The year 2013 saw an improvement in the overall equity market position. The solar industry proved to be one of the spotlight industries of the year. Flooded by the oversupply of solar modules, thanks to Chinese producers, the industry had been suffering in the recent past. However, 2013 proved to be a recovery year for the solar industry and the companies experienced revenue growth; along with an impressive valuation growth fueled by improved investor confidence. The growth was supported by certain developments including US legislative activity, EU capping Chinese sales and the Chinese government's restriction on the construction of new solar factories. All in all, improved demand and measures to address the oversupply resulted in a better performing solar industry in 2013. Solar ETFs like TAN and KWT went up by around 118% and 92%, respectively, during the year. We will now analyze the potential future prospects of the solar industry and the companies operating in it, concluding on what to expect and what stocks to select for the upcoming year.
Demand growth is expected to continue growing in the pattern of 2013. Research reveals that the industry is expecting substantial growth in the year 2014 and onwards. EIA estimates that the consumption of renewable energy, including solar energy, will increase to 3.10 quadrillion BTUs by 2020; this is an increase of 53% as compared to 2012. IHS predicts that around 41GW will be installed in 2014, translating to an 18% growth as compared to the current year. IHS is quite confident about the double digit growth of solar installations. Estimates by Mercom Capital Group are in the range of 43GW. SolarBuzz further extends the estimates to around 49GW.These predictions and estimates are a strong indication that the coming year will bring growth to the solar industry. Long term growth is also expected as the EIA estimate predicts.
The growth of the industry is coupled with regulations, as mentioned earlier, which create a level playing field for all the companies and restrict the Chinese manufacturers in their exploitation of prices in the EU and America. Hence, the American companies are in a better position to compete as compared to the past.
One other factor that will complement the growth of the industry is the decrease in cost/watt over the years. In other words, the decline in cost of production will make the offerings of solar companies even more attractive in terms of price and they can increase their profit margins, thereby impacting EPS positively. The above graph depicts median prices, which have shown a decreasing trend over the years in the US.
Moreover, GTM predicts that the reduction in costs is expected to continue in the future and will be facilitated through technology advancements as opposed to oversupply. Cost reduction brought about by technology advancements will bring about a positive change in the industry. This is because the historic cost reduction occurred due to oversupply, which pressured the producers to reduce prices and, incidentally, incur losses. In the case of technology advancements, the decline in cost is made possible due to a reduction in the manufacturing cost and will not put a pressure on the earnings. Therefore, we believe that cost reduction through tech advances will be a great positive for the solar industry.
We will now analyze the several US based companies to ascertain which ones are suitable for investment purposes. There are several companies operating in the US solar industry. Prominent companies include First Solar (FSLR), SunPower (SPWR), SolarCity (SCTY) and SunEdison (SUNE). We will now perform a brief evaluation of each of these companies to get a picture of their relative performance and position.
It is an Arizona based solar company involved in the development of utility scale solar projects along with turnkey solar solutions. It also provides related services. First Solar has a market cap of around $5.50 billion and is the largest American solar company in terms of market capitalization.
Revenue And EPS Behavior
The company was able to generate a positive EPS in the year 2013 and is also expected to continue to post positive EPS in future. Revenue is also showing growth and is expected to grow to $3.79 billion in 2014. The EPS is not expected to grow in line with revenues; however, this is justified because of growth factor and CapEx requirements of the industry.
- The company was able to reduce its cost per watt to $0.46, which is the industry's lowest by far. Management expects that the costs will further fall by 21% by 2015. This means a cost target of around $0.36. Chinese manufacturing costs are expected to fall to $0.36 by 2017. By this comparison, FSLR is way ahead of competition in terms of cost per watt. Therefore, the cost is turning out to be a clear competitive advantage for FSLR going forward.
- Currently the efficiencies of the CdTe cells are lagging behind the Si cells produced by Chinese companies but First Solar's partnership with GE may prove useful to eliminate this problem. Both companies are collaborating in the research of CdTe solar technology. As a result, First Solar is targeting a panel efficiency of around 17% by 2016. Moreover, poly silicon prices are expected to rise in the coming year. This is beneficial for FSLR, as the Chinese manufacturers will be pressured by increasing costs, providing an opportunity to FSLR to compete on a more attractive cost basis. The CdTe cells are more efficient in high temperatures and are more suitable for large power projects in high temperature areas. Hence, FSLR has a clear competitive advantage in utility scale projects.
- The company is frequently winning solar energy projects and has around 1.9GW of projects under construction or in development. This is an indication of the competitive strength of FSLR's offerings.
Price Target: Our price target for FSLR is unchanged, i.e. $72
SunEdison was initially a silicon wafer manufacturing company and has recently entered the solar industry by deciding to diversify via a planned separation of its semiconductor business. It plans to use the proceeds to focus on the solar business and for general corporate purposes. The company has a market cap of around $3.45 billion. The solar energy segment of the company provides solar services including design, installation, financing and maintenance. This segment is also concerned with the manufacture of poly silicon wafers and solar modules.
Revenue And EPS Behavior
The revenue of the company has experienced growth in the current year and is expected to grow further in the future. SunEdison is expected to post revenues of around $3.69 billion in 2014. The EPS has been negative in the past couple of years but the trend is improving and the company is expected to post an EPS of $0.56 in 2014.
- The company has around 3.1GW worth of projects in the pipeline. This is a healthy amount when compared to FSLR's 1.9GW of projects under construction or development. This means that the company has the opportunity to materialize its growth and post an increasing EPS as these projects are completed.
- SunEdison was recently involved in several capital raising activities which are expected to generate around $1.5 billion at the company's disposal. Having funds in a growing industry is vital to any company's success.
The cell efficiency of SunEdison is lagging behind First Solar's TetraSun and SunPower's Maxeon cells. Its cells are more efficient than the CdTe offered by First Solar but, as mentioned above, the CdTe cells have several advantages. Therefore, SunEdison has to come up with a better modular efficiency if it wants to succeed in the long term.
Price Target: The price target for SUNE is $14. A discounted FSLR multiplier is used because of First Solar's superior competitive position.
SunPower is the second largest US solar panel manufacturer. The company is renowned for its high efficiency Maxeon solar cells and is principally involved the provision of rooftop solar solutions for the consumers. The company has a market cap of around $3.54 billion. SunPower is backed by Total S.A., the fifth largest publicly-traded energy company in the world. Total S. A. has a controlling interest in the company and holds around 66% shares of SunPower.
Revenue And EPS Behavior
SunPower's revenue trend is more like First Solar's, meaning that its revenue is increasing but the EPS is expected to decrease in the coming year. As explained earlier, this is because of the CapEx demands of a growing industry. As long as the revenue is expected to grow, there is no cause for alarm. The company's revenue is expected to grow to $2.74 billion in 2014.
- The obvious competitive advantage of SunPower is the high modular efficiency of its solar cells. These cells achieve a modular efficiency of around 22%. The commodity Si cells are 16% to 18% efficient. This is a distinguished competitive advantage for SunPower, especially in the area constrained conditions of the rooftop market. The fact that these cells can generate more power in a given area makes them preferable for the rooftop market.
- The residential leasing program of the company is also an advantage because customers can install their systems without upfront costs and can save around 3 cents per watt.
- The company is giving a high priority to R&D. Total S. A. is backing the company and is collaborating with different organizations for research purposes. The devotion of the group towards R&D is reflected in the superior modular efficiencies achieved by the company.
SunPower is running on full capacity and will continue to do so in 2014. Its new plant is expected to be completed in 2015. Hence, competing companies like SolarCity and First Solar can capture the market opportunity lost by SunPower due to capacity issues. In the long run, it will not prove to be an issue because the company will increase its capacity in 2015. Valuations are not going to be impacted because the company will most probably achieve the revenue estimates with its current capacity.
Price Target: Our price target is unchanged at $36.
SolarCity Corporation engages in the design, installation, and sale or lease of solar energy systems to residential and commercial customers and government entities in the United States. It provides solar energy systems and energy efficiency products and services; including home energy evaluation and energy efficiency upgrade products and services. The company also sells electricity generated by solar energy systems to its customers. SolarCity has a market cap of around $4.67 billion.
Revenue And Earnings Behavior
The revenue trend of the company is expected to grow in the coming year. The revenue is estimated to be around $256 million for 2014. EPS will remain negative but the trend is expected to be a positive one. SolarCity is heavily investing in solar leasing. This explains the current negative EPS but the point to be noted here is that all the leasing expenditure will bring a stable, consistent and positive inflow of cash for, at least, the duration of the lease period, i.e. 20 years. SCTY is foregoing present earnings for future cash flows. This is why we believe that the current negative earnings do not matter.
- The company does not manufacture solar cells but acquires them from different suppliers, like Yingli Solar. This limits the risk of declining silicon cell prices which has been one of the most significant concerns for American solar producers in the recent past. By shifting the risk of price to the supplier, SolarCity is better placed to compete in the industry even if the prices decline further; but this is not expected to occur in 2014.The cost pressure on companies like SunPower is a barrier for them to become a leader but SolarCity does not have to worry about that.
- Recent asset securitization of its rooftop projects puts SolarCity in a unique position for raising finance for projects and relieves the company of the high cost of capital associated with equity. The company will effectively channel the funds from investors to the rooftop projects and the lease returns will be used to give investors their return on investment. This is an attractive business model and will bring substantial growth for SolarCity in the future. The company currently holds a leading 20% market share in the consumer segment of the solar industry.
The global solar industry is expected to grow in 2014. The US market also has the potential to post growth in the coming year. The analysis of significant American solar companies reveals that the competition will be quite strong as each of the companies possesses distinguished competitive advantages. However, it is also seen in the analysis that First Solar and SunEdison are more utility scale oriented while SunPower and SolarCity are more oriented towards residential and rooftop projects. We believe that First Solar is a better investment choice in the utility sector because of its cost advantages and the performance of CdTe in specific weather conditions. It is also the largest American solar company, so it is preferred over SunEdison. The rooftop market will witness intense competition because SunPower and SolarCity both have impressive prospects and unique competitive advantages. We believe that SolarCity is a better option than SunPower because of its leading market position in the residential segment along with the fact that it is not exposed to the risk of declining cell prices in the long run.
Therefore, while we are optimistic about the future of the entire solar industry, our top picks are FirstSolar and SolarCity.