Should you buy a company that lost $1B last year and continued to produce losses in Q1 this year ($133M) and that has a debt/equity ratio of over 200%? Well, we're speaking about Suntech Power (STP) the biggest producer of photovoltaic panels in the world. Well, we think it's time to start accumulating even these beaten up shares on dips, here are our reasons.
We know the industry is experiencing a lot of overcapacity and hence falling prices (solar panels are a near commodity, with suppliers enjoying little pricing power). Market conditions are downright terrible, and quite frankly, little improvement is yet to be noticed. But demand is still increasing.
In their last earnings call management mentioned a number of markets specifically, the US, Saudi Arabia, and Japan. About the US, they said the following:
I think in the U.S. we plan to continue to hold our number one position. We were probably 21% or 22% last year. And I think we'll see that grow some this year.
Since the US market is growing at a fast clip, this offers a notable opportunity:
"The U.S. had a blistering amount of solar installations in the first quarter of 2012 with an impressive 506 megawatts -- a record for typically slow first quaters and second only to the 780 megawatts installed in the previous quarter…according to the [U.S. Solar Market Insight: 1st Quarter 2012 report] from the Solar Energy Industries Association (SEIA) and GTM Research…[Newenergynews]
It is also good to keep the following in mind:
In the United States, solar power now costs less than 20 cents per kilowatt hour - less than many Americans pay for electricity. [Capitolweekly]
You might wonder whether the 34%+ tariffs on Chinese panels provide any stumbling block but management assured that they would source the US markets from facilities outside China.
Regardless of the final outcome due to Suntech's global sourcing channels, no products that we manufacture in the U.S. or ship to the U.S. today are subject to these tariffs. [Q1 CC]
Japan is another interesting market because of the nuclear disaster and subsequent decommissioning of nuclear reactors:
it is clear that solar will play a much more important role empowering Japan. We have invested heavily in building our team there for the past six years and we are now the number one foreign solar brand in Japan. [Q1 CC]
Saudi Arabia is another country that offers good opportunities for expansion. Obviously sunshine is rather ideal, and money not much of a problem, and the authorities have announced a program to install 41GW by 2032.
But the killer opportunity is China, which has just announced a quintupling of installation targets by 2015. Better still, this year there will already be a notable ramp-up in installations.
According to IMS Research, between five and seven GW worth of photovoltaics will be installed in China in 2012. It forecasts that over four GW will be added in the second half of the year alone. [PV Magazine]
This is more than double (or even three times) the installations in 2011, with 2GW of installed panels. Now, with Suntech being the biggest of the Chinese solar panel producers, how important is the home market for the company? This is what the company said in their last CC
And in China, we will increase the percentage of our revenue that comes from the Chinese market overall as a percentage of our total revenue, but I don't think we have a specific market share target for China.
They were then asked whether that was still in line with 300, 400 megawatt mentioned in the last quarter, to which the answer was that it would be in line with that or above. Considering the recent acceleration in the Chinese market, lets take that at 400-500MW. They predict to ship 2.1-2.5GW, so the Chinese market could constitute up to 20% of shipments.
That's this year, which, due to overcapacity and falling ASPs (average selling prices) will still be extremely challenging for the sector. Suntech predicted that prices will fall another 10% in Q2, after having done so in Q1. However, next year the Chinese market is likely to ramp-up much further, and with solar energy now being close, or even at grid parity in ever more areas, demand isn't likely to disappoint.
Something to take heart from is also the following statement about the German market, still the biggest in the world:
investment returns on residential and commercial solar systems should drive substantial ongoing demand in these market segments. In many ways, we are witnessing the transition to the grid parity market in Germany as solar tariffs for below retail rates for homes and businesses. [Q1 CC]
While the market conditions are terrible, one has to keep in mind that this falls disproportionably on the weaker and smaller players. Buyers of panels want to know whether companies will be around in 10 years. This is the so-called bankability advantage of big established players like Suntech (they don't come any bigger than Suntech, as it happens).
Yes, there is tremendous overcapacity in the industry. Here is GTM Research:
GTM Research's report, meanwhile, says that production capacity for photovoltaic solar panels is 59 gigawatts for 2012, while only 30 gigawatts are expected to be sold around the world. As panel prices keep falling, some 21 gigawatts of production are seen being retired by 2015. [Investors Business Daily]
But guess what? As a confirmation of the bankability issue mentioned above, Suntech could very well produce at full capacity. According to Clean Energy Intel:
the company remains optimistic about overall demand, guiding towards a 20% increase in shipments in Q2. Moreover, they continue to see shipments for the year as a whole of some 2.1 to 2.5 GWs, a range straddling their total capacity of some 2.4 GWs.
That means that capacity is being cut elsewhere, rebalancing the industry. That doesn't mean the likes of Suntech are impervious to the terrible industry conditions, they still suffer from the falling ASP's as a result of that overcapacity. But with demand growing steady, and companies actually going bankrupt and curtailing capacity investments, the picture will gradually improve.
Due to massive price falls of polysilicon, the competitive position of the crystalline silicon (c-Si) based producers has drastically improved versus the various 'thin film' producers, with their more automated production processes like First Solar (FSLR). Thin film based panels used to be cheaper, albeit less efficient (and therefore less suitable for rooftop installation, as they simply need more surface). But the cost advantage of thin film has rapidly eroded.
What's more, panels have gained competitiveness against other solar technologies, like concentrated solar power (technologies where sunlight is concentrated via mirrors to some liquid which heats water, the steam of which is powering turbines).
Suntech's new Pluto cells have reached a milestone at 20% efficiency, which is very good.
With entry barriers low, the danger is always present that the technology landscape will shift again, like it is now doing against the thin film producers. This is why we also keep an eye on emerging technologies.
As you see in the graph above, Suntech is only the sixth most efficient producer of solar panels. This is a bit of a glass half-full or half-empty situation. While not as efficient as Yangli (YGE) and Trina (TSL), there is considerable room for improvement. And indeed, the company is working on these.
It is negotiating long-term polysilicon contracts, as the spot price has fallen way below these. While the impact of these renegotiations will be small, the fall in polysilicon prices itself is very helpful:
A Bloomberg survey estimates that the spot prices of the raw material may continue to fall over 9% over the rest of the year despite prices being at their lowest point in over a decade [trefis]
There are a host of other initiatives going on as well. They have reigned in accounts receivable and inventories to the tune of $65M in Q1 [Q1 CC]. They reduced total production cost by 6% sequentially, but the company has further room for improvement:
We currently target module cost of goods sold of between $0.90 and $0.95 per watt in the second quarter, around $0.80 in the third quarter and less than $0.75 by the end of the year.
And we now expect our end of year wafer processing cost to be $0.15 per watt from $0.22 per watt previously. [Q1 CC]
Trina solar has indicated that they are already at poly to module conversion costs of 58 cents and expect those costs to fall to 50 cents or below by year end - ten cents below STP's target. [Clean Energy Intel]
No, the figures are not pretty, far from it. But the market has started to rebalance and the aggressive recent Chinese targets could, together with declining capacity, be a game changer. While Suntech suffers from falling ASPs as much as any solar supplier, it is producing relatively close to full capacity, commands a slight premium in prices, and has ample room to reduce cost.
This market can turn on a dime, the first whiff of good news can propel these solar stocks higher by tens of percentage points. You can either wait for that moment, which can't be far off, or start accumulating already on dips.