10 Small Caps to Rule Them All

Small-cap companies are absolutely one of my favorite areas to research because you can often uncover hidden gems that analysts have neglected or simply not discovered yet. They can offer the ultimate risk-vs.-reward ratio, but they are not for the faint of heart.

This 10-week series is dedicated to finding the 10 small caps to rule them all. Here are the previous six choices:

This week I want to highlight Chinese solar cell manufacturer JA Solar (Nasdaq: JASO  ) .

What it does
JA Solar, as its name implies, develops and manufactures photovoltaic solar cells in China. In English, this means the company produces panels which transform sunlight into usable electricity for businesses. Revenue increased by 211% last year to $1.78 billion from $572.5 million in 2009 while annual gross margins rose from 12.8% to 21.7%.

How it stacks up
Two things are vital to the success of solar-based companies: keeping costs under control and consistently bringing in new contracts. For JA Solar, worrying about new business is not in its game plan. The company has roughly 90% of its production for 2011 under contract already, leaving little worry about future cash flow.

Company

Q4 2010 Cost Per Watt

Forward P/E

PEG Ratio

JA Solar

$1.02

4.8

0.32

Trina Solar (NYSE: TSL  )

$1.16

6.5

0.41

First Solar (Nasdaq: FSLR  )

$0.75

12.2

0.65

SunPower (Nasdaq: SPWRA  )

$1.71

6.5

0.29

LDK Solar (NYSE: LDK  )

$0.85

4.1

0.18

Canadian Solar (Nasdaq: CSIQ  )

$1.51

5.6

0.34

Sources: Yahoo! Finance and company filings.

Despite what looks like a very inexpensive sector, speculation of an eventual slowdown in orders has been factored into prices, keeping this sector at very low P/E multiples.

You’ll notice that solar companies with higher costs per watt trade at considerably lower multiples than First Solar, which by all standards here is aggressively priced. JA Solar has one of the lowest cost per watt averages of the bunch and the second lowest forward P/E ratio, trailing only LDK Solar. The reason LDK isn’t the go-to choice relates back to contract worries. LDK doesn’t have nearly as many orders lined up for 2011 as JA Solar and would suffer considerably if demand dried up -- as would rival Canadian Solar. Based on the above information, JA Solar seems reasonably undervalued compared to its peers. Now let’s see if that could translate into making you money.

How it could make you money
First and foremost there’s something to be said about the security of free cash flow. Because JA Solar has approximately 90% of its production contracted out, you can buy into the company with the confidence that a demand slowdown won’t affect you much. It’s true this is a double-edged sword -- JA Solar’s margins will suffer if solar cell prices rise, given that its production contracts can’t be modified -- but the prospect of guaranteed cash flow is too enticing to pass up, especially in turbulent markets.

The debate over the safety of nuclear energy following the tragedy in Japan has stirred the pot as to whether solar-based energy generation should be expanded. JA Solar and its proximity to Japan could play a large role in the company obtaining a considerable boost in business from the rebuilding process.

Finally, the company metrics say it all. JA Solar already boasts one of the lowest cost per watt ratios and is trading below five times forward earnings. After producing nearly $194 million in operating cash flow last year and increasing shareholder equity by 38.5%, I see no reason why this solar cell manufacturer doesn’t deserve a spot in the 10 small caps to rule them all.

What’s your take on JA Solar? Share your opinion in the comments section below and consider adding JA Solar as well as your own personalized list of stocks to MyWatchlist.

Also, feel free to get your copy of our latest free report, 3 Stocks for $100 Oil.

Fool contributor Sean Williams owns shares of Golden Star Resources but has no material interest in any other companies mentioned in this article. He laughs at those who have invested in solar, yet live in Seattle. You can follow him on CAPS under the screen name TMFUltraLong. Buffalo Wild Wings is a Motley Fool Hidden Gems selection. First Solar is a Motley Fool Rule Breakers selection. The Fool owns shares of Allegiant Travel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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  • Report this Comment On April 22, 2011, at 12:53 AM, sailrick wrote:

    I agree with you 100% on JA Solar. However, you have to be careful making comparisons with Trina Solar and LDK Solar, which have more vertical intergration. So its a bit of an apples and oranges thing. Doesn't LDK also sell wafers?

    First Solar is about to face some competition from GE and another new company, whose name I forget, but I think is from Colorado. They will both be making cadmium telluride solar.

    "speculation of an eventual slowdown in orders

    has been factored into prices"

    I see more like -'speculation of a short term slowdown in orders having been overly factored in to prices' Eventually, this industry will really take off. Potential untapped markets are huge. China will start soaking up large amounts of solar domestically, if their pace of wind energy development is any indication of what they will do with solar.

  • Report this Comment On April 25, 2011, at 11:01 PM, noggenfloggen wrote:

    What are the insiders Doing? Buying or selling?

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