What is common between Guggenheim Solar ETF TAN, Market Vectors Solar Energy ETF KWT, and SunPower (SPWR)? All three have appreciated more than 100% on account of investors' positive market sentiments towards the solar industry. The first two are solar ETFs, with appreciation of 142% YTD and 100% YTD, while SunPower has posted an appreciation of 436% YTD. SunPower is among the leading solar panel manufacturers in the U.S., and it has been benefiting from growth in panel demand.
High efficiency key to the growth
SunPower is known for high efficiency polysilicon solar panels, which convert sunlight into electricity. This is an important factor for the company's price differentiation compared to other silicon panels. The company charges a premium for its solar panels, despite silicon panels prices being at a record low due to oversupply by Chinese manufacturers.
The company holds the world record for solar cell conversion efficiency of 24%. This has been an important growth driver for its solar panel business and has helped it target markets like Japan. Japan's solar panel market has high demand for more efficient solar panels. The country is a key market for SunPower, and due to the robust demand, the company's Asia Pacific region sales were up by 63% year over year in the third quarter. Japan is one of the fastest growing markets for the solar panels, and it's one of five countries to have 10 gigawatt, or GW, of cumulative Photovoltaic solar capacity. The country is trying to diversify its energy mix with renewable sources of energy.
In addition to Japan, SunPower reported strong growth in the Europe, Middle East and Africa, or EMEA, geographical location with 36% year over year revenue growth in the third quarter of this year. This growth was due to improving market conditions, especially in the European region, where the market has started stabilizing after the fall in demand in past few months. This recovery has been important for the company, as there has been good demand for high end SunPower solar panels in Europe.
Due to the strong demand for solar panels, SunPower announced in the third quarter that it will expand its capacity by 25%, or 350 megawatts, or MW. We believe that this capacity expansion will help fulfill the rise in the global demand for its solar panels. Both Japan and Europe are important regions for SunPower's long-term growth.
Positive Third Quarter Result with Better Margin
During its third quarter results, the company posted a net profit (GAAP) of $108.4 million, as compared to loss of $48.5 million in the third quarter of 2012. It achieved this strong bottom line growth despite having revenue growth of just 1.3% year over year in the third quarter. This proves that the company has made significant improvement in the operating margin on account of its restructuring initiatives. Its operating margin for the third quarter was 17.34% compared to the operating margin loss of 11.41% a year ago. SunPower approved cost reduction restructuring initiatives last year, which included removing 15% of the workforce by the first half of 2014. These initiatives resulted in a better EPS guidance ranging from $1.30 per share to $1.50 per share, as compared to its previous outlook of $1 per share to $1.30 per share.
One of the important highlights of its third quarter result was the strong revenue growth from its solar projects, mainly from North America. SunPower is building two big solar projects, i.e. Solar Star Projects (579 MW) and California Valley Solar Ranch, or CVSR, (250 MW).
CVSR is a 250 MW photovoltaic solar electric system, in which the electricity sold will be sold under contract to Pacific Gas & Electric (PCG), for achieving the required energy delivery requirement of this utility company.
Solar Star Project is a 579 MW solar installation that began in early 2013. This project will deliver enough electricity to power approximately 400,000 homes when completed in 2015. These projects are on track with the revenue recognition from California Valley Solar Ranch to be realized in 2014, while Solar Star project revenue will be realized in 2016.
We believe SunPower's solar project will provide long term growth to the company's topline, and it will also drive the performance of the North American market.
Competitive environment in the solar panel industry
The world solar panel market is dominated by Chinese manufacturers, which control the majority of key solar panel markets globally. Unlike other major markets, Chinese players have been lagging behind domestic players like First Solar (FSLR) and SunPower in the U.S. This situation has gradually changed with Yingli Green Energy (YGE), the world's largest solar panel manufacturer, taking the market share of domestic companies like SunPower and First Solar in the U.S. As per a recent NPD Solarbuzz report, Yingli Green Energy is expected to post another record quarterly module shipment, thus increasing its 12-month shipments to 3 GW.
Chinese solar module manufacturers have been suffering from the fall in the prices of panels due to market oversupply. However, in past few quarters there has been a rise in demand, especially from Asian countries like China and Japan. Module prices have now stabilized, and with the demand growth, Chinese manufacturers are again making their mark with increased capacity utilization and improved margins.
Leading the race is Yingli, which has a dominant position in three of ten key markets recognized by NPD Solarbuzz. The company posted third quarter revenue of $596.3 million, up 63% year over year. Although the company posted the net loss of $38.5 million, it has maintained its 2013 shipments guidance of 3.2 GW to 3.3 GW, which represents growth of 39.4% to 43.7% year over year.
Other than Yingli, SunPower also faces tough competition from its domestic counterpart First Solar, which is the largest solar module supplier in the U.S. First Solar the only U.S. company competing against the Chinese players at a global level. Unlike SunPower, First Solar manufactures thin film solar panels made up of Cadium Telluride. This type of solar panel gives the company a price advantage over silicon panels for attracting new contracts. Although it has a lower sunlight conversion efficiency level compared to silicon panels, the company is developing its technology to increase its efficiency and maintain its price advantage. First Solar posted 51% year-over-year revenue growth in the third quarter. This strong top line growth was because of its strong project order book. Therefore, due to its strong project book, First Solar is expected to maintain its market share, thus giving tough fight to Chinese manufacturers.
SunPower might have lost its second position in the U.S. market to Yingli, but the company has a strong project pipeline, which will help sustain its business growth in this competitive environment. SunPower has a sound vertically integrated business model across the value chain, which will help it capitalize on the current solar panel market opportunity. The company stands attractive in the valuation metric, as its forward P/E for the year ending Dec 30, 2014 stands at 28.79, compared to its negative trailing 12 months diluted EPS of 0.60, which denotes that the company will increase its earnings, resulting in a positive bottom line. This is will come from SunPower's restructuring initiatives, which will help it increase the operating margin, thereby being reflected in the bottom line. In addition to this, the company has a five year expected PEG ratio of 0.78, which denotes that the company is undervalued and has an upside potential factoring its earnings growth rate.