PV Industry in Oversupply in 2008

I've recently gone from near-term bullish to bearish on the PV stocks based on two trends I see emerging for 2008-2010. First, that cells and panels will be in major oversupply by year-end 2008 and second, that demand is set for a pause due to declining or delayed incentives in Germany, Spain, and the US.

I've compiled a table of YE capacity for 2008 - 2010 for over 90 manufacturers of solar cells (see bottom of article), indicating my source for each company's number. A solid starting source is the Lehman Bros 11/1/07 report initiating coverage on the sector. However, that report is already outdated and its cell capacity data somewhat incomplete to begin with; I've relied on more current data from a wider set of sources including company earnings reports, presentations, websites, or other press articles.

Supply and Demand

Bottom line: by the end of this year, 2008, cell producers will have installed capacity of 12.2 GW annual production according to present manufacturer plans. When you add in solar thermal capacity (Ausra, Schott) that number grows to 12.9 GW. Looking ahead, the 2009 end-year production capacity is simply enormous, at 17.2 GW. Is this a problem? Oh, yes, when you look at the demand estimates. Match the year-end 2008 capacity of 12.2GW with 2009 demand: the EPIA optimistic ("policy-driven") estimate of 2009 world-wide demand is 4.3GW. Lehman calls it 4.8GW. Merrill Lynch has 5.2GW. A Q-cells presentation referred to a UBS number of 8GW. Even if you de-rate the 12.2GW number to account for "actual" vs. "nameplate" capacity; even if you attempt to adjust for "press-release" vs. "actually built" capacity, the numbers are still very out of balance. Even the most optimistic 2009 demand guesses fall far short of what the industry intends to produce.

The PV industry is heading for at least 50-100% capacity oversupply.

To put that in context, consider that stock prices in the similarly fast-growing LCD panel industry regularly drop in half, or double, as the industry's supply and demand move out of balance (up or down) by a mere 10%. The situation quickly approaching in the PV business is much more dramatic. While there have been recent rumblings about oversupply, I expect the 2008 installed capacity number of 12.2 GW to come as a surprise to many. Lehman, for example, as recently as their 11/1/07 report, has 2008 end-year production capacity at 7.8GW.

What's Changed?

While manufacturers have been aggressively ramping for the last 18 months, since October 2007, the rate of capacity increase announcements has recently accelerated to new highs. Not only does everyone want in to PV, but they all know they need to scale up to top-10 status in order to stay viable. In addition, PV has relatively low barriers to entry. Taiwan manufacturers, for example, see PV as a new opportunity requiring less investment and less risk than offered by the chip/components businesses and are now moving in. They will not abandon a fast-growing market to the mainland. See, for example, Gintech's 2008 plans for 580MW. The Chinese producers have recently been accelerating plans to maintain their scale advantage, and thin-film companies are accelerating plans in order to leverage their cost advantage. Silicon-based manufacturers are increasing thin-film investments as a risk mitigation measure. Second tier players understand the need to achieve scale; I've seen no less than three companies indicating they intend to be #3 in the industry in a couple years. At the same time production plans are accelerating, the world-wide subsidy picture is somewhat slowing. In Germany, feed-in tariffs for new projects decline annually, but there are plans (based on biennial review of the EEG program) to speed up the decrease, ultimately to 9.5% annual declines for large projects. Whether this begins in 2009 or 2010 is unclear, but it will certainly pressure the economics of projects and, thus, the price points of suppliers. The Spanish situation is similar. There is a present burst to get projects turned up by this September in advance of legislative changes to reduce tariffs by roughly one-third. In the US, of course, the demand picture is completely unclear since Congress failed to address PV incentives in the recent energy bill. My guess is that in an election year, with a poor economy, and a recently-demonstrated lack of political support, the industry will be lucky merely to see present incentives extended a few years.

Poly - Enough Already!

What about polysilicon? Some industry participants and analysts believe that "constrained" poly supplies will limit cell production to sane levels. Perhaps, in 2008, but not in 2009. Lehman (and other) analysts contend that poly prices will stay strong throughout '08 and that somehow, this is an indicator of a healthy market for PV. I believe that's incorrect. Spot poly prices are a lousy indicator of end demand; they are, however, a good indicator of producer manufacturing plans. To me, they highlight a looming, large margin problem for producers. Given large, unused cell capacity, and rapidly growing poly capacity, I believe the industry will see two distinct margin effects. First, as poly supplies increase, cell production will increase as capacity is enabled. Cell production will rise to an oversupply level as manufacturers must put their recently invested capital to work. Poly prices will remain firm as cell production rises. Cell ASPs will fall as oversupply is reached. Margins will be compressed. The second margin effect will come into play as poly production continues to rise (the industry expects poly production to attain oversupply levels by 2010 or sooner). Spot poly prices will contract severely, possibly below contract poly prices (spot's around $300-$400, but was as low as $35 before the boom. I believe contract is around $70-ish). In this case, as cell ASPs continue to erode, some manufacturers may be trapped between their slow-changing contract poly prices and declining spot cell prices, as other manufacturers compete with cheaper poly purchased on the spot market. This sort of whipsaw price action, as supply/demand trends vacillate, plays havoc with margins. Ultimately, things will settle down with both poly and cell markets in oversupply until demand catches up.

For the last year, the attention of analysts has been focused on poly pricing and whether manufacturers have "secured" their poly supply for 07 and 08, as each manufacturer ramps their capacity assuming unlimited demand. This is a dangerously backward-looking view. Analyst focus needs to shift from yesteryear's poly problem to this year's supply/demand imbalance problem. The key question for 2008/2009 margins is this: which ASP declines faster - poly? or cells? I believe that, as increasing poly supplies enable cell overproduction, and as cell manufacturers keep producing, we will see cell ASPs drop much faster than poly. Look at the numbers yourself, and just think through the likely scenarios.

2008 Situation

I've focused on end-year 2008 production capacity with physical oversupply in 2009. What about 2008 supply/demand? Lehman estimates 2008 demand at 3.5GW, growing from 2007's 2.4GW. Lehman sees 2007 endyear capacity at 5.3GW and, to their credit, identifies oversupply as a potential 2008 issue in the cell market. Simply put: 2008 may already see potential oversupply of up to 40-50%. I can only assume many believe that in 2008 actual cell production will still be constrained by poly shortages. I would point out that poly shortages are extremely unlikely to prevent meeting 2008 demand levels (only 3.5GW) although they may prevent suppliers shipping at max capacity levels. Hence, in 2008 investors will already start to see the choice suppliers face in committing to overproduction and weakening margins, or idle capacity... and weakening margins.

Manufacturer Behavior

One should not assume that manufacturers will see the problem coming and adjust their capacity plans accordingly. They will not. In rapidly growing industries (I've personally watched this in ethanol, LCD panels, disk drives, and housing), manufacturers set goals on desired market share several years out. They must plan to achieve sufficient scale and share in the market as it will exist when the capacity is built. This invariably leads to oversupply in the near-term and dropping ASPs and margins as the market shakes out who will ultimately lead the industry. The PV business is no different. Major participants are making GW-level production plans (SunTech (STP), Sharp, Q-cells; published) in anticipation of grid parity. Someday, it will likely payoff. Near-term, however, there will be oversupply and margin compression. Consider the timeline to reach 2008 end-year capacity. I believe PV capacity has a roughly 18 month timeline from plan to turn-up. Plans, budget, financing for this year's capacity were set last year. Buildings are getting built already. Production equipment orders presumably have 6-9 month leads and have either been placed or will be 1Q08. Capacity turn-up in 3Q-4Q 2008. Basically, unless manufacturers start canceling equipment orders now, the die will be cast. However, I believe no one will cancel anything since, at the moment, the industry is still in a state of Spanish mania.

Stock Impact and Timing... The Ethanol Example

So, what to do with the stocks? At the moment, traders and momentum are in control of solar stocks. When will fundamentals start hitting them? I find the ethanol industry provides the best and most recent example. By the end of 2006, it was apparent that the ethanol industry was headed for oversupply as high ethanol prices stimulated investment. Through all of 2007, ethanol prices fell in anticipation, bottoming at cash cost near $1.55 in October '07. Ethanol stocks fell as well, all year long, in anticipation of an oversupply which won't actually be cresting until 1H08 as new plants complete. The stock trend shifted downward a full year before the actual supply/demand imbalance peaked, and the stocks kept moving downward as the situation clarified. Now, ethanol prices and the stocks are both starting to rebound, looking ahead as the new RFS standard and declining investment should restore market balance by 2010 or so. In the case of PV, the Spanish market is working its way through a near-term peak right now as projects need to be turned up by Sep 2008, when tariffs drop from .44 eurocents to perhaps .31 eurocents. Working that wave back in time, panel orders to suppiers are presumably peaking in 4Q07/1Q08 for this hot sector of the market. There is hope for a similar wave of projects in 2H08 in anticipation of German subsidies declining. In both Germany and Spain, I believe 2008 sees installation peaks in anticipation of tariff reductions and the stocks will soon need to start factoring this in. Overall, without attempting to time the market, I don't anticipate having to wait very long before momentum gives way to doubt in these stocks; I think they start looking ahead this quarter (1Q08).

In my view, there will be four levels of stock reactions, from most negative to least negative, basically driven by the company's industry position. Worst hit, IMHO, will be the non-integrated silicon-based producers in the supply chain: LDK Solar (LDK), Solar Fun (SOLF), MEMC Electronic Materials (WFR), JA Solar (JASO), etc. Vertically integrated crystalline silicon producers will be second worst; the smaller they are the worse off they'll be. Evergreen Solar (ESLR), Sunpower (SPWR), SunTech Power (STP), Yingli Green Energy (YGE), etc should all react. Thin-film may have the least negative reaction because, as low cost producers, they should fare relatively better in a downturn even though their ASPs will drop as fast as the next guy's. Nonetheless, I think First Solar (FSLR) gets hit hard due to overvaluation and growing recognition that Nanosolar has a fundamentally better approach. (i.e., FSLR is king of a time window). The fourth class of stock reaction is actually positive: companies like Akeena (AKNS) actually benefit from panel price wars. Sunpower, because a significant portion of revenue comes from project business, also benefits and this somewhat offsets the hit they'll take as a manufacturer.

What Could Prevent Oversupply?

What could turn this around? This would require either a large reduction in supply, which I don't see manufacturers planning, or a very large increase in demand. A multi-GW increase in demand would require significant legislative support around the world - in 2008 - relying extensively on new money for feed-in tariffs, in advance of oversupply conditions. Given the likely world economic situation in 2008, I don't see governments deciding to massively increase 20-yr PV subsidy payouts this year. Furthermore, it's in governments' interest to let oversupply work its charms on prices to help reduce the need for further subsidies. China is offered as a multi-GW source of demand, but China's 2007 installations are on the order of 30MW; it will be several years before China is a significant source of demand regardless of government policy initiatives. Grid parity will ultimately solve oversupply, of course, but that's not happening by 2009 and it may never happen for the crystalline silicon-based suppliers. Finally, consider the behavior of large project investors as they sense that prices are starting to fall. Their economic motivation will be to increase project returns by delaying commitments and waiting for lower prices (just like prospective homebuyers in the US housing market are waiting at present); this will of course exacerbate price declines. Basically, I don't see anything solving the situation in 2008; the degree of oversupply is simply too large.

Conclusion

I'm not a pessimist on PV; there's basically infinite demand, post-parity, at sufficiently high scale and low enough prices. But the industry will have its share of booms and busts along the way, and right now, we're heading for a "bust" even as the current headlines all say "boom". It won't happen overnight; it'll take a few quarters to develop, but it is coming.

The PV industry is headed for a margin bust, shake out, and consolidation phase.

Final note: I'm not even going to talk about 2010, with current manufacturer intent in excess of 22 GW capacity. We simply won't get there.

click to enlarge

Source notes: LB – Lehman Bros, PR=Company press release, NREL=National Renewable Energy Lab report on thin-film commercialization, ER=Company earnings release.

Disclosure: I intend to trade various PV stocks, primarily with a short bias, over the course of 2008.

Comments

[sunspot]

Thank you very much for this comprehensive quantitative market analysis, which is very helpful on the background of all the chatter about the endless solar boom.
Looking at these data there is not much room left for wild fantasies.

[Yaser Anwar]

Very thorough and very well pitched.

[User 136884]

The figures you quote are year end capacity, not planned production during the calendar year backed by silicon supply. For example for Q-Cells you give 700MW in 2008, but the figure in their Q3 presentation is actually 587MW. For Suntech you state 1100MW for 2008, but they only have enough silicon currently to produce 530MW in 2008.

[User 136884]

The figures you quote are year end capacity, not planned production during the calendar year backed by silicon supply. For example for Q-Cells you give 700MW in 2008, but the figure in their Q3 presentation is actually 587MW. For Suntech you state 1100MW for 2008, but they only have enough silicon currently to produce 530MW in 2008.

[gnosis988]

I wonder if you looked backwards at 2007, what would you find? I bet that you'd find gross "overcapacity&quo... compared to demand as well, but we all know what really happened.

[SolarTracker]

1. Since supply is at year, it should be shifted to the right for proper comparison with demand.
2. Since figures at not correct. For example ASTI 25 M will not come on line until 2010. This is just one that I know of.
3. Execution is tougher than planning. Actual supply will be a lot less.

[Wafers]

Under no circumstance will NanoSolar produce your above quoted 430 MW in 2008. Although I agree that oversupply is inevitable, demand will increase significantly with a decrease in ASP's...investors not keen on existing IRR's will jump in at the required hurdle rates...Basically Spain has been a complete con-job (by the PV Industry on the Government) and too many peope many way too much money...

[Jack Yetiv]

Very well-done article, and good food-for-thought. However, there are several factors that I think you failed to address in your analysis, some of which have been alluded to above: (1) Your capacity figures are "planned," or "projected." We all know how rosy projections may be sometimes. Reality often falls far short. (2) You assume a static capacity situation--ie, companies failing to respond to developing overcapacity. Although they may not be as ahead of the curve as they should be, the companies will respond--although probably not quickly enough nor with enough cancellation of capacity to eliminate overcapacity, but I think it will reduce it substantially. (3) In the tight lending environment that exists now and probably will into 2008 and probably beyond, even if solar companies want to over-expand, they may find themselves limited by ability to borrow. Equity capital (by issuing more shares) will also be limited by the fact that many solar companies are going to get a well-deserved haircut (on top of the one they already got in the past two weeks). (4) Finally, although there will be some margin compression, I don't think it will be as serious as you seem to believe because I believe ASP's for silicon will trend downward with decreasing panel ASP's--unless a company has locked in high silicon prices and is therefore unable to reduce its silicon costs while suffering lower ASP's on panels. Of course, said company may protect itself by simultaneously contracting for BOTH silicon supply AND prices for its panel production.

As to the demand side, if the democrats come to power--especially if they control both the presidency and Congress--I would not be shocked to see solar incentives not only extended but also enhanced.

Jack Yetiv

[Vapormedia]

Global power demand is currently 3.5TW. If global production capacity is as high as 17.5GW within two years we are still only scratching at a fraction of the eventual total installed solar capacity. This is a certainty going forward making investing in solar a 'no-brainer' for the long term.

[SAR]

I talked to Yingli just few days ago. All the orders for the first half year of 2008 have been in place. I don't see over supply from my conversations with China yet.

[User 127052]

While I find this oversupply of PV report interesting, it ignores an important fact. That is, the world supply for electricity is MASSIVE compared to the PV numbers presented in the report. The future demand for PV power could be much higher than the reports expect.

That is the elephant in the room that this report ignores.

World solar electricity generation in 2004 was 0.04% of all generation. If it becomes just 0.5% in 2010, the demand numbers would go off the chart.

What if world solar must go to 3%, by UN decry in 2020?

Companies better start down a solar path NOW!!!!!!!!!!!!!!!!...... that is what they are doing. That is why most PV prouction capacity is soldout through 2009, and much of 2010.

[elfie]

nice effort but clearly this piece is being done by a short trader

it overlooks several metrics (as noted by comments above, the production stats are missing; also the demand fiqures are not all inclusive and very difficult to quantify

no analysis of total market for solar vs total overall power demand

developing countries using solar will only grow in demand (stand alone power source)

also, the over production (no one knows where this stands) may serve to increase demand as more people implement

the recovery of the US housing market in 2009 will be a factor

the improving infrastructure to implement the product

quantitative analyses are good when a thorough picture is presented

the low p/e's on these stocks are extremely compelling and its not a fad; there are barriers to entry as the improving technology will require substantial capital to keep up with the big players

production capacity as a primary factor to evaluate the market is meaningful but its not the only item to consider

comparison to ethanol is inappropriate

democrats will keep the solar initiative alive - they likely will be elected (republicans are slowly coming to realize solar importance) - article above was negative on this point

'some day it will pay off' - i would say that positive cash flows of dominant players have already reached the some day point (these are viable entities that likely will be around for the long term)

my conclusion is that this article is negatively biased and likely written by a short trader

[HogWild]

I believe that world energy consumption is 12TW. The case for Solar PV right now, plain and simple, is cost.

I think this article is also written by a trader looking to short solar PV, but there is a possibility for a dip in trader confidence for solar viability in the short term. Mark Jaccard writes about Sustainable "Fossil Fuels" and the possibility that because solar PV and other alternative energies don't mesh well with the current infrastructure and economics of energy distribution in this country that “developing renewables too quickly will be costly and will present unnecessary risks of negative public reaction” (Jaccard, 249). If this holds true, and consumer opinion of solar energy drops, I am guessing that the government will continue its current trend of supporting and subsidizing oil and fossil fuel RD&D, which as we know, spending a trillion dollars to fight a war in the Middle East for control of the resources there is certainly our area of focus.

What I don't understand is why it has been so difficult for consumers, in this day and age of "green" consciousness, have been so blind to the innumerable hidden costs of fossil fuels.

The good news:

“The sun delivers more energy per square meter of planet than we could ever need” “amounting to around 90,000 Terawatts (A Solar World, Elliot, David, 11).

I am young, but I am writing my senior thesis on solar energy and its viability, any input is appreciated.