Barron's Wrongly Gets Sensational over First Solar's Earnings Beat

We are working on an analysis of First Solar (FSLR) for our clients, and have not finished our work, but we have done enough research to be able to say that Bill Alpert’s negative article in Barron's last weekend raised red flags for all the wrong reasons (subscription required for access to the Barron’s article).

Alpert charges that the Q2 “beat” was a “figment of bookkeeping.” FSLR’s Q2 revenue of $525 million, versus $459 million of consensus-expected revenue, beat the consensus by $66 million. $84 million of sales came from a German solar project, named Lieberose, and it is here that Alpert takes issue. Barron’s simply attributes the revenue to FSLR changing an interest in the project from equity to debt, but this doesn’t tell the real story.

What actually happened is that FSLR sold its modules to the project in Q1 and Q2. In Q1 there was a financing arrangement, understandable given the timing of the deal, whereby FSLR had put up a loan and had a right to make an equity investment. Under accounting rules, the presence of the equity right disqualified the Q1 revenue from being booked in Q1, and it was deferred. The company had told analysts of this fact and that the deferred revenue was excluded from its full-year revenue guidance of $1.9-2.0 billion and that it would be recognized if and when the accounting standards dictated. In Q2, the equity expired because the remaining financing was raised for the project, and so the company booked the $84 million revenue from the Q1 and Q2 sales.

Alpert doesn’t challenge the accounting rule that required FSLR to defer the Q1 sales nor does he indict the application of the rule that when the equity right ceased, due to sufficient funding of the project from other investors, FSLR had to recognize previously deferred sales. Are these sales real? Of course they are; the project exists; no dispute from Alpert here.

At what point, then, do these $84 million in revenue resemble a “figment of bookkeeping?” Alpert was way off-base with his characterization and he then goes on to raise a bogus issue with a new accounting standard SFAS 167, just issued on June 12, 2009, which takes effect after November 15, 2009, meaning that it will apply to FSLR 2010 reporting. (Alpert is so economical with the truth that he leaves out this timing.)

SFAS 167 was adopted in the wake of Enron to rein in bogus sales to entities under the control of the seller, or “variable interest entities.” Alpert cites FSLR’s general 10Q disclosure that sales to projects in which it has invested may raise issues under 167. Note that this is not a specific disclosure related to the Lieberose revenue, but a boiler-plate disclosure that all companies must make.

By Alpert’s transitive logic: the equity right in Lieberose is the same as a “variable interest” in a controlled entity and therefore must be what FSLR is talking about in its 10Q disclosure. Very sensationally, he connects FSLR to Enron by stating, “investor’s may well question whether the company-funded projects reflect natural demand for its products.” It’s a substantial charge given the magnitude of the fraud involved in Enron, and understandably raises fears, especially among non-accountants.

Is the right to an equity stake in Lieberose a “variable interest” in a controlled entity that allowed FLSR to pull the strings of demand enough to generate a Q2 beat? No. FSLR never had control of the project and panel sales were booked at prevailing, not inflated, market prices. Whether the project would exist but for FSLR’s financing, it is hard to say, but that doesn’t make the profits any less real nor does it trigger 167 scrutiny, even if 167 had been already implanted as Alpert falsely implied.

What about the issue of whether analysts were fooled into using revenue estimates that were too low? The company was pretty clear on its Q1 conference call that the guidance excluded some upsides and some downsides, the deferred revenue from Lieberose was an upside. The only criticism we would make of FSLR is that it could have included more disclosure in the earnings press release and thereby prevented about 5 or 10 minutes of ezcessive exuberance in the after-market after the press release was released and before the slides and conference call.

Here is what the company said on its Q2 conference call on July 30 as reported in Seeking Alpha’s transcript. (Contrary to Alpert’s implication, this was not buried in the 10-Q filing.)

Let me provide you with some additional comments on the Lieberose project. Revenue recognition was triggered by the closing of the project's third-party debt financing in the second quarter. First Solar only holds subordinated debt in the capital structure of it today and the expiration of any right to the project equity. Year to date, we have recognized $84 million of revenues representing approximately 80% of the total project revenue. The project is currently being marketed for our customer Juwi.

There are ample issues with FSLR that merit exploration and analysis, but the "Q2 revenue beat" is not one of them. Barron’s has egg on its face in our view. Barron’s also tried at the tail end of the article to raise an issue with FSLR’s purchase accounting treatment on OptiSolar, but since most readers can only tolerate so much accounting technicalities, and since Barron’s never made clear what it was objecting to anyway, we will refrain from commenting further.

Disclosure: E4 Capital holds no positions in FSLR or the Solar Sector.

Comments

[delbmarcs:]

If Barrons or anyone else in the US media understood how few companies have made technical innovations like fslr, they might be more thoughtful about superficially attacking them. But in a world where it is not a shame to be in the media and ignorant of what you cover, this will not happen.

Aug 19 04:15 PM

[Daryan:]

FSLR aside, Bill Alpert is nothing but a friend of certain shorts. His analysis on the LDK situation turned out to be nothing more than a ticked off employee...pathetic, yet he actually put those allegations in a mainstream publication and to this day, sticks by his journalistic integrity.

Aug 19 06:23 PM

[donutshoppe:]

Where Barron's is right is questioning what "closing third party debt financing" actually means. Lieberose is still actively soliciting for equity investors and debt investors where lined up at the beginning of the deal. Why was there a need to bring in another round of debt - if not for the sole purpose of allowing FLSR to recogize $84M in revenue? FSLR bragged on the Q1 call that this deal would generate a 20% IRR for 20 years - and within 3 months they are out -- without generating a gain? I estimate adding Lieberose added $0.50 to EPS in the quarter. So be wary of saying all is "OK" at FSLR.

Aug 19 06:32 PM

[ldker:]

Bill Alpert is 60% sensationalistic 40% fact. And the sad thing is he moves markets. Someone on Alpha should do an article on him and his coverage of the entire solar industry in which his timely negative articles often coincide with good news on any particular solar company.

Aug 20 10:20 AM

[Wisdom vs. ...:]

FSLR installation balance of system costs are much higher because the panels are so much less efficient than Si (around 60% generally); as Si gets cheaper, FSLR loses its cost advantage. this point has been reached and is indicated by FSLR's rebates in Germany. furthermore, FSLR panels are flimsy, i do not install them and i do not know anyone who does. just because someone is trashing FSLR does not mean they are anti-PV; I have been warning SA readers about the drawbacks of thin film and will continue to do so. most likely FSLR will be a marginal player or worse b/c it cannot compete with cheap Si; if FSLR can be a true alternative to Si then we will all benefit so i wish them the best, but that does not mean they are a good investment. anyone who tells you FSLR is likely to contnue to increase EPS does not understand PV technology

Aug 20 01:04 PM

[Chad Brown:]

Smartypantz, you are just using this thread to advertise your Wall Street Transcript product, which might be ok if the article had something to do with First Solar, but it did not and so you are off-topic. Seeking Alpha should police these trheads better to screen out your spam


On Aug 20 03:06 PM Smartypantz wrote:

> There is an interview with Philip J. McPherson, a Senior Analyst
> in the Energy Group at Global Hunter Securities, LLC., in which he
> discusses m&a and the oil & gas industry. He also talks about
> several companies, including CVX, MRO, and SSL. Here is a link to
> the interview:
>
> finance.yahoo.com/news...;.v=1

Aug 20 05:30 PM