As Expected, First Solar Disappoints

In late June, First Solar (FSLR) alerted analysts that the solar market is undergoing a major transition that will very likely squeeze the company's margins. Investors responded by continuing the selling that started earlier in the month. The stock finally found support at the 200-day moving average (DMA) (see chart below), and Sunpower's (SWPRA) surprise earnings report propelled FSLR a final 10% going into its own earnings report. All the post-analyst day losses were erased, the words of caution were long forgotten, and the thrill had returned. In preparing for First Solar's earnings report, I claimed that the news would disappoint:

I am also guessing there is a high chance that FSLR's earnings will disappoint based on the company's remarks from its analyst day. The market's reaction to disappointment will depend on the price of the stock. At $180 or $190, the stock should sell off dramatically. At $140 or so, FSLR could hang in there.

FSLR disappointed as expected, and the stock sold off as expected, but the path downward was wild. Traders first reacted positively to the headline news that FSLR handily beat expectations for last quarter. The stock gyrated wildly before topping out at $192 right before FSLR's guidance confirmed what the company had already indicated a month earlier. We just got more specifics: FSLR is offering rebates in the extremely important solar market in Germany and is actively responding with pricing to protect factory throughput.

The after-hours session finished with the stock at $167 or so, and by the close of regular trading the following day the stock was down another 8% to $154. (I posted my FSLR earnings-related trades on Twitter in real-time. I was pleasantly surprised that my entire set-up worked out so well). Now that the dust has settled from all the dramatic price action, FSLR is just right back to its price right before SPWRA reported earnings. However, hardened solar traders and investors should recall that last year it was pretty common for solar stocks to pop immediately following an earnings release only to get viciously faded after the initial excitement wore off. From a technical standpoint, FSLR has printed the dreaded "island top." The stock looks ready to resume the previous short-term downtrend and decisively break below the 200DMA.

Analyst reaction is all over the place on FSLR, but my own "fair value" target of $130 remains in place. I suspect there remains plenty of latent enthusiasm for FSLR's premium valuation to keep the stock from falling too fast from here. Additionally, the general market remains an important wildcard as further price increases could drag FSLR along for the ride as risk appetites continue to expand.

Regardless, polysilicon competitors have finally forced FSLR to defend its market share with pricing. Solar customers are well aware of the developing pricing dynamics and will likely do their part in maintaining downward pricing pressure. Today's pricing estimates could be completely undermined within months. FSLR has insisted that even under the most dire pricing scenario, it will retain the upper-hand. All this adds up to lower margins for everyone, and some major shake-outs, perhaps by year-end. It probably also means that FSLR will finally do a stock offering sooner than later to make sure it remains well-capitalized.

click to enlarge

I am next looking at Trina Solar (TSL) which reports sometime later this month. It is trading at 10-month highs around the $28.75 price for its recent public offering. Despite that, it has an attractive valuation at 1.2 price-to-sales, 2.0 price-to-book, and a 12 forward P/E. The Chinese appear ready to accelerate government largesse into its solar markets, making China-based solar companies more attractive than usual.

Energy Conversion Devices (ENER) sits at the other end of the spectrum. I tried to stay bullish on ENER last year, but gave up after September prices did not hold. ENER reports on August 27 and sports an attractive valuation of 2.0 price-to-sales and 1.1 price-to-book. However, the forward P/E of 21 does not account for the increasing business and product risks that its thin films division (United Solar) faces. Indeed, ENER's stock responded to FSLR's report with an 8% drop. The chart below shows ENER's overall downtrend. The stock made fresh 52-week and 5-year lows in early July, and I expect those levels to break again.

*All charts created using TeleChart

Be careful out there.

Disclosure: net short FSLR. For other disclaimers click here.

Comments

[jimp:]

Dr. Duru,
For the "long term," do you like Trina solar?

Aug 02 07:38 AM

[ECONOMICS 101:]

Thank you Dr Duru. Good insight.

Now we wait and see.

johnathanvrozos.com

Aug 02 08:42 AM

[Alphameister:]

No solar company is an island, as the island top in FSLR makes clear.

Aug 02 11:30 AM

[Jack Yetiv:]

In multiple articles I wrote last year, I opined that FSLR, ENER and SPWRA were overpriced, the first two because I believed that much-more-efficient poly-based panels would drop in price and begin to challenge the pricing advantage of thin films. That prediction has turned out to be correct--largely aided by the macroeconomic issues that has since come to pass.

When I wrote my articles in early 2008, my favorite stock was TSL, and that remains the case, although I think $28 is pretty close to fairly priced given the various headwinds that are facing the industry (macroeconomic headwinds as well as competition within the industry which will squeeze margins).

CSUN, SOL and SOLF may become decent plays, depending on what their earnings show in the next few weeks. Until then, I am not sure that the upside potential of any of the solar stocks substantially outweighs their downside risk (which it must be for me to want to invest).

DISCLOSURE: I do own some SOL and CSUN but got all my TSL called away from me at $22.50 after selling covered calls (at $1.65) against my TSL shares last month.

Jack Yetiv

Aug 02 02:20 PM

[Dr. Duru:]

Hi jimp,

I am not sure whether I like TSL for the long-term. I honestly do not know a whole lot about the Chinese solar companies. But based on the impressive short-term set-up on TSL, I am committing myself to learn more.


On Aug 02 07:38 AM jimp wrote:

> Dr. Duru,
> For the "long term," do you like Trina solar?

Aug 02 03:24 PM

[jimp:]

Dr. Duru,
Thanks for the reply.

Jack Yetiv,
Its been a long time... Have missed your presence on SA, especially your articles regarding the solar industry. Would love to see more articles/analysis. For the long term, still long TSL, SOL, CSIQ.

Aug 02 03:36 PM

[Mad Hedge F...:]

It still has to be on your long term watch listhe cost of solar is now down to ten cents per kilowatt hour,versus three cents for coal. But the Clean Energy Act of 2009 iscertain to make solar cheaper and coal more expensive. The industrywill face a completely new set of challenges gearing up from a fewrooftop panels on environmentalist rooftops to becoming a major portionof the US power supply. For a start, solar energy is most abundantwhere there are no people, because these areas were uninhabitable untilair conditioning came along. That means building a huge network ofpower lines from scratch, something that will require Federal EnergyRegulatory Commission (FERC) shepherding. Unlike other power sources,solar is highly variable, hour by hour and even minute by minute. Not aproblem when you are running a freeway sign, but a big problem whenrunning a large regional network, so “smart” grids will be the order ofthe day. The technology to do this on a large scale hasn’t even beeninvented yet. The ongoing credit crisis is a major problem, since onegigawatt of capacity will cost $800 million in capex. Nevertheless,this industry now has a huge global tailwind and should remainpermanently on your radar. Consider FSLR on the next big dip. For more,see my earlier piece .
t.

Aug 02 03:53 PM

[Jack Yetiv:]

Jimp,

It has indeed been a long time. Bought a crime-ridden, horribly-run, 346-unit apt complex last summer and for that reason and othyers, have been extremely busy since then. I did not do much in the stock market in the past year except sell calls against my various stock positions, and some of those call finally got exercised (on TSL).

It will probably be another month or two (or three) before I can re-educate myself so that I can write an intelligent article on the solar space.

Jack

Aug 03 09:30 AM