Suntech Power: A Long-Term Winner

Nov.22.06 | About: Suntech Power (STP)

There has always been a lot of hype around solar energy stocks and many things have been said on the long term potential of the industry. So far two things appear clear:

1. There’s a huge potential / latent demand worldwide for solar energy and demand cannot but increase alongside concerns about the level of pollution in industrialized countries.

2. We still have a long way to go before this source of energy can compete with traditional sources from a cost/efficiency point of view. In the short term, the industry will develop thanks to subsidies and incentives set by local governments.

The result for solar energy stocks is long term growth (driven by demand) and very high short/medium term volatility (driven by variability in the level of local subsidies and, of course, by price increase in raw materials).

In this environment one stock in particular appears to be very well positioned to take advantage of the long term industry trend: China's Suntech Power (NYSE:STP) that has just released another quarter of very good financial results.

• STP is the leading Chinese player in the industry with top class technology and production of cells and modules; the market success speaks for itself: global market share increased from 0% in 2002 to almost 8% expected in 2006. And being in China means essentially two things: a competitive advantage in labours costs and lower capex / Watt on one hand, a huge potential market on the other.

• Particularly important: in 2006 China implemented a Renewable Energy Law that provides the basis to commit $180 bn to the development of renewable energy sources up to 15% of total energy production by 2020. More impressive, if China were to obtain 0.5% of its energy generation from solar power in 2020, this would be equal to approximately 9GW. This number compares to the current level of 100MW and provides for a 38% annual growth over the next 14 years. Not too bad. If it were to reach the minimum amount of solar energy envisioned by the Renewable Energy Law (1GW), that would provide for a 18% annual growth.

• The company is undertaking a long term growth strategy. The 10 year MEMC $5-$6 bn deal on silicon supply represents a clear signal to the market that the management is committed to significantly growing the business and – at the same time – to tackling the main issue for the industry at the moment: a limited supply of silicon. The contract provides for a gradual decline of the contract price over the next years and will help drive margin expansion. Should the constraints in the supply of silicon remain, STP will clearly be in a better position than the competitors in keeping up with the demand.

The stock is now trading at $28 and, with a consensus 2007 P/E of 24, appears to be a good bet on both alternative energy and the growth of the Chinese economy, though in the short term it can suffer from high volatility.

Disclosure: Author is long STP

See: Suntech Power Holdings Q3 2006 Earnings Call Transcript