealer network both domestically and in Europe, should provide additional revenue opportunities later in the year. We’ve also made a concerted effort to enhance our market position in both Germany and Italy, where we’ve already commenced adding more resources to our sales team.

On the system side of the business, we have set a high degree of confidence in our ability to reach our internal revenue plan based on projects currently being constructed like Florida Power & Light. In addition, we have a highly visible pipeline of sizable deals in both North America and Europe that we expect to close in the third quarter and construct before the end of the year. While some of these deals could get delayed until the fourth quarter, we are far along in both negotiations and the financing process.

We also expect in both some additional businesses here using the Wells Fargo facility. Although transactions finance under this facility, we receive deferred revenue recognition will not be included in our 2009 revenues. As a result, we expect third quarter revenue increased 40% sequentially compared to the second quarter of 2009 and non-GAAP earnings per share growth of at least 40%.

As far as ASPs, our revenue range has modeled to incorporate decreases of up to 15% in the second half of the year. We expect to maintain or potentially improve our gross margins in the second half of the year, as we increase the capacity utilization in our FAB, factoring planed price reductions in our poly contracts and leverage our scale facilities.

Our revised non-GAAP earnings per share guidance of $1.15 to $1.60 is consistent with our previous guidance as we adjust for the new shares outstanding from May capital raise. Earnings per share on a GAAP basis, are expected to $0.45 to $0.90 including the impact of $0.21 per share of one-time items previously mentioned.

Okay, I’d like to open the call now to questions. With me I have Howard Wenger, our President of Global Business Units; Peter Aschenbrenner, our Vice President of Corporate Strategy and Julie Blunden, our Vice President of Public Policy and Corporate Communications, and finally, Bob Okunski, our Senior Director of Investor Relations. So they can answer some of the questions with me.

We have a little less than 25 minutes. We do plan on ending on time, because we know many of you need to get on another call at 2:30 Pacific time. So please limit yourself to a question, and maybe a really, really fast follow up question, since I haven’t done a good job of holding you to one question previously. So let’s go ahead and start with the first question, please.

Questions-and-Answers Session

Operator

Your first question comes from Rob Stone - Cowen & Company.

Rob Stone - Cowen & Company

Could you comment on your price expectation up to 15% in the second half, do you see that mostly in view now in the third quarter or are you baking in something more that you haven’t seen yet in the fourth quarter?

Tom Werner

No, Rob I would say it’s a combination of the two quarters and I think we’re in a great position to have a sense for that pricing dynamic, because of our forward integrated with our dealers, and that gives us great visibility into the customer dynamic. It also allows us to match our aggressiveness on pricing, our cost reductions well with what we expect on pricing. So, we feel like we are in one of the best positions in the industry to have a sense of where that’s going. I guess the short answer to your question is our sense is that would be divided between the two quarters.

Rob Stone - Cowen & Company

So with good visibility on pricing, what is it that accounts for your range of revenue expectations? What are the puts and takes?

Tom Werner

Let me just answer that really quickly and I think Dennis can add some color. As we mentioned in our prepared remarks, we have a number of projects or what we characterize I think as deals that are deep in negotiations and deep in financing. Over the last few quarters, the timing of when those complete has been a little more difficult to predict. So that’s what’s built into our range. Dennis, did you want to add something?

Dennis Arriola

Yes. I’d just elaborate a little bit. Three things, as Tom talked about, the pricing, you have the financing as Tom said and as I said in my comment, we are actually pretty well along the way on these and there could be some slippage from one quarter to next, but obviously if the closing of the deal doesn’t happen until the fourth quarter then we probably won’t be able to get much construction done in the fourth quarter.

So that impacts, what we can deliver in 2009. Then obviously, a big part of our business as well is our residential and light commercial, which is a high turn’s business. So far, we’ve seen really good momentum coming out of the second quarter, which gives us confidence, but those are really the three main drivers.

Operator

Your next question comes from Sanjay Shrestha - Lazard Capital Markets.

Sanjay Shrestha - Lazard Capital Markets

One more follow up on that range question, if I may. On the revenue side, does the high end of that range take into consideration that we have to see the release of DOE loan guarantee money or we have to really see, pretty much expected movement on the Treasury’s grant program or those are additional, if that those were to happen, some time during let’s say Q3 or Q4 2009?

Dennis Arriola

We are not expecting to see any material benefit from the loan guarantee program in 2009.

Operator

Your next question comes from Stephen Chin - UBS.

Amar Zaman - UBS

Hi, this is Amar Zaman calling in for Stephen Chin. Just to go back on your utilization, how should we think about your utilizations ramping back up in the second half of the year?

Tom Werner

I’ll let Dennis take that, and apologies Sanjay for changing your name, but Dennis?

Dennis Arriola

As far as the utilization, it has already started ramping up based upon the demand that we’re seeing, both on the residential and on the system side. So, what you could think about, in the second quarter we were be below 50% and we are creeping up based upon the demand that we are seeing.

Operator

Your next question comes from Satya Kumar – Credit Suisse

Satya Kumar- Credit Suisse

Tom, I appreciate the two new slides you had on cost, I think it is very helpful and goes a long way in thinking about SunPower. I have two questions. What is going to drive the decline in your costs from the $2 level at the end of 2009 to the $1 level in 2014, given that your efficiency is already very high, silicon costs are low, and your factory is fairly well ramped in Asia. That’s the first part of the question. The second part is that you said that there’s a 45% cost benefit for using SunPower compared to a 10% efficiency panel.

That implies that there’s a $0.90 cost benefit based on your Q4 power costs. If I look at the leading capital company, they claim their VOS is $1.40 now, and if I look at a SunPower panel with the leading company, capital company’s VOS, I should have a VOS of $0.50 if I combine the two, which doesn’t make sense. So, I was wondering if you could expand a bit more on what I am missing between those two arguments.

Tom Werner

I will take first part of the question and ask Peter to take the second part. He may need a little clarification, but I think we will take a shot at both of them here real quick. The first one is quite straightforward, frankly. We are shipping a 22.5% cell, we think we can get 2% to 2.5% more out of that, which is another 10% cost reduction across the entire value chain for making a module; that is significant.

Obviously that’s the case, because every solar manufacturer that exists is working on improved conversion efficiency. We still have room in terms of silicon utilization, and we think that can be significant, actually. As we scale our business, we had significant materials cost reduction opportunities that you will see talked about over the relative near term.

Also, we are seeing great improvements in yield, and a combination of those things, plus the last thing I would say, as we have got some interesting designs, which you will see come out from us as well, that reduced cost and the investment we’re making in research and development I think it’s going to give us a real advantage on the cost side. I won’t give you a sense of timing other than to say it’s certainly within the timeframe that we conveyed on our slide. The second part of your question, I think Peter will take.

Peter Aschenbrenner

Satya, this is Peter Aschenbrenner. Actually, I think the missing element in the calculation and we don’t have time to go into it in detail right now, but I think the missing element is the tracking piece. So, when you’re comparing a relatively low cost per square meter lower efficiency thin film panel typically installed on a fixed-tilt system to one of our systems, you have to add somewhere between 25% and 30% more energy.

What you would, in the calculation that you mentioned, you would essentially multiply the VOS advantage for the fixed-tilt system to include that factor, and then hopefully the math should work. So maybe we can we can follow up with you offline on that.

Operator

Your next question comes from Burt Chao - Simmons & Company.

Burt Chao - Simmons & Company

Just a quick question on the U.S., kind of the global market demand environment and how that ties into ASPs? I know there’s been a lot of improvement here in the U.S., and you did touch on that earlier in the Q&A, but what do you foresee from a market sizing standpoint as far as opportunity overall, and then SunPower obviously can gain probably a bigger share than some other players in the U.S. market?

What do you see that as the opportunity in the next couple of years? Then also how does that affect kind of ASP development maybe in the back half of this year and also next year, because I think it’s kind of 50/50. Some people think it will stabilize, some people think it will kind of fall through the floor as well.

Tom Werner

This is Tom. Howard is going to answer most of that question. Let me just give you a couple of bullish comments. We fully expect to you disproportionately capitalize on the United States market growth for sure, that would be both residential or I shouldn’t say both, all residential, commercial and utility scale projects, of which you can see significant growth in each of those markets. So I think it’s a really good question. In terms of broadly speaking size of the market, ASPs so, let Howard comment a bit more.

ASPs, have changed quite a bit in the last six months. So you could say everybody has been right or everybody has been wrong, frankly, because the change has been so significant. You do presuming the companies don’t want to sell below cost, I think you see a natural break point, and there’s been a lot of estimates of companies’ costs, I think you have a pretty good idea of what our costs are now, and I expect we have a pretty good idea, it’s a very good idea of other people’s costs.

So that’s and the behavior of solar manufacturers, so I think that will give you some sense of what’s going to happen. Howard, perhaps you can add some comments.

Howard Wenger

So the U.S. market, we’re talking about is one of the largest markets in the world now, certainly one of the fastest growing, and many think will ultimately be the largest market in the industry over the next few years, and it’s great that we have a leading share in that market and growing it. As far as ASPs it is getting more competitive, I would say more players in the market, but what is differentiating SunPower is our product. We have a clearly differentiated product.

Our marketing, as Tom and Dennis talked about in their comments, and also our very extensive dealer network, which we backup with services and such as inventory management, delivery, training. All the things that we need to do to ensure an excellent customer experience. Those things are differentiating us in the marketplace and enabling us to maintain and actually increase share.

Per our plan, reducing pricing overtime, this is good because there’s price elasticity. So as we reduce price, demand actually increases. So that’s by design and the policy is designed that way as well, so you have decreasing incentives, decreasing pricing, increasing demand, all good.

On the commercial side, I’ll just comment on commercial utilities because those are important parts of the U.S. market. On the commercial side with the Wells facility, that certainly gives us a lag up and so we go into the second half of the year and into 2010. So we believe that’s going to be material to our leadership position. On the utility side, I think we talked about that because it’s clearly one of the biggest opportunities in United States for larger scale and distributed power plants, and we’re well positioned there.

Operator

Your next question comes from Paul Clegg - Jefferies & Company.

Paul Clegg - Jefferies & Company

On the $2 per watt cost by the end of 2009, what sort of silicon or wafer price are you using in that assumption? If you can’t tell us that, would you say whether or not you need additional reductions in your contracted silicon prices to get there, above what’s already built into your contracts?

Tom Werner

Yes, this is Tom. I’ll answer the question. First, it’s less than $2 a watt. Second, it’s 0.45 times in that number. Third, we are working with our silicon providers in a very productive way, because we still have a lot of additional silicon we’re going to purchase, and that puts us in the position to work, proactively with our silicon providers, while lowering costs. So I think that answers all of your questions.

Paul Clegg - Jefferies & Company

The 0.45 refers to just silicon costs, not wafer costs?

Tom Werner

It’s the wafers. So that includes the wafer, ingot growing and polysilicon.

Operator

Your next question comes from Vishal Shah - Barclays Capital.

Vishal Shah - Barclays Capital

Tom, in your lower end of the revenue guidance, full year 2009 guidance implies relatively flat Q4 revenue growth. Can you maybe talk about your assumptions between the components and systems business in Q4, especially as you get into a seasonally weak different industry? Secondly, just in terms of your costs, can you maybe help us understand, how your costs are going to look like in the second half, as you’re expecting 15% ASP reduction and margin expansion during the same period?

Tom Werner

Sure. I’ll comment, and then either Dennis or Howard, if you want to add on, that’s great. When we look at Q4, I’m not sure we see it as a seasonally weak quarter. Frankly, it’s traditionally been a seasonally strong quarter.

We do have Julie Blunden, who has got a team of people with herself that are quite on top of the market. So we’re certainly keeping track of them like industry dynamics, but our senses it’s not necessarily a seasonally weak quarter. I know that’s in difference to some other people are saying. We’re not seeing, what they’re seeing.

In terms of the balance of systems in what we call residential and light commercial business, otherwise known as components. I think we see a reasonable balance between the two, which is in difference to the first two quarters, which means that our systems business is growing quite a bit in the second half, and particularly in the fourth quarter; which is good news because that’s pipeline business and you have visibility into what you’re planning to build.

In terms of costs, we commented in our prepared remarks about maintaining improving gross margins, so I think that answers your questions about costs, it means that costs will keep pace or faster than the ASP decline that we projected. Did you want to add anything?

Dennis Arriola

This is Dennis. I think the only other thing I would add is you should remember that in 2009, and in the fourth quarter, we’re operating under a 53 week year, so there is an extra week of revenue that we’re picking up in the fourth quarter.

Vishal Shah - Barclays Capital

Thank you. I just wanted to also on the costs side, I wanted to just make sure that your silicon costs it looks like are already below spot pricing, so is cost reduction going to mostly come from the non-silicon side, or are you looking at even further silicon cost reduction?

Tom Werner

If you do the math on our silicon costs, they’re actually higher than many analysts had projected, but nonetheless you obviously have done that math and have a sense for what it means and yes, is the answer to your question, we expect silicon costs to come down continuously, and that’s built in. Now, the non-silicon conversion comes down, at least fortunately and that’s driven by primary two factors, that’s utilization and yield improvement.

Operator

Your next question comes from Jesse Pichel – Piper Jaffray

Jesse Pichel - Piper Jaffray

Jesse Pichel from Piper Jaffray, hello Tom and team, congrats on a stronger than expected quarter and guidance. You said systems are growing in Q4 from Q3; do you think components will grow as well and part B, while the advantages SunPower are very clear, the difference in pricing between your panel and a tier 1 China panel has never been greater and I would just like to know what is your dealer network saying about potential share gains from China and how should we think of the appropriate SunPower premium to these tier 1 Chinese brands for a rooftop application, not necessarily a tracker application? Thanks.

Tom Werner

I will take a pass, and then if either Howard or Dennis want to add on, that’s great. The question of few week components growth, so with a 15% decline built into our modeling in ASPs, the answer is in megawatts, yes definitely, in fact I think we grow beyond that, and this will get the premium question as well.

The way we work with our dealer network, is a much deeper relationship than just the phrase dealer network. As we mentioned in our remarks, there’s financing, lead generation, supply chain logistics, et cetera and that puts us very, very close with our dealers, partners with our dealers, which gives us a real sense of the end customer, is thinking about pricing and how they’re making that decision and that allows us to match and manage directly on our cost reductions and our aggressiveness on cost reductions, as well as our strategy on pricing.

Now, if our dealer network hasn’t gotten to a point where they say, you know what, you’ve lowered price enough and we can sell systems infinitely. So, many of the dealers of course are either happy or pursuing lower pricing, but as you saw from the statistics, the model is working.

Now the last thing I would want to say is some people have calculated the premium off of a rumored spot price and they’re using prices that in fact in some cases, I think are real, but I think those are one time end-of-quarter or one-time large quantity prices. I think you have to be careful with that and I think you also should consider comparing those against costs and see how sustainable that is.

Having said that, I think it’s a very fair question and I think it’s a combination of those things. Jesse, I hope that helps. Jesse, do you want to follow up at all?

Jesse Pichel - Piper Jaffray

Yes, maybe the follow-up is can you talk about the utility megawatt backlog, you expect to realize in the second half or what’s the range of that backlog?

Tom Werner

Sure. I will make a quick answer to that because we are starting to run out of time and we will try to get to a few more people. What we talked about last quarter is the pipeline and I just give you a color on the pipeline that it’s gotten better and perhaps by hundreds of megawatts.

Bob will work with you on what is the best way to track that business and communicate that business, because there’s some challenges with the pipeline metric, but positive and growing and think hundreds of megawatts is how I would think of it.

Operator

Your next question comes from Steve O'Rourke - Deutsche Bank.

Steve O'Rourke - Deutsche Bank

Couple of question, did demand in Q2 live up to the expectations you had early in the quarter? Second, could you comment on how you are looking at and planning for 2010 from a broad demand perspective?

Tom Werner

Demand was better than we expected in most regions. I would say there were a couple of spot agreements or deals that in the ideal perfect world would have come through in the second quarter, but generally speaking demand exceeded expectations. When we look at 2010, frankly the way this year has gone. We weren’t real happy with our first quarter, we’re very happy with our second quarter. So we’re a little low to get, too far out in front of ourselves and be real aggressive with our 2010 comments.

Having said that, we couldn’t be more positive of about the pipeline of products coming out of our research and development team going into 2010, we think we extend our lead. So we go into 2010 very aggressive and from what we can control very positive. Steve, did I answer your question?

Steve O’Rourke - Deutsche Bank

It did, thank you. One quick follow-up if I could. How much would you consider allocating to construction financing of projects over the year?

Tom Werner

I’ll let Dennis to answer that question.

Dennis Arriola

Steve, I don’t know that we have a magic number in mind. I think, we look at it on a project-by-project basis, and we just want to make sure that we’re not stretching our balance sheet. So no magic number, but we’re going to be prudent about it.

Operator

Your next question comes from Steve Milunovich - Banc of America Securities/Merrill Lynch.

Steve Milunovich - Banc of America Securities/Merrill Lynch

Can you comment on price elasticity? I think last quarter you were indicating that, it wasn’t really worth cutting prices more given the market, but Tom has referred to price elasticity. Are you seeing that now finally or is it more an expectation for the future?

Howard Wenger

This is Howard and I’ll answer that. We’re seeing that now in the marketplace with the economy and customers. I wouldn’t say sitting on the sidelines, but making decisions and it’s certainly influencing it. We are very mindful of our competitors pricing and what our dealers need to win. So we are making adjustments accordingly.

Tom Werner

Steve, you can imagine that the fantastic return you get in California, if you buy a solar system today, given the changes in the first half of this year, compared to some of the time in this type, cost of power. So we’re clearly getting into a zone where the economics are very easy to communicate with the customer base.

So you’re seeing some elasticity, no question about it and I think you’re in that range. You start to question, whether sort of dropping prices regardless has a meaningful impact. So again, we partner with our dealers and we work together to make those decisions.

Steve Milunovich - Banc of America Securities/Merrill Lynch

Then on the advertising campaign, can you talk about how much your spending on it or at least the kind of direction, and will it be noticeable in your SG&A spend?

Tom Werner

I can tell you that I get to talk to the Chief Marketing Officer frequently about that topic. I don’t think it’s a meaningful number in our overall total operating expenses this year. Meaningful meaning it’s nowhere near, so anywhere near double digits in terms of percentages of OpEx. It’s way below that.

Now, our Chief Marketing Officer, who we are very proud to have used to run marketing for Visa and knows-how, if you roll out these kind of campaigns in a very targeted way. So that has something to do with the cost. Let’s limit this to one maybe two more questions, so that we honor people’s time. They need to go to other calls. So we apologize to people who didn’t get their question in.

Operator

Your next question comes from Tim Arcuri - Citi.

Tim Arcuri - Citi

First of all, Tom, can I assume that basically all of the systems business was your own captive modules? Then second question, if I look at your revenue guidance, you have to come up with $125 million in September versus your, June revenue number and then another $175 million in December to hit sort of the midpoint of your full year guidance. I’m wondering of those two numbers, how much of that has to be on the residential side?

Tom Werner

Sure. I’ll comment on both and I think Dennis will correct me on the second one or hone me in. The first one is, meaningfully, yes. We did use some third parties, but meaningfully it’s SunPower provided material and when I say meaningful, if you were to use conventional rounding techniques it will be close to 100%.

The second answer to your question is the systems business accounts for a majority of the revenue increase. We are counting on some increase in what we call our residential light commercial and components business. Dennis, do you want to comment further?

Dennis Arriola

No, I think you are right. The majority of it from the second quarter to third quarter will be from the systems.

Tim Arcuri - Citi

Then also from third to fourth quarter, Dennis?

Dennis Arriola

Yes, third to fourth quarter, we are going to see more contribution coming from the residential and light commercial components.

Tom Werner

So, I think you see small increase in RLCC in Q3, and a little bit larger in Q4.

Operator

Your last question comes from Pavel Molchanov - Raymond James.

Pavel Molchanov - Raymond James

You’ve previously stated that you have U.S. utility pipeline of at least 1 gig of projects. Can you give us an update on that?

Tom Werner

Sure. This is, Tom and I’ll do that quickly in case you have a quick follow up. We actually said 1.3 and the color I gave it was, I think it as getting better and think of it in terms of hundreds of megawatts.

The last comment would make is please work with Bob, because we think there’s probably better metrics for tracking our utilities business in general. So, as we work our way towards the next call, we will probably transition to other metrics.

Bob Okunski

Okay. We really appreciate everybody’s time today, and we appreciate your support. We look forward to our call in the third quarter, which is in October, and thank you very much for your time.

Operator

At this time that will conclude today’s conference. You may disconnect, and thank you for your attendance.

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Source: SunPower Corporation Q2 2009 Earnings Call Transcript
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