Jinko Solar's Time Has Come

| About: JinkoSolar Holding (JKS)

Summary

The earnings call produced good numbers.

The spin-off the downstream business brought exceeded expectations.

The company's strategy is reasonable, but there are some things to keep in mind.

Introduction

I started covering Jinko Solar (NYSE:JKS) more than a month ago, but back then I came to the conclusion that the company was suited only for a speculative position because there was little clarity about its current position after the spin-off of its power business. The speculative position was justified by a better than expected outlook for the module industry and a valuation that was below anything rational, as the comparison between Jinko Solar's valuation and the valuation of its close competitor, Trina Solar (NYSE:TSL), showed.

For this article I'll present some takeaways from the earnings call. This should help investors to understand whether Jinko Solar is a good investment.

The Earnings call

The results presented in the first part of the earnings call exceeded most expectations. Gross margins have dropped from 19.3% in Q3 to 14.3% Q4, but the outlook the company depicted was better than expected with 8.5-9GW in module shipments by the end of 2017. The spin-off went better than I thought as it provided the company with $192M in current capital with respect to the -$40M the company had estimated for its module business in Q3. It also generated a profit of $145.2M

The Q&A of the earnings call was disappointing. It appeared that the analysts had decided to conduct an industry survey on ASPs (average selling prices) and the demand for solar panels in China, which is something they should do on their own in my opinion. There were little to no questions regarding strategic choices or regarding the impact of the spin-off on the company's financials. I felt that the management team became increasingly frustrated during the call, even though they actually did a good job in preparing their ship for upcoming storms (if there should come any). I am happy to be aboard as an investor also because I think their medium-term strategy is reasonable.

These are the salient points from the earnings call:

  1. The company has firmly established its industry leadership in terms of volume and continues to be a cost leader.
  2. The order-book is almost full for the first half of 2017 and it's at one-third for the second half. This totals to around 66% for 2017. In Q3 the order-book for 2017 was at 30%.
  3. Demand from the US tumbled but was more than compensated by demand from emerging markets and the Asian-Pacific countries.
  4. The company sees strong demand for high-efficiency modules, such as its PERC mono modules, while there is actually not enough supply. Since these also offer higher margins with respect to other modules they have in their product portfolio, they decided to ramp up their in-house capacity for wafers and cells used in high-efficiency modules.
  5. ASPs should be stabilizing in the first half around $0.38 while in the second half the management expects a drop of 10% to 15%. Production costs should drop by at least 8% to 10% during the same time.
  6. Customers and suppliers alike seem to be more interested in establishing long-term strategic relations with industry leaders rather than engaging in price-based transactions.
  7. The price of polysilicon has stabilized but remains high.
  8. The company has improved its current capital from $-40M to $192M, the sale of the power unit generated a $145.2M profit.

Some comments regarding the earnings call

As the cost for modules goes down, the relative portion of module costs with respect to the total cost of a solar project goes down as well. Thus, the efficiency of modules will become more important because a 1% increase in module efficiency will almost entirely translate into a 1% decrease in the cost of the entire project. This is why investing more in the production of high-efficiency modules is a good move. High efficiency will also become increasingly more difficult to achieve by smaller producers, which raises the bar for new entries.

ASPs seem to be decreasing faster than production cost, (by around 3%), and this will probably reflect in margins during 2017. The management gave a guidance of 12-15%. On the other hand, this will be mitigated by the increased investment in high-efficiency modules. If ASPs go down faster than production costs also on an industry level, it will certainly impact competitors much more than it does impact Jinko.

I also welcome the idea of expanding the in-house wafer capacity from 5,000 to 7,000 in sight of the rising competitive pressure by upstream suppliers, such as the GCL group. The GCL group controls 30% of the polysilicon supply and 60% of the wafer supply. During the last years it has started producing cells and modules as well, and since then has been expanding its capacity aggressively. This means that there is a chance that the company leverages its dominant position in the wafer and silicon market to have an advantage in the module production. It is therefore not very surprising that the polysilicon price is currently higher than it should be, as the management pointed out. My hope is that Jinko Solar will find a way to drive the costs of poly-silicon down by strategic partnerships or even by securing its own source.

Satisfactory financial position

Finally, improving the company's financial position completes the positive picture, as the following statistics show.

Source: Q4 earnings, calculations by author

Even though the company's financial position is much better than it was before the spin-off, for Western standards it could be better. The acid test (current assets minus inventory and current liabilities) is negative. This, however, shouldn't be a concern because the difference between acid test and current capital is given by inventory and the order book is basically full. The current ratio is acceptable, but cash-flows from operations were still a negative $96M in Q4 (up from a negative $179M in Q3). This was discussed during the Q3 earnings call and the management cited longer payment terms in China because of more difficult market conditions. So, it is probably a good idea to keep a closer look at payment terms and try to understand whether the current position is satisfactory even under the assumption of more difficult market conditions.

Conclusion

The majority of investors think that the solar industry is characterized by throat cut competition, low barriers to entry and dependence on the mercy of politics.

My view is that the dynamics of the PV-industry are changing. Solar energy has reached cost-parity in a growing number of places, which makes it less dependent on governmental support. At the same time, it seems to me that the industry is consolidating, which favors a handful of tier-1 producers while smaller competitors are pushed out of business. Among the industry leaders, Jinko Solar seems to me by far the best choice because of its leading cost structure, its large volume and its competitive product portfolio which is based on proven technology. The company is profitable since 2012 and in a better financial position than many others. At the same time, the stock is utterly undervalued, not only compared to the stock market in general, but also in relation to competitors.

There are two risks to keep in mind, though: the first one is competition from the GCL group. The second are potential liquidity problems in tough market conditions. The company's current position has improved dramatically, but cash flow from operations was negative in Q3 and Q4, which is why a closer look at the 20-F is justified to be sure that difficult conditions can be overcome without problems.

I also believe that the high volatility of the stock during the past days shows that the market is not sure in which direction to move. Two good news, even though largely anticipated, i.e. the 1.18GW project with Marubeni and the phasing out of antidumping tariffs in the EU came in after the earnings call.

For long term investor that can handle volatility, I see the current ups and downs as a good way to slowly build a larger "investment" position by buying at the dips.

Disclaimer: The article reflects my personal opinion and reality to the best of my knowledge, but I can't guarantee for content or outcomes. Please do your own research before making any investment decisions. Be aware that investing in a single stock may lead to complete loss of capital.

Disclosure: I am/we are long JKS.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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