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Suntech Power Holdings Co. Ltd. (NYSE:STP)

Q4 2009 Earnings Call

March 4, 2010 8:00 am ET

Executives

Rory Macpherson – Director, IR

Zhengrong Shi – Chairman & CEO

Steven Chan – President, Global Sales/Marketing, Chief Strategy Officer

Stuart Wenham – Chief Technology Officer

Amy Zhang – CFO

Analysts

Min Xu – Piper Jaffray

Satya Kumar – Credit Suisse

Burt Chao – Simmons & Company

Kelly Dougherty – Macquarie Group

Rob Stone – Cowen & Company

Sanjay Shrestha – Lazard

Lu Yeung – Banc of America/Merrill Lynch

Vishal Shah – Barclays Capital

Sunil Gupta – Morgan Stanley

Nitin Kumar – Nomura Singapore

Edwin Mok – Needham & Company

Paul Leming – Soleil Securities

Mehdi Hosseini – FBR

Paul Clegg – Jefferies

Operator

Good day, ladies and gentlemen, and welcome to the Q4 and full-year 2009 Suntech Power Holdings earnings conference call. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of this conference (Operator Instructions)

I would now like to turn the call over to Mr. Rory Macpherson, Director of Investor Relations. Please proceed.

Rory Macpherson

Hello, everyone and welcome to Suntech's fourth quarter and full year 2009 earnings conference call. My name is Rory Macpherson, Suntech's Director of Investor Relations. From Suntech, on the call today will be Dr. Zhengrong Shi, Suntech's Chairman and CEO, Steven Chan, President of Global Sales and Marketing and Chief Strategy Officer, Dr. Stuart Wenham, Suntech's Chief Technology Officer, Amy Zhang, our Chief Financial Officer. Also Ian Tu who is our Senior Financial Analyst will participate in the Q&A following Dr. Shi's closing remarks.

Before we continue, the results presented in this conference call are preliminary and unaudited. The company is in the process of completing its 2009 audit and adjustments to the results set forth in this press release may be identified as a result of this process. The Company's 2009 audited financial statements will be included in its 2009 Annual Report on Form 20-F to be filed with the U.S. Securities and Exchange Commission.

We will make certain forward-looking statements and in efforts to assist you in understanding the company and its results. The Forward-looking statements will be made under the Safe Harbor provisions of the U.S. Private Securities Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, Suntech's future results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in our earnings release issued today and our SEC filings. Suntech does not undertake any obligation to update any forward-looking statements except as required under applicable law.

To enhance our presentation of information and data during this conference call, we have provided a set of PowerPoint slides which we will refer to as management delivers their prepared remarks. This presentation is posted on the main page of the Investor Center of our website.

As a reminder, this conference call is being recorded and a webcast replay will also be available on the Investor Relations section of Suntech's website after this call. Please make note that all figures mentioned during the conference call are in U.S. dollars.

I will now turn the call over to Suntech's Chairman and CEO, Dr. Zhengrong Shi.

Zhengrong Shi

Hello and I thank you for joining us. Today, I like to start by summarizing our financial highlights for the fourth quarter 2009. I will then discuss some of the dynamics in our major markets before turning the call over to Steven, who will discuss recent developments in North America. Steve will give you update on our technology and Amy will provide some color on our financial results.

Please turn to slide three. We are very pleased to have significantly beaten our shipments guidance in the fourth quarter and have delivered revenue of $583.6 million, 23% higher than the third quarter of 2009. Strong market share gains and a pull forward in demand due to the expectation of a mid-year subsidy adjustment in Germany enabled us to increase shipments by 32%, way above the 10% growth that we guided. We are seeing a trend towards consolidation in the industry with Suntech emerging as one of the clear leaders.

One of the fundamentals of our strength is our superior track record. In fact, I'm pleased to announce that including product shifts so far in the fourth quarter of 2010, we've already delivered more than two people in our panels too more than 1400 customers in over 80 countries. We are very proud of this track record and are making the investments to maintain our leadership in the solar industry.

Customer recognition of Suntech's premium technology and quality and a strong demand environment helped to mitigate ASP reduction during the quarter and our ASPs fell by only 3% during the fourth quarter. Relatively stable ASPs and an excellent progress reducing our silicon and our non-silicon costs also enabled us to deliver a marked jump in profitability with gross margin for our core wafer to module business moving from 20% in Q3 to 26.3% in the fourth quarter of 2009.

Amy will elaborate on this impressive achievement later in the call. Through the course of 2009, Suntech made a significant and strategic investment to enhance our regional capabilities, improve our global service platform and diversify our sales. We achieved success in all three of these goals.

Our investment in expanding our regional management teams helped to enhance our position as a global company with truly localized service capabilities; in particular, we've significantly offset our European by almost quadrupling our headcount in 2009. And then they were instrumental in helping Suntech to ship over one megawatt per day to Europe in the first half of 2009 and around two megawatt of modules per day in the second half. We estimate that around two-thirds of our 2009 European sales were to the commercial and residential rooftop market.

The key sales channel to address this stable, reliable and sustainable market is through value-added resellers or VAR for short. Suntech has established a growing VAR network throughout Europe with more than 25 leading companies supporting our brand. It is worth noting that in Europe, PV modules are definitely not considered a commodity .It is the quality, performance, reliability and reputation of both the VAR and Suntech that is recognized and are highly valued by installers and as customers.

Module price is only one part of the equation. In fact, it is performance; the number of kilowatt hours generated which is the key measure. All of the leading VARs undertook their own independent performance and quality check before partnering with Suntech just as we were extremely selective about collaborating with VARs that have truly value-added technical knowhow and market experience.

Our VAR partners highly value our consistent strategy and as a result, Suntech is recognized as a premium brand throughout Europe. The remaining one-third of our European sales were to the project market which is typically for ground mount projects greater than one megawatt in size. The key partners we work with to address this market are EPC, Engineering, Procurement and the Construction companies and especially system integrators.

Over the last year, Suntech has significantly strengthened our partnerships in this channel, which now boasts many of the leading European and globally recognized companies in the solar industry. The expansion of our experienced, locally-based sales, customer and technical support teams and our administrative headquarters in Switzerland have also helped to enhance our service platform in Europe.

Turning to Germany, there has been a lot of discussion related to the proposed cuts in feed-in tariff taking place from the beginning of July. From our own detailed analysis, we do not see the need to adjust the ASPs much from the Q1 level for a couple of reasons.

Firstly, we believe that healthy and acceptable investor returns can be achieved at the Q1 ASP level. Secondly, the subsidies in other global markets continue to provide very attractive returns for investors in solar projects.

And thirdly, demand for Suntech module in Europe is extremely strong and growing. We are fully allocated for the first half of 2010 and our current pipeline exceeds our capacity in the second half of the year. Naturally, we will continue to closely monitor the situation.

Moving to other European markets. As you can see on slide four, we have seen significant growth in the key markets of Italy, France, Benelux and Greece where our investment in local experienced staff and support has paid great dividends.

Demand is picking up again from a very quiet 2009 and the recently announced feed-in tariff in the U.K. will also lead to underlying market growth and opportunities for Suntech.

EU regulations requiring 20% of renewable energy in the EU by 2020 should continue to drive more European countries to adopt solar in the mid to long-term.

Our European sales were roughly 78% in 2008 and turning to slide five, you can see that this moved down to 74% in 2009 and should fall to below 70% in 2010. While Europe continues to be our most important sales region, this trend highlights the number of significant new markets in the solar industry and our strategy to diversify our sales and support long-term growth opportunities.

Turning to Asia, we are seeing a lot of opportunities for growth in the Asia Pacific, Middle East and Africa. In particular, our Japanese team has continued to make excellent progress due to the partnership with Yamada Denki, which is the largest retailer of home appliance and consumer electronics in Japan. Taiwan's newly announced subsidy program is also starting to generate demand there.

In Mainland China, we are continuing to build our presence as the best provider of turnkey solar solutions. We developed China's first 10 megawatt utility-scale solar plant and have commenced another two plants that are scheduled for completion later this year.

On rooftop projects, we secured around 20% of the projects under the national rooftop program and are well-positioned to secure a significant portion of the Golden Sunshine project. We also have a strategic framework agreement to develop 2 gigawatt of project which is a good indication of the nascent high volume potential of this market.

While profitability in China is still low compared to other regions, we have initiatives in place to steadily reduce our costs and improved profitability in the middle-term and have no doubt that it will become an important contributor to earnings growth in the future.

Turning to our production capacity, we accelerated our capacity ramp to help meet some of the near-term demand opportunities. We reached 1.1 gigawatts of PV cell and module capacity by the end of 2009, cementing our position as the world's largest producer of crystalline silicon solar panels.

In 2010, we've maintained our target of 1.4 gigawatts by the middle of the year. The timing of capacity expansion beyond that will be based on our assessment of future market demand.

In 2009, we continued to expand our position as a leader in the solar industry. We enhanced our customer support platforms, entered new markets, developed world-class PV innovations and improved our balance sheet.

In 2010, this priority will remain at the forefront as we establish our new U.S. factory, expand production capacity and continue to rollout our high efficiency Pluto technology. We are extremely excited about the road ahead.

Now, I’d like to turn to Steven Chan for update on our development in North America. Steven?

Steven Chan

Thank you, Dr. Shi. Please turn to slide seven. Fourth quarter revenue from North America reached another record with sales increasing by almost 60% over the third quarter.

In addition, our 2009 shipments were double our 2008 shipments, which is indicative of our expanding market share. This is the result of the investment that we made in the past few years to establish a long-term and diverse business in North America.

This includes the expansion of our dealer network, the release of the Reliathon solar platform targeted specifically to the utility market and the selection of the site of our fist U.S. 30 megawatt manufacturing plant that will be located in the city of Goodyear, Arizona near Phoenix.

Our Suntech Partner program that we launched at the beginning of Q1 last year is designed to help dealers generate more sales through providing co-marketing, training and priority access to Suntech's innovative product line. The program is being extremely well received and our dealer network now encompasses well over 200 dealers across North America and Latin America is growing steadily.

We are also gaining a lot of traction in the utility solar market. Utilities recognize the importance of partnering with a solar company that has the scale, track record and commitment to quality that will ensure reliable energy delivery over 25 years.

Suntech is well-positioned in this market and we have a pipeline of over 2 gigawatts of project opportunities that we are working on. Of these, we are short listed on around 1 gigawatt and we hope to record some significant wins later this year.

We are confident that our Arizona based manufacturing facility will help us to expand Suntech's presence in the U.S. The fit out of the facility is underway and we target to begin production in the third quarter.

The City of Goodyear and the State of Arizona are excited about our arrival and we have received overwhelming interest from customers, partners and future employees. We believe that Suntech has one of the most mature teams and customer service platforms to deliver all forms of solar demand in the U.S.

In 2010, we expect to see the U.S. solar market double in size and our own sales triple. This should take our market share in the U.S. to around 20%, compared to an estimated 15% in 2009.

Now, I'd like to turn to Dr. Stuart Wenham for an update on our technology.

Stuart Wenham

Thank you, Steven. I'm pleased to report that Pluto is performing extremely well in large-scale production and we are on track to have 450 megawatts of Pluto enabled capacity by the middle of 2010.

We are also on track to meet our Pluto shipment guidance of 30 megawatts in the first half of the year and 150 megawatts in the second half as we continue to ramp production.

Utilizing Pluto technology, we are consistently achieving an average of 19% conversion efficiency on monocells and 17% on multicells. This is a significant differentiator as it results in higher power output modules and lower balance of system costs for end users. Our customers are extremely impressed with the Pluto product and demand for Pluto far exceeds our current production capacity.

Now that Pluto Generation 1 is successfully in full scale production with high yield and efficiencies, we are moving forward with the development of Pluto Generation 2 technology. Laboratory evaluation of the technology indicates that Generation 2 Pluto will achieve conversion efficiencies of 20% to 21% on monocrystalline cells and 18% to 19% on multicrystalline cells.

Most of the performance increase for Pluto 2 is derived from significantly increased voltages which are achieved by replacing the screen-printed PV contacts with one equivalent to the front surface contacts of Pluto 1 technology.

Another area that we had focused on during 2009 is debottlenecking and process improvements which are designed to increase throughput. This initiative has also been extremely successful and we are now able to operate at over 100% utilization of nameplate capacity which is a substantial increase from 85% utilization historically.

I'm very pleased to report that Suntech became the first solar company in Asia to be awarded both the VDE Test Data Acceptance Program certificate and China's CNAS Lab Accreditation Certificate. This recognition is a testament to the quality of the Suntech brand which is backed by world-class testing facilities, equipment and facilities, all of which meet or exceed the stringent standards of UL and IEC.

I will now turn over to Amy Zhang for her financial review. Thanks, Amy.

Amy Zhang

Thank you, Stuart. Hello to everyone on the call. Please turn to slide eight for the first of several slides on our financial results.

Net revenue for the fourth quarter was $583.6 million, approximately 23% higher than our third quarter 2009 result of $473.1 million. I am pleased to announce that our gross margin jumped from $84.1 million and 17.8% in the third quarter to $138.7 million and 23.8% in the fourth quarter of 2009. This improvement in profitability was mainly due to a significant reduction in silicon wafer costs and non-silicon wafer costs combined with relatively slow decline in ASP of only 3%.

Silicon wafer costs including inventory impact fell about 15% sequentially and our non-silicon costs improved to U.S. $0.56 per watt in the fourth quarter from U.S. $0.60 per watt in the third quarter as a result of higher PV cell conversion efficiencies and higher utilization of our capacity.

Please note that non-silicon costs includes the cost of all non-silicon materials, processing and depreciation but excludes rights and share-based compensation. In order to maintain consistency, we will continue to use this measurement of non-silicon costs going forward.

Operating expenses for the fourth quarter of 2009 were $51.7 million or 8.9% of revenue compared to $39.3 million or 8% of revenue in the third quarter of 2009. The increase was primarily due to an increase in selling expenses in line with our revenue growth and an increase in R&D expenses due to continued investments in Pluto, process automation and our Shanghai production facility. Of the R&D expenses approximately $4 million were one-time in Asia.

Income from operations was $87 million and operating margin was 14.9% in the fourth quarter of 2009 compared to $44.8 million and operating margin of 9% in the third quarter of 2009.

Net interest expenses were $24.2 million in the fourth quarter of 2009 compared to net interest expenses of $23.5 million in the third quarter of 2009. Please note that $12.7 million of this was a non-cash interest expense which was mainly due to the accounting treatment of our convertible notes.

In the first quarter of 2010, we repurchased an aggregate amount of $221.2 million principal amount of our 0.25% convertible senior notes due 2012 for a total consideration of $221.2 million. We now have only $3.8 million principal amounts of these convertible notes outstanding. The total non-cash interest expenses for the repurchase of convertible senior notes in 2009 was $40.2 million.

Due to the depreciation of the euro versus the U.S. dollar, we had a foreign exchange loss of $13.2 million in the fourth quarter compared to a gain of $10.5 million in the third quarter. Due to weakness in the euro, we are adopting a more aggressive hedging strategy going forward.

Net income attributable to holders of ordinary shares for the fourth quarter of 2009 was $49.9 million or U.S. $0.27 per diluted ADS which was 68% higher than our third quarter net income of $29.8 million or U.S. $0.16 per diluted ADS.

The major non-cash related expenses were share-based compensation charges of $1.6 million, the $12.7 million of non-cash interest expenses that I mentioned earlier and depreciation and amortization expenses of $20.9 million.

CapEx which was primarily for newly installed cell and module capacity totaled $35.4 million in the fourth quarter.

Turning to the balance sheet. I am very pleased to announce that our cash and cash equivalent plus our short-term investment amounted to $1 billion at the end of the quarter, up from $855.7 million as of September 30, 2009. This is reflective of our successful initiative to reduce working capital and improve cash flow that we implemented in early 2009. You can see on slide 10 that our working capital management improved on all measures in the fourth quarter.

Day sales outstanding improved to 60 days from 81 days in the third quarter due to improved collection, inventory turnover improved from 57 days from 67 days in Q3 and cash payable turnover dates increased from 46 days in third quarter of '09 to 53 days in the fourth quarter. This improved our cash conversion cycle from 102 days in the third quarter to 64 days in the fourth quarter.

Now, I'd like give you a quick update on the GSF receivables. Accounts receivable due from GSF investee companies were $110.2 million in the fourth quarter compared to $112.1 million in the third quarter. The decrease was due to the depreciation of the euro versus the U.S $.

At the third quarter's earnings call, GSF have received signed commitments from four out of the six banks involved in the project financing. While we fully expected the financing to be finalized by the end of 2009, delays in credit committee signature and the Christmas and the New Year holidays pushed back the timeline.

I'm pleased to announced, however, that GSF has since received the two remaining commitments. The finalization of the financing agreement should just be a formality now and drawdown should occur very soon thereafter. We will update you on the progress in due course.

Turning quickly to our full 2009 results, total net revenue were $1.7 billion, consolidated gross margin, gross profit was $338.8 million and gross margin was 20%. Net income attributable to holders of ordinary shares increased 182% year-over-year, to $91.5 million or $0.53 U.S. per diluted ADS.

In the full year 2009, capital expenditures, which were primarily related to the construction of our production facilities in Shanghai and other infrastructure project to support expansion of Pluto capacity, totaled $142.6 million. Depreciation and amortization expenses totaled $66.3 million.

Now, turning to guidance on slide 11, we expect first quarter 2010 shipment to be 5% to 10% higher than the fourth quarter of 2009. Gross margin in the first quarter of 2010 is projected to be in the range of 18% to 20%. The decrease in the gross margin is mainly due to expected decline in ASP in the first quarter of 10% to 15% which is largely related to euro depreciation versus the U.S. $.

Our full year PV Shipment target is at least 1250 megawatts which is over 75% higher than our 2009 shipment. We are on schedule with our planned expansion to 1.4 gigawatt PV cell and PV module production capacity by the middle of 450 megawatts will be Pluto-enabled.

Capital expenditures for this expansion are expected to be approximately $200 million. That concludes our prepared remarks today. Operator, please.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Jesse Pichel with Piper Jaffray. Please proceed.

Min Xu – Piper Jaffray

Hi. This is Min Xu for Jesse Pichel. Congratulations for a strong quarter. It seems like the strength is from both strong demand and great margin. So, I want to understand for Q4 wafer price and, obviously, you stated the declines 15%. So, what's the trend for Q1 and in Q2? And also how do you expect processing costs to trend in the next few quarters?

So, in summary, we want to find out your assumption to reach your 18% to 20% Q1 gross margin which is a slight sequential decline?

Amy Zhang

I got the first half of the question and probably I'll just answer that first. And then, would you please, please take your questions for the second half.

Min Xu – Piper Jaffray

Sure.

Amy Zhang

Regarding the gross margin improvement, I think for Q1, we are still expecting that 18% to 20% gross margin. The decline on the gross margin side definitely is largely due to the depreciation of euro versus U.S. $. But on the total cost of good side, wafer and silicon related expenses will still be expected to be reduced in Q1. And overhanging for example, inventory impact will still be better managed in Q1 as well. That will also eliminated the depreciation of euro versus U.S. $. So we still quite confident in maintaining the gross margin within the range of 18% to 20%.

So, what is your second part of the question, please?

Min Xu – Piper Jaffray

So, basically, how do you expect your processing cost to trend in the next few quarters?

Amy Zhang

What is that?

Min Xu – Piper Jaffray

Processing cost.

Amy Zhang

Processing cost. Processing cost is actually related to – so it's including other raw material, right? It's just pure processing. I think processing cost currently in Q4, we are achieving at around $0.16 per watt basis. And I think all in – all in cost of goods sold including wafer, other raw material and processing until the end of this year would be at the level of $0.50 U.S. per watt basis.

Min Xu – Piper Jaffray

Okay. So it's going to 50. And what's your module revenue in Q4 and what's the gross margin for those businesses?

Amy Zhang

We actually don't – the key three segments of our revenue is cell, module and system integration. And this total revenue achieved in Q4, is due to largely multicells cells core business related revenue and other revenues are relatively really trivial and some of them are even less than 1%. So, I don' think it's really makes the sense to talking to that great detail.

Min Xu – Piper Jaffray

Okay. Thanks.

Operator

Your next question comes from the line of Satya Kumar with Credit Suisse.

Satya Kumar – Credit Suisse

Yeah. Hi. Thanks. Can you talk a little bit – good quarter, guys, can you talk a little bit about your ASP, thought process for Q2 and Q3?

Zhengrong Shi

Sorry, could you repeat again?

Satya Kumar – Credit Suisse

I said could you please talk bit about how you expect ASPs to trend as you go into Q2 and Q3 of this year?

Zhengrong Shi

Okay. Look, Q1 and Q2, as we all know, the market is pretty strong, I think ASP is quite stable. And year end for the second half, especially people has been talking about German feed-in-tariff cut, but according to our analysis, even at current ASPs the incremental rate of return especially in Germany may not be affected meaningfully. So we basically, we believe the reduction of ASP for the second half is also quite minimal.

Satya Kumar – Credit Suisse

Do you think the IRRs can be maintained even in Q3 in Germany without much of a panel price decline?

Zhengrong Shi

Yeah. I think look – you look at a year or three years ago IRR in Germany was historically around 8%. I think with the current ASPs and July FIT cut, I think IRR will still be around 8%.

Satya Kumar – Credit Suisse

Got it. Did you manufacture all your cells in Q4 or did you also buy cells from external parties?

Zhengrong Shi

Everything was produced in-house.

Satya Kumar – Credit Suisse

Okay. Can you give an update on – the Asian market seems like there is a lot of growth for you there in 2010. Particularly on China, any new updated thoughts on when the incentive programs might get formalized? And recently, there have also been positive news coming on the Indian market with the budget last week. I was wondering if you have any thoughts on those two markets.

Zhengrong Shi

Yes. We still believe in the China market is quite positive and as we know last year there was a lot of talk about what level of feed-in tariff should be announced by the government. And so like we had a tendering process and we had the Golden Sunshine subsidy program and we have low cost subsidy program. I think this year the government continue to do large projects in at least 3 to 500 megawatts by this public tendering process and try to find out what is the most proper level of feed-in tariff the government should provide.

So that is why – the profitability by doing projects in China was not that great in 2009, but we decided to continue to do so to firstly, build our brand name in system integration. And secondly, we see this is a great opportunity for us to work – to continue to reduce the cost not just at the module level but also at the system integration level. So we do see great momentum in China at the moment. And of course, the same in India and recently, there were some announcement about the budget allocation in India to achieve the 1 gigawatt installation before in 2013.

The other Asian markets like Australia, Thailand and the Middle East and Africa I think because these are really emerging markets and we believe it will grow fairly fast in the next couple of years.

Satya Kumar – Credit Suisse

Thank you.

Operator

Your next question comes from the line of Burt Chao with Simmons & Company. Please proceed.

Burt Chao – Simmons & Company

Yeah. Good morning and good afternoon. Thanks for taking the questions. Real quick on the U.S. facility expansion. With the Q3 '09 shipment out there, how much – can you walk through the savings that you expect to get on shipment maybe made it against an increased cost set will be versus China?

Steven Chan

Sure. This is Steven. So what we are looking at is a shipping savings of say $0.04 to $0.07 per watt and then there is definitely a delta in terms of incremental manufacturing costs to make it in the U.S. However, we have made a strong effort to actually set up a state of the art automated facility really driving down the cost of manufacturing in the U.S. And then also the product because it is made in the U.S., will also sell at somewhat of a premium and so when you factor it all together the margin targets and expectation for that product is more or less comparable to the margins that we would receive for the products that we ship in from China.

Burt Chao – Simmons & Company

Okay. Great. And Steven or Dr. Shi, I'm wondering what are your thoughts on – I mean obviously, it's a strategic move to move to the U.S. and there has been – I guess yesterday's Wall Street Journal had something in wind about Buy American provisions. What do you see coming down the Washington pipeline regarding a potential Buy American provision, which you obviously would have a first mover advantage for? Do you see anything applying to solar anytime soon for the U.S. market?

Steven Chan

I think what we are seeing thus far are Buy America provisions that relate to things that related to the stimulus package or different states or municipalities might have certain aspects of Buy America. But I do think that if you take a step back. You should take a look at the fact that with things like jobs creation and things like that there are probably five times more jobs that are created in the downstream as opposed to the upstream in the solar value chain.

And downstream jobs are really – truly local in nature and to the extent that we can ship a product like we are which is extremely cost competitive and high quality product. We actually create like a very thriving downstream market. And so we actually see that and we do see that the growth in the number of customers and also in the customers themselves in terms of their headcount in the U.S. actually has grown quite a bit in the past year.

Burt Chao – Simmons & Company

Okay. Great. And Amy, one last question. On FX you mentioned something about your hedging strategy going forward. Sorry, I may have missed it but what – can you review that again and let us know how exactly, I guess the swing from a huge loss or a gain to a loss due to the euro, U.S. dollar. How will that be smoothed out here in the future?

Amy Zhang

Right. Of course, if you compare the OpEx in Q4 versus Q3, it was quite a big jump. Please bear in mind in Q3 we had quite a big chunk of reversal on the bad debt provision because of the full collection of AR. And also the FX impact is in there as well. And again in the OpEx and like I said $4 million of the R&D related expenses is one off and it has mainly spent in the prototype equipments for the test on the commercialization of new technologies spent in the lab. And also on the – so you were asking about the FX…

Burt Chao – Simmons & Company

Yeah.

Amy Zhang

The foreign exchange impact, right?

Burt Chao – Simmons & Company

Yeah.

Amy Zhang

I think the foreign exchange in Q3, because of the forward looking trend of the euro rate, which is supposed to be going up in the entire '09. So our hedge percentage of the euro denominated revenue was at around 27 to 30%. And that's why – especially in Q3 when the euro exchange rate sometimes got to like 1.5 to 1.51 range, we actually enjoyed a lot of the spot swap instead of gain from the hedged portion of the euro denominated revenue. And again in Q4, the decline was quite significant especially in the last month of 2009.

Burt Chao – Simmons & Company

Okay.

Amy Zhang

And that's why we had this one off decline on the FX side. And like I said, going into 2010 we are going to have a much more aggressive percentage of hedging on the euro denominated revenue, which will be at least at 50% level. So I believe we can better manage the FX fluctuation going forward in 2010.

Burt Chao – Simmons & Company

Okay. Wonderful. Thank you so much.

Operator

Your next question comes from the line of Kelly Dougherty with Macquarie Group. Please proceed.

Kelly Dougherty – Macquarie Group

Hi. Thanks for taking my question. I first have a quick housekeeping question. How much should we assume for freight and stock comp expenses per watt in the fourth quarter? And I just wanted to clarify that that $0.50 non-silicon costs you're talking about for the end of the year does not include those expenses.

Amy Zhang

Share-based compensation reflected in the COGS is relatively trivial. I think in average it's about $0.01 per watt. And it's fixed along the year because that's just a fixed value amortized equally in each quarter.

Kelly Dougherty – Macquarie Group

Okay. How about for freight?

Amy Zhang

And for the freight charge it depends. If it's – it depends on the shipment terms. And some of the freight charges were actually borne by the clients and some of it borne by us. I think in average it's around $0.03 per watt.

Kelly Dougherty – Macquarie Group

Okay. And then that $0.50 that you're targeting by the end of the year, just to get a complete picture, we would actually add maybe about $0.04 for freight and stock comp, is that the way I think about it? Or is that $0.04 included in the $0.50?

Amy Zhang

It's not included in that $0.50 per watt.

Kelly Dougherty – Macquarie Group

Okay. Great. Thanks. I just want to talk a little bit about the systems business. If you're not going to break out the systems revenue, can you at least give us an idea of maybe how many megawatts of projects were done in the fourth quarter? And then also trying to figure out, when you calculate your module margin, is that on everything produced regardless of whether it's a straight module sale or if it's used in a Suntech project?

Amy Zhang

On the systems side those are either projects, turnkey projects that Suntech takes care of to hand over to the owners and investors, or it's – first of all it's mainly in China, okay. And then secondly, yes – or it's a project jointly invested by Suntech as a minority shareholder together with big sized utility companies, state owned utility companies in China. And according to U.S. GAAP rules, we recognize revenue and cost in line with the rule of percentage of completion. So it's probably not necessarily in line with the total modules shipped to those projects. And I think, in terms of volumes and in terms of gross margin and everything, I would still say Q-on-Q basis it's going to stay flat for the systems integration projects.

Kelly Dougherty – Macquarie Group

Okay. But when you calculate your module gross margin, that's on every module produced regardless of whether it goes into a Suntech project or whether you sell it to a third party, correct?

Amy Zhang

No. No. We calculate module revenue and module costs with two different segments. Sold to third party it's one-off, right, in line with the shipment. We transfer the entitlement of the goods of the modules to the third party. We realize the revenue and then we recognize the cost as well. But when it's the intercompany transfer of modules to system integration projects, we follow the – we don't recognize module revenue. We follow the rule set for the system integration accounting rules which is following the percentage of completion rule for both the revenue of the integrated system and also the cost of the integrated system.

Kelly Dougherty – Macquarie Group

Okay, great. Thanks. And just one another quick question. Do you have a general megawatt expectation for 2010? I know it depends on when they get recognized based on the percentage of completion, but is there a megawatt target you have for this year for how many projects you intend to do and I assume primarily in China?

Amy Zhang

I think the current bid shows around 50 to 60 megawatts. But we don't know whether it will be completed all 100% within 2010.

Kelly Dougherty – Macquarie Group

Okay. Great. Thanks.

Operator

Your next question comes from the line of Rob Stone with Cowen & Company. Please proceed.

Rob Stone – Cowen & Company

Good morning. Very strong finish to the year.

Zhengrong Shi

Hi, Rob.

Rob Stone – Cowen & Company

Amy, I had a quick question on the non-cash expense, the impact of repurchasing most of those 2012 converts. Can you say what you expect the convert related non-cash expense will be in Q1? And I guess that's a partial quarter, so it will be even less in subsequent quarters.

Amy Zhang

I think after the redemption of the 0.25% of the CB, the non-cash interest expenses will be with a reduction of around U.S. $3.5 million per quarter. So that's the saving on the non-cash interest to be booked. And if you look at the total non-cash interest to be recognized in 2010, I think it's going to be less than $44 million for the whole year.

Rob Stone – Cowen & Company

Okay. I noticed that you had a big jump in your equity income from affiliates. It went up about $4 million sequentially. Any color you can add there?

Amy Zhang

We have a lot of investee companies, right, especially in the upstream side and mainly from the wafering business from the previous years. And each quarter we recognize our equity gain after taking the equity method of accounting. And the Q4 equity gain and for the whole year is actually primarily from a few upstream investments like from Glory, from Asia Silicon and from Shunda. So I was even joking with my team if we put that total gain back to the gross margin without even consolidating the rest of the profit, we could actually have 2.5% something more on the gross margin improvement. But again this is purely the equity gain as an investor in the upstream wafering business.

Rob Stone – Cowen & Company

All right. My last question is – I'm not sure if it's for you or for Dr. Shi, but just looking at the ASP trend a little bit, price has declined quite a bit less than I expected in Q4. And yet you seem to be, even net of 8% or so lower euro, seeing more price decline in Q1 than some others have talked about up to now. Do you feel like maybe there's a little bit of a catch up there versus prices that were higher than expected in Q4? Is there a mix between markets? Can you put any more color on that two quarter trend?

Zhengrong Shi

Actually, if you look at the Q4 price, ASP was quite stable. And if you look at Q-to-Q, I mean from last quarter to this quarter on the currency basis, euro currency basis, ASP reduction was only about 3 to 5%. And this euro depreciation actually hit ASP in quite markedly. Yeah, I think euro depreciation plays a fairly important role here.

Rob Stone – Cowen & Company

But do you have a sense of how much of a premium – you talked about your scale –

Zhengrong Shi

Yeah. I think Suntech premium is depending on the region and market, is 5% to 10%.

Rob Stone – Cowen and Company

Okay. Thanks.

Operator

Your next question comes from the line of Sanjay Shrestha with Lazard. Please proceed.

Sanjay Shrestha – Lazard

Great. Thank you. First of all congratulations on a great quarter, guys. A couple of questions. One, given that now Pluto is really gaining some solid traction, given on a larger scale. Can you help us understand what sort of a pricing premium can you get with that high efficiency module and what is the processing cost to benefit with that?

And then, therefore, what sort of an incremental margin you guys could have with your Pluto based module versus your standard modules?

Zhengrong Shi

Look, certainly at this moment, the demand of our Pluto module is far ahead of – far exceeding our capacity at this moment. And we do have some premium price for Pluto module.

Sanjay Shrestha – Lazard

Yeah.

Zhengrong Shi

So and the cost wise, of course we expect once we're rolling out to, say, 450 megawatt then we expect cost wise on a unit watt basis is slightly lower than the conventional module cost, sorry, solar cell cost. So, yeah, that's the situation we expect.

Sanjay Shrestha – Lazard

Okay. Okay. That's fair. So there are two market updates, Dr. Shi. And so Italy has been a very important and a strong market for you guys. But obviously there's also talk about the reduction in the feed-in tariffs in the Italian market, given the unbelievably strong sort of demand that we saw in 2009.

One, I was hoping if you guys could update us on that as to what do you see coming out of that market. And two, as it relates to the second round of bidding of this 800 megawatt project in China, if you could sort of talk about that update. And if there's any update for the national level feed-in tariff. So if you could just give us an update on the Chinese market as well, that would be great? Thank you.

Zhengrong Shi

Sure. For the Italian market and we believe the Italian market, of course in the first half is pretty strong.

Sanjay Shrestha – Lazard

Yeah.

Zhengrong Shi

And even for second half is also very strong for a couple of reasons. First of all, as we know, there will be a feed-in tariff revision in the beginning of next year for the Italian market, right. So people, like Germany, people were rushing to get their systems completed before the deadline.

Sanjay Shrestha – Lazard

Yeah.

Zhengrong Shi

And especially now like as far as we know from what released from the government. And, now for any system which is hooked up to the grid before 31st December, we are deemed to have a feed-in tariff of 2010 level in Italy.

So secondly because the rush of demand in Germany for the first half, so many markets for example like Italian – Italy market and cannot get enough allocation. So that's why I believe for second half there will be more capacity come to the market, so Italian market will get more allocation of product.

Sanjay Shrestha – Lazard

Got it. Okay. And China?

Zhengrong Shi

And China, as I said, because of there was a bit chaotic situation in China. So the government, it's difficult for government to decide what is the appropriate, feed-in tariff level to provide. So that's why in this year China is going to adopt to use bigger project, try to find out what is by bidding process find out what is the most appropriate feed-in tariff level to provide.

Sanjay Shrestha – Lazard

Okay. But we should be hearing about some of these large projects announcements or are they the ones that have already been announced with you guys or folks like First Solar or how should we think about that?

Zhengrong Shi

Well, I guess, I mean, like, we'll wait for maybe in the next month or near future there will be some announcement from government regarding this project for bidding.

Sanjay Shrestha – Lazard

Got it. Great. Once again congratulations on a great quarter guys.

Zhengrong Shi

Thank you.

Operator

Your next question comes from the line of Lu Yeung with Banc of America/Merrill Lynch. Please proceed.

Lu Yeung – Banc of America/Merrill Lynch

Dr. Shi, I have a question. Based on your sales pipeline, it looks like your guidance in the first quarter are somewhat capacity constrained. I just wanted to ask if capacity wasn't an issue, so how much more would you have shipped in the first quarter.

And what gives you the confidence that this shipment will sustain in a healthy level in the second half of 2010?

Zhengrong Shi

Yeah. Certainly for Q1 and first half the shipment is capacity constrained and if we have using capacity, the sales in Q1, first quarter could be 30% more, yeah.

Lu Yeung – Banc of America/Merrill Lynch

And also can you comment on your mix shift in the second half. What kind of countries will start to ramp based on your pipeline sales?

Zhengrong Shi

Okay. I think, like the second, you mean second quarter or second half – second half?

Lu Yeung – Banc of America/Merrill Lynch

Second half.

Zhengrong Shi

Yeah. Second half we're pretty global as we said, I mean, we believe for this year our sales in the European market will be reduced to below 70%. So of course for second half, German market will continue to be strong, we believe although there is the FIT cut because IRR is still quite respective even after FIT cut.

And as I said earlier, Italian market will be strong like the Japan market is actually quite strong and as we know Suntech is the only non-Japanese company get quite appreciable market share within Japan. And also Spain, Benelux and Greece and also USA.

And as Steven said, Suntech has been able to grow our market share in U.S. quite substantially. And last year we doubled our sales of 2008 and this year we're going to do triple sales. So I think the market is very strong.

And also, in particular for Suntech because of brand and we don't have enough products for supply. And secondly for the second half and as we continue to rollout our Pluto product and availabilities increase. So we'll be able to sell more Pluto product because this is more profitable product by customers and that's how we see the second half will continue to be strong.

Lu Yeung – Banc of America/Merrill Lynch

I see. One last question for Amy. As you expand your sales office and other sales channels, what kind of operating expense as a percentage of sales do you expect in 2010?

Amy Zhang

I think by looking at the run rate and actual spending level, maybe $45 million to $50 million in the first half in Q1, Q2. And ramping to around $50 million or slightly higher than $50 million toward the second half of this year.

Lu Yeung – Banc of America/Merrill Lynch

And do you expect as a percentage of sales it will remain stable or higher?

Amy Zhang

Yeah. I think we are still going to continuously benefit from this increase of the economy of scale and critical mass as well. With this diversified market presence and sales offices and people in different markets, we would definitely be better leveraged and balanced to develop in different markets. And again, in line with the revenue ramp up percentage wise of OpEx versus revenue will definitely be coming down, or at least should stabilize.

Lu Yeung – Banc of America/Merrill Lynch

Okay. Thank you. Congratulations.

Operator

(Operator Instructions) Your next question comes from the line of Vishal Shah with Barclays Capital. Please proceed.

Vishal Shah – Barclays Capital

Yes. Thanks for taking my question. On your cost side, I wanted to understand your wafer procurement cost right now. Are you buying at spot prices of around $0.80 per watt?

Amy Zhang

Starting from Q1, yes.

Vishal Shah – Barclays Capital

Okay. Because your gross margin guidance would imply that your wafer prices are higher than that. And I'm just trying to reconcile your margin guidance and also –

Amy Zhang

I think the current margin guidance actually has already covered the FX impact. As I said, euro has been forecasted to going down to maybe towards the end of the year $1.32 to $1.35 range. And also RMB, which is a highly policy driven currency, will be appreciated by at least 3.5%. And our total cost of goods sold and wafer cost and – which has very high mix to purchase from the local wafer suppliers trading in local RMB currency, has already got that impact embedded in the structure.

Vishal Shah – Barclays Capital

Okay. So what kind of silicon cost reduction are you guiding to in Q1?

Amy Zhang

I think it's at least with a 10% decline.

Vishal Shah – Barclays Capital

Okay. And so that – and then you're almost – you should be done with all your high cost inventory given the strong shipment this quarter, right? So you don't have any high cost inventory from 2009 on your books right now?

Amy Zhang

I think, as long as A, we've got safe level of inventory. And B, the silicon cost still goes down and there will be still trivial impact on the inventory going forward. But again, the inventory impact would be better managed starting from Q1, in line with the stabilized wafer cost in spot market as well.

Vishal Shah – Barclays Capital

Okay. And what kind of wafer pricing trends do you see going forward in Q2 and Q3?

Amy Zhang

We are still – because we've got a mix of supplies and feeding stock in the form of silicon and also wafer. And when we convert everything at wafer basis, it depends on the return ratio, for example, pieces of wafers per kilogram and also related to the processing cost of wafer and also exchange. We're still evaluating that. But again, we are benefiting more and more from the spot market rate. And if the spot market rate stabilized at the current level or without going up because of this huge demand from the industrial side, I think we'd get it definitely. If you refer to the spot market rate, we're not far from that. And sometimes we're even better than some of the spot rates offered to other players.

Vishal Shah – Barclays Capital

Okay.

Zhengrong Shi

Sorry. I just want to add to that. I think for the first half, of course, the quarter to quarter wafer price is going to come down. And the first half probably will not come down at a fast pace, as it should be. But I believe that for the second half, the rate of reduction will be more because there will be more wafering capacity in come on line from July onwards.

Vishal Shah – Barclays Capital

Okay. So you can still maintain a 20% guidance in the second half, if pricing does fall because wafer prices could come down, is what you're saying.

Zhengrong Shi

Yes. Wafer price will come down continuously, yes.

Vishal Shah – Barclays Capital

Okay. Thank you very much.

Operator

Your next question comes from the line of Sunil Gupta with Morgan Stanley. Please proceed.

Sunil Gupta – Morgan Stanley

Thank you for taking my questions. Dr. Shi, I had a two-part question for you. First, in terms of your market share, you talked about quite a few of the markets in response to earlier questions about China and Germany and so on and so forth. What is your view in terms of the total global demand this year and what kind of share you think Suntech can sustain this year and perhaps going into 2011? And then I have a follow up on that.

Zhengrong Shi

Okay. We believe – in 2006, the total market was probably around 6 gigawatts. And for this year, the global market growth at least will be around 50%. So last year, in 2009, our market share was probably about 10%. But this year, we will continue to grow our market share to around 14 to 15%

Sunil Gupta – Morgan Stanley

And do you have a target or a goal for the next two to three years, what kind of market share would you like to settle for?

Zhengrong Shi

We will continue to maintain our leadership. And certainly we would like to grow our market share to 20%, if not higher.

Sunil Gupta – Morgan Stanley

Okay. And then I just want to follow up on your earlier comments about ASP trends. You had mentioned many times in the past that Suntech receives a premium ASP because of the brand and the service proposition that you have. It seems based on Q4 numbers, that your premium expanded somewhat compared to your peers. And based on your guidance that you have provided for Q1, it seems like the premium is coming off a bit. And I understand that there is some volatility around it, but just want to understand is there something specific going on, either in Q1 or in Q4, which can expand our premium and why that premium may come off a little bit in Q1.

Zhengrong Shi

Okay. I think we've really – I think really Suntech is, we would say, an established player. That's why our brand is getting stronger, because our behavior in market is very professional. And we adjust our price in a way which is necessary. And so, there is no fluctuation in the price in a market and as some of our peers did. So that's why I think, as I said earlier from Q4 to Q1, there was some ASP decline, as we see there are some feed-in-tariff cuts in certain countries. And also, Q1 ASP decline, apart from reduction we provided, there was mainly due to euro depreciation. So going forward, as I have said earlier, we expect at current ASO be – almost all market we have reasonable internal rate of return.

Sunil Gupta – Morgan Stanley

And I have a financial question for Amy. Amy, earlier when you disclosed your cost numbers, you said freight and share-based comp. But in your cost of goods sold, as you report in your quarterly P&L, do you include freight in cost of goods sold or is it included in your operating expenses?

Amy Zhang

It's all in cost of goods sold. It's fully loaded, all in.

Sunil Gupta – Morgan Stanley

Okay. Thank you very much.

Operator

Your next question comes from the line of Nitin Kumar with Nomura Singapore. Please proceed.

Nitin Kumar – Nomura Singapore

Yeah. Hi. Great set of results, just kind of clarification on the GSF front. What kind of project pipeline should we assume this year out of 1,250 is going to be followed in GSF?

Zhengrong Shi

Look, GSF has over 240 megawatts of fully permitted projects in hand. And it really depends on their project financing situation. If they were able to secure – finalize more project financing. And now of course we have opportunity to participate in the bidding for the projects. So if our terms is better, maybe we have more chance – we have chance to say more. Of course it all depends.

Nitin Kumar – Nomura

I understand. So basically, these projects are not included in your current guidance of 1.25. Hello? Hello, can you hear me?

Steven Chan

Hi. It's Steven Chan.

Nitin Kumar – Nomura

Hi, Steven, can you hear me?

Steven Chan

I can hear you. Yes, so those projects are not included in the current guidance of 1.25 gigawatts.

Nitin Kumar – Nomura

Yes. Okay, great. And in terms of – previously you've also been asked, what portion of this 1.25 is kind of as a system installation project for the full year?

Steven Chan

Suntech wouldn't do the systems installation part. So we would actually – GSF would arrange for an EPC company to do the systems installation part. So we would essentially sell the modules into the systems integration company.

Nitin Kumar – Nomura

I understand. I will ask a question later then. Sure, thanks.

Steven Chan

Sure. Thank you.

Operator

So, your next question comes from the line of Edwin Mok. Please proceed.

Edwin Mok – Needham & Company

Hi. Thanks for taking my question. I'm just curious about your U.S. market. Although you said that you expect that market will double, is that based on assumption that the utility-scale projects will ramp? And how much of the market do you expect the utility-scale projects would be for this coming year?

Steven Chan

Sure. So I would say that 75% plus of our sales in the year will be non-utility. And so it will be for commercial projects or for residential projects. And then about 25% of our sales will be for utility-scale projects. And that will be a mix of some projects in the U.S. but also some projects that we'll be picking up in Ontario.

Edwin Mok – Needham & Company

Great. That was helpful. And then on the capacity that you're building up on – in Arizona, you mentioned that being built in U.S. maybe you'll garner a premium on that on provision [ph]. Are you guys planning on having a separate brand product that will identify this product as built in the U.S. or is that – the consumers like buy a Suntech product. And how is that differentiated, U.S. made versus China?

Steven Chan

Sure. We probably won't have a separate brand. But it will be clearly delineated as made in the U.S. So it will be very clear to the consumers. And so that's something that we definitely will plan for.

Edwin Mok – Needham & Company

Great. And then last year on the Pluto, you guys talked about adding capacity, up to 450 megawatts. You said you guys are somewhat capacity constrained right now in Pluto. I might have missed it, what is your target for shipment for Pluto in 2010? And is that going to be more back-end loaded?

Steven Chan

Yeah. So it will be more back-end loaded and we are a bit capacity constrained. So some of the additions of Pluto is adding new lines. And some of it is also retrofitting existing lines. And to the extent that we're doing some retrofitting, we also have downtime on the lines. And then the production alpha target is for 150 megawatts plus. And it is back-end loaded for the second half, although we have had shipments already start in Q4.

Edwin Mok – Needham & Company

Great. That's all I have. Thank you.

Rory Macpherson

Hello, everyone. This is Rory Macpherson. On the same we just had a technical difficulty, but we've dialed back in. So, all of the management is now on the call.

Operator

Your next question comes from the line of Paul Leming. Please proceed.

Paul Leming – Soleil Securities

Hello. Good evening. Just wanted to clarify, if I could, it's very unclear to me what proportion of business for the fourth quarter was related to GSF. Is there really any granularity or color you can provide at all on the revenue gross profit line on what was GSF business versus the underlying module business?

Amy Zhang

In Q4, there is zero sales and shipment to GSF.

Paul Leming – Soleil Securities

Okay. Fine. Thank you very much. That was all I wanted to clarify.

Operator

Your next question comes from the line of Mehdi Hosseini with FBR. Please proceed.

Mehdi Hosseini – FBR

Yes. Thanks for taking my question. A couple of things, Amy, what should we think about the free cash flow for this year? And then also in terms of commentary on improving balance sheet, can you elaborate on how it's actually going to happen, because you have a significant short and debt – short-term debt on the balance sheet? And then you are providing capacity expansion, but it's up till mid-year. How should we think about the year-end capacity?

Amy Zhang

I think according to what we have already realized in Q4. Operating cash is at around $160 million level and minus the CapEx investment of around $35 million. So out of all these years, we definitely achieved quite a significant improvement on generating the positive free cash by the end of Q4. Going into 2010, according to the current estimation I think based on the current plan on the CapEx of around $200 million bringing up the CapEx from year-end '09 of 1 gigawatt to 1.4 gigawatt.

I think we can still have sufficient cash generated from our operating activities to support this $200 million investment in CapEx expansion. And also after that, I still believe that free cash level we still will have quite a positive free cash, if it's only invested to $200 million to bring up the capacity of 1.4. And that will definitely incur, like in the middle of 2010, as we said. Whether we need to have more investment or whatsoever, it depends on the cash status and it also depends on the – especially on the demand market – on the downstream demand situation.

Mehdi Hosseini – FBR

Okay. So at this time, there is no plan on continuing to expand capacity beyond midyear, correct?

Zhengrong Shi

Yes. We'll assess whether or not we should continue to expand in maybe – in the quarter, close to the end of second quarter.

Mehdi Hosseini – FBR

Okay. And just one question for Dr. Shi. What is your view or assessment of inventory at your customer or at your customer's customer because the weather in Germany has started to – becoming Germany faced a significant snowstorm more than seasonal? So I imagine there is some inventory buildup. So I want to hear your opinion on how you assess the margin inventory that is already in the channel.

Zhengrong Shi

Well, I guess certainly there was some inventory in the channel. I think especially at the customer end. But as we know, because of this feed-in tariff change all customers – installers try to put on as many installations as possible. So I think they are willing to carry inventories in their warehouse because otherwise, I think in Germany especially I guess weather there has become warmer. I mean even our customer mentioned that even in a much colder situation with snow on the roof.

So somewhere it follows they have to use electric blower to blow away snow in order for them to install panels. So that would indicate, because there is such a demand, there is such hurry to install the capacity. So the customer and the installer, they would do everything they could to put more modules on the roof. And they have to have some inventory and they are willing to carry it.

Mehdi Hosseini – FBR

Okay. Thank you.

Operator

Ladies and gentlemen, there is time for one more question. Your final question comes from the line of Paul Clegg with Jefferies. Please proceed.

Paul Clegg – Jefferies

Hi, congratulations on the very strong quarter. And thanks for taking my question. I was hoping we could talk a little bit more about Pluto 2 and the timeline that you expect there. When could we expect to see the first demo line rollout some test product? And then I have a follow-up question on currency.

Stuart Wenham

We're not giving definite times yet for Pluto 2. We've been doing quite a bit of evaluation of the technology in our laboratories. And it gives us confidence to be able to now predict the performance levels for Pluto 2. In terms of timing for implementation, we'll go through a phase initially of doing some test production like what we did with Pluto 1 and then ramp that up to full scale production. We expect it all to happen even more smoothly and quickly than Pluto 1. But we're not going to give more guidance in the actual timeline at this stage. We'll give you more insight into that during next year, perhaps later this year.

Paul Clegg – Jefferies

Okay. Fair enough. Actually, Dr. Shi, you mentioned IRRs in Germany under the new feed-in tariff being contemplated of around 8%. I think that's exactly right. But what do you think they are in Italy at this point? And in Germany, do you think that your customers will buy as many modules at 8% as they are currently when the IRRs are higher 9% plus?

So I guess two questions really, one about Italy and the IRRs. Do you think you're getting – your customers are getting there using your modules? And then on Germany, are you not concerned that going down to 8% from where you are now might lighten their demand?

Zhengrong Shi

Yeah. As I said, look at the German market historically. The IRR in Germany was around 8%. So I think just the investment of the customer in Germany in the last 12 months had a bit sweet time to have IRR in above 10%. So I guess in Germany investors usually are pretty happy with the 8% IRR. And of course, turning to Italy, of course IRR is much higher. I guess probably above 15% even a little higher. So that's why the Italian government is going to adjust the feed-in tariff towards the end of the year.

So but again, before because of this first half high IRR in Germany the module – most of the modules rushing to the German customers, so there's not enough allocation to other markets such as Italy. So I think as I said earlier, from the second half when more products become available so the customer in Italy and other markets will get more allocations.

Paul Clegg – Jefferies

And a quick one for Amy, actually on currency. It has been really volatile and you mentioned a tighter hedging strategy going forward. Is there any rule of thumb that we can use on earnings? One of your peers actually breaks out a one penny move in the euro or dollar, euro rather would change earned net income by X amount. I was wondering if there was anything that we can use that would help us better understand your currency sensitivity.

Amy Zhang

It's rather difficult. Again, it depends on the fluctuation on the spot market between euro versus U.S. dollar and also RMB versus euro and U.S. dollar as well. Again, I would say if we hedged up to the level of 50%, I still believe that the nominal for example, balance sheet item revaluation, either gain or loss would be better offset with the gain or loss on the hedge side. This is the ultimate target we're trying to achieve.

Paul Clegg – Jefferies

Okay. So when you're looking at $0.50 processing cost in your outlook for the end of the year, did I understand? Did that include some move in the RMB or did I misunderstand that?

Amy Zhang

Move of what?

Zhengrong Shi

RMB.

Paul Clegg – Jefferies

Whether or not the – you actually were forecasting some sort of move in the RMB in that number or maybe I misunderstood.

Amy Zhang

No. No. No.

Paul Clegg – Jefferies

Okay. Okay. Thank you. Thanks very much. Good quarter.

Zhengrong Shi

Thank you.

Operator

This concludes the question-and-answer portion of today's conference call. I will now turn the call over to Dr. Shi for any closing remarks.

Zhengrong Shi

Yeah. Thank you all for joining the call today. I'm sorry; we don't have enough time to answer all the questions today. But please don't feel hesitate to contact our Investor Relationship representatives if you have any further questions. Thank you. Have a nice day.

Operator

Thank you for your participation in today's conference call. This concludes the presentation. You may now disconnect. Good day.

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