Several days before Trina Solar (TSL) becomes the first major US listed Chinese solar company to report fourth quarter 2011 earnings on February 23, three direct peers announced preliminary results. Suntech Power (STP) was the first to pre-announce when, among other actions, it lifted its quarterly shipment guidance up by roughly 10%. Canadian Solar (CSIQ) and Yingli Green Energy (YGE) also revised expectations, but surprisingly in opposite directions.
Like Suntech, Canadian Solar raised its fourth quarter shipment expectations. Unlike STP, which also listed a host of write downs surpassing $570m, CSIQ's announcement was only good news. Not only did the company lift expected shipments, but did so to a large degree. Prior expectations called for flat Q4 shipments to range between 340-360MW. The company now expects quarterly shipments between 430MW and 440MW, or potentially over 20% higher than originally expected.
While the fourth quarter has typically been the strongest quarter in terms of quarterly shipments for the solar industry, supply overhangs amidst rapidly falling pricing since the start of 2011 caused many companies to offer, what appeared to be, extremely conservative guidance. The two largest module suppliers in terms of Q3 2011 shipments, STP and YGE, both suggested fourth quarter shipments could fall by 20% or more on a sequential basis. Albeit both companies reported relatively strong third quarter shipments compared to many peers. When data compiled on overall industry wide demand during 2011 came out indicating installations could top 26GW, stocks for many solar companies rallied in hopes prior guidance had been too conservative. At least in Canadian Solar's case, the company did extremely well during 2011 as I initially noted in a prior quarterly review.
Higher shipments are positive on a number of fronts. Obviously it translates to higher revenues and thus more gross profits assuming margins are positive. Although CSIQ kept gross margin guidance level at 5-8%, gross profit should be higher than originally expected. In addition, higher shipments also leads to higher inventory turnover. As a result, inventory costs could be blended lower at a faster rate. In effect, it pulls potential future profits closer.
While most of my prior CSIQ Q4 earnings estimates remain intact, I now expect Canadian Solar to report revenues of $507m in the fourth quarter and post incremental gross profits of $8m over my original $36m estimate. As a result, and barring unannounced additional gains or charges, net loss is now estimated lower at -$12m or -0.28 in earnings per share("EPS"). Non-operational gains such as currency hedging or tax benefits resulting from operating losses could help reduce expected US GAAP net loss, but have been excluded from this estimate.
Yingli Green Energy in contrast lowered its quarterly shipment expectations. The company now expects shipments to be approximately 30% lower than third quarter levels vs. prior guidance which called for a low/mid-twenties percentile sequential decrease. While the revised shipment guidance is not much lower than originally expected, it is a dramatic shift compared to STP and CSIQ's upwardly revised shipment guidance. As a result, I now expect YGE to post shipments of 360MW in the fourth quarter compared to my prior estimate of 395MW.
What is more surprising about Yingli's announcement are the additional charges the company took to wrap up fiscal 2011. As I have noted in recent articles, the fourth and final quarter of the fiscal year can often lead to house cleaning of a company's books. It has typically been a quarter companies take necessary charges, which may have been delayed in earlier quarters of the fiscal year. Based on YGE's announcement, 2011 may contain the largest corporate charges in the company's history as a public company. In total, the company expects to write down $539m relating to its polysilicon plant and long term polysilicon contracts which will be retroactively applied to its already announced third quarter results.
Although I noted possible polysilicon prepayment provisions in my recent Trina Solar review, many of these events are cross changeable among direct peers. Structurally similar to TSL, Yingli was among the more aggressive large integrated crystalline solar companies in securing long term polysilicon supplies. Prepayment forfeitures noted by large polysilicon producing incumbents was a warning sign companies like Trina or Yingli could take provisions as recent spot market pricing for silicon may have fallen below fixed long term pricing for certain contracts. For the fourth quarter, YGE expects to take a $135m provision on prepayments made on contracted silicon supplies.
In addition and perhaps more surprisingly, Yingli has essentially written off its polysilicon division, Fine Silicon which was purchased in early 2009. The $404m of impairment and goodwill charges appears to be roughly the total capitalized cost for its 3,000 metric ton polysilicon plant. With initial production ramp slow and behind the company's own guidance in combination with spot market polysilicon prices plunging to around $30/kg in recent months, small scale polysilicon producers have been forced to shut down operations. Limited scale production costs for Yingli were noted above $60/kg and the company targeted a near term goal of $45/kg at higher production levels. Although production costs would likely be significantly higher than near term market pricing, Yingli could have easily absorbed the difference until the gap narrowed. A total write down may indicate other production issues for this plant other than higher than expected initial production costs.
The end result will be an extremely messy year for Yingli on a US GAAP basis. With the lower than previously expected unit shipments, I now estimate YGE's Q4 2011 revenues to be approximately $407m and a gross profit of about $12m. Excluding the announced inventory provision which I estimate to be about $40m, gross margin should remain similar to my original 12.8% estimate. Excluding all non-operational gains and charges, operating loss should amount to $37m for the fourth quarter. With the additional $40m inventory provision, US GAAP net loss for Yingli in the fourth quarter could total $77m, or -0.49 in EPS.
As noted in my recent articles, long term investors should not focus on short term losses which may be inevitable due to the dynamics around the solar industry. While the charges and losses announced by these companies are very real in terms of their effect on book value, the majority of these losses reflect in greater part non-cash reevaluations of assets than the company's ability to generate profits in the future.
The damage created by legacy mistakes small or large in scale is generally reflected on a company's balance sheet. In some cases, compounded debt becomes unserviceable relative to potential levels of gross margin attainable. As the industry has already witnessed in the past year, many of these cases have resulted in bankruptcies. In Yingli's case, and to a lesser extent Canadian Solar, debt levels are still manageable relative to the gross margin potential derived from current industry dynamics. Both companies are among the lowest cost producers in an industry which has expanded at an extremely high annual compound growth rate. Once production costs become normalized as highlighted in previous articles, the lowest cost producers in the industry should once again generate enough gross profits to return to corporate profitability.
Additional disclosure: No position in STP, CSIQ.