Solar Shakeout Coming to China

Just how weak has the solar industry gotten in China? Even the Chinese government can't seem to save the industry from its own problems or the challenges facing the global industry.

LDK Solar (NYSE: LDK  ) finally reported earnings for the second quarter this morning, and they were terrible, as I expected. Net sales were just $235.4 million, net loss was an incredible $254.3 million, and gross margin was negative-65.5%. The numbers have been bad in solar, but this was incredible.

Last October, I said LDK Solar was the riskiest stock in solar because of terrible margins and a high level of debt. The narrative hasn't changed in the past year; in fact, it's gotten worse. And so has the stock.

All three companies I listed as high-risk -- LDK Solar, Suntech Power, and Hanwha SolarOne (Nasdaq: HSOL  ) -- have had massive declines in price, and they're all reporting big losses.

LDK Chart

LDK data by YCharts

Now, this isn't to say that others have done better on the market -- far from it. But U.S. companies such as First Solar (Nasdaq: FSLR  ) are starting to see operational improvements, not decline. And markets in the U.S. and Europe are starting to close off Chinese manufacturers just as their markets are becoming truly sustainable.

Shakeout comes to China
Solar companies have been going bankrupt in the U.S. and Europe for well over a year now, but China has largely been left alone, at least on the module side. That can't last forever, with the amount of debt outstanding on manufacturers' balance sheets, and there are signs that China is starting to capitulate.

The reaction to the declining fundamentals is a slow rationalization of overcapacity. Trina Solar (NYSE: TSL  ) announced that it will focus on its systems business and reduce expenses and headcount in its normal manufacturing business. Suntech said today that it will cut cell capacity to 1.8 GW, which would "affect" 1,500 employees in China. The company's module capacity will remain at 2.4 GW.

These aren't out-and-out white flags from solar manufacturers, but I wouldn't expect a quick decline of Chinese manufacturers. Capacity will slowly be taken off the market, financials will get worse, and slowly companies will consolidate with the assistance of the government, which has provided loans for expansion to nearly all of them.

Who is in trouble?
LDK Solar is still on the top of my list of companies that will eventually go under, but it isn't the only one. I look at gross margin as an indicator of health, and any company with a low-single-digit or negative margin at this point is in serious trouble. But what really worries me is debt, especially short-term debt that can pull the rug out from a company.

ReneSola (NYSE: SOL  ) posted a negative gross margin of 0.6% in the second quarter, and with $691 million in short-term debt, this would be near the top of my list of stocks to avoid.

Rounding out my list is the largest module maker in the world -- Suntech Power. This company has gone through fraud problems and debt woes, and now it's cutting capacity. The company hasn't released second-quarter earnings yet, but we know the gross margin should be about negative-10% and that it had short-term debt of $1.6 billion and total debt of $2.3 billion. That has disaster written all over it.

China's strategy changes
The changes for Trina Solar and Suntech are just the tip of the iceberg for Chinese solar manufacturers. More companies will have to transition away from money-losing operations, especially if Europe imposes tariffs the way the U.S. did. Even strong Chinese companies like Yingli Green Energy, Trina Solar, and Canadian Solar have a lot of question marks ahead.

So who is actually making a profit in solar with all of these headwinds? You might be surprised to hear that it's American company First Solar. We've highlighted how the company has done it and what the future looks like in our premium report on the stock. Click here to find out more.

Fool contributor Travis Hoium has no position in any company mentioned. You can follow Travis on Twitter at @FlushDrawFool, check out his personal stock holdings, or follow his CAPS picks at TMFFlushDraw. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days. The Motley Fool has a disclosure policy.


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  • Report this Comment On September 18, 2012, at 10:20 AM, energyforecast wrote:

    Ok, clearly First Solar fooled all of these article writers. The sad truth is that FSLR is playing an hype, and it's working, but it won't work for long. Think about it, if "track record" (old news) and "financing" (totally irrelevant and unrelated to your products) are the best strategies you can offer, then aren't you really saying you've got no strategy at all. I'll explain that a bit further later, but here's the core point. FSLR is about to be crushed by TSL and YGE because a new technology http://bit.ly/RSj6QO is coming onto the market late this year or early next. This next factory production equipment will be utilized by TSL and YGE and it will enable their power plants to beat grid parity (the true game changer). Heck, FSLR's cost/watt is already too high and here are the independent reports proving it: http://bit.ly/Oxhn2Q http://bit.ly/SUgLMp Article writers see that FSLR appears to be profitable now, but we all know their "project pipeline" is boosting their current income statements because OLD project are just now getting executed (and the financial results hitting their books). Ok, back to FSLR's con: Their current "strategies" are to boast their name/experience, offer financial support, and even operate power plants. Note that their name/experience wasn't worth crap as the chinese took 60% in just a few years , so why on earth would anbody think it's valuable now? In reality, it's even EASIER for TSL and YGE to take market share because unlike before they are established. As for financing, interest rates are lower than ever. Financing is not a challenge. Finally, FSLR operating their power plants is a waste of the stock's remaining value (FSLR's cash). Reason: Their power plants are unfortunately not cost-effective.

    In summary, companies like TSL can use the new GTAT technology. FSLR cannot use the technology because they are thin film. Thus, it won't be long before their "pipeline" runs out and their out of the game. Unless something dramatic happens and changes the long term picture I'm long on TSL and GTAT. I honestly appreciate responses to my comments if they are well thought out and based on solid info/data. I've put my prediction out there, and fully justified it, so can you fully justify yours? If so, let's hear it, but only if you can fully justify your forecast/prediction.

  • Report this Comment On September 18, 2012, at 1:37 PM, TMFFlushDraw wrote:

    @energyforecast

    I don't disagree with you about GTAT or its technology. Those who are high on YGE or TSL like to overlook their balance sheets though. What is YGE going to do with billions of dollars of debt?

    I don't think FSLR's manufacturing is worth much of anything but it has a long history of projects and a huge pipeline. It could transition that to modules if it needs to or even buy a module manufacturer. Heck, it could even build a plant with GTAT equipment or even buy GTAT altogether.

    There is nothing differentiating Chinese manufacturers, which is why their margins are terrible. I talked to GTAT's CEO a couple of months ago and he doesn't even see China as the demand source for its new equipment. Europe and the U.S. will be bigger.

    The bottom line is that a company with billions in debt and single digit or negative margins can't survive. TSL has a shot but it's a long shot.

    Travis Hoium

  • Report this Comment On September 18, 2012, at 2:01 PM, energyforecast wrote:

    If it were plausable I'd invest in them, but FSLR won't build a plant that utilizes next generation GTAT equipment because 1. it's counter to their thin film foundation and credibility.....and 2. they'd still be competing with low cost chinese labor so what's the point. For those who can really digest the financials, TSL is just fine, YGE is ok, and both have the lowest costs. Not only that, TSL is reducing costs further http://yhoo.it/RnNGb5.

    Travis, I've thought about this quite a while, ensured I wasn't biased, double checked my data/facts, and here's where it took me: I think TSL and YGE are they're basically just pretending to be asleep right now. After all, they might as well try to minimize tariff penalties coming out of Europe as well as the final verdict of US tariff penalites. Note that the US penalties not 100% set yet so there's no sense. It doesn't really matter though, because there are 10 times as many people and companies OUTSIDE of the US and Europe. Think about China's domestic installations, India's grid issues, Japan transistioning from the nuclear reactors, Australia, Saudi Arabia, etc. The markets are 10 times bigger elsewhere in the world, and those economies are growing at 5%+, not saddled with debt stagnation.

    Cash on hand is what's critical, and TSL has $600m cash on hand (far more than enough to execute an FSLR death). The long term debt is just that, long term, but can nevertheless be repaid quite quickly once Chinese government pulls the trigger on that "15 GWs by 2015" goal they repeatedly publish. From their it will be off to the races. Better still for a company like TSL they'll soon be able to buy production assets/equipment from their late-to-the-game neighbors (STP, LDK, and SOL) for pennies on the dollar.

    This crash in solar prices will likely have turned into a blessing for TSL and YGE, which almosts makes me wonder if the two expanded production deliberately for this upcoming outcome. Nah, couldn't be, right?....or could it? I'm long on TSL and GTAT for very good reasons, and the short sellers (institutional investors/hedge firms) are all over FSLR for the very same reasons.

  • Report this Comment On September 18, 2012, at 5:15 PM, energyforecast wrote:

    By the way, it's kind of ironic isn't it? I mean, the US and Europe screamed for low cost panels, created subsidies, and lured China into helping them. China said "ok", invested billions into factors, and now they're holding the debt the US/European governments are yanking away the subsidies. Not only that, instead of appologizing they're slapping them with tariff penalties. The Chinese must be so pissed right now, and that's yet another reason why that I wouldn't bet against them or the 5yr/15GW plans of their government. US/Europe. It's best for TSL and YGE to lay low and stay quiet for a moment (and try to limit the magnitude of the penalties). Thereafter, it will be safe to run with the expansion plans and finishing the job (completely taking over the solar industry). I know I know, I sound a little strong here, but I'm just trying to get my points across in a clear way. Bottom line: I think TSL has a bright future, and as soon as they can offer grid parity the revenues should skyrocket. Energy is not an industry, it's ALL industries, because every industry requires power.

  • Report this Comment On September 18, 2012, at 5:30 PM, energyforecast wrote:

    Sorry, no editing in this comment system, so here's a re-post with improvement: By the way, it's kind of ironic isn't it? I mean, the US and Europe screamed for low cost panels, created subsidies, and lured China into helping them. China said "ok", invested billions into factories, and now that China's holding the debt associated with building those factories, the US/European governments are yanking away the subsidies. Worse, instead of appologizing for this trick the US and European governments are slapping the Chinese companies with tariff penalties. Dig deep and ask yourself: Who is really being more unfair or unethical, the Chinese for giving us panels for less than their cost to make them (and losing money doing it).....or the US/European governments who tricked the Chinese solar companies into this mess of reduced demand, debt, and now penalities? My guess is that the Chinese are really pissed right now, and it's yet another reason why I wouldn't bet against them or their government with 5yr/15GW solar plans. I know it's been quiet, but it's best for TSL and YGE to lay low, don't report impressive financials, and do what they can to limit the magnitude of the penalties a bit. After all, it's kinda hard to kick a sleeping horse, isn't it? Thereafter, they'll likely run with the expansion plans and finishing the job of completely taking over the solar industry. I know, I sound a little strong here, but I'm just trying to get my points across in a concise way. Bottom line: I think TSL has a very strong future, and as soon as they can offer grid parity (via cost reductions, next generation GTAT equipment, etc.) their salesshould skyrocket with incomes improving along with it.

  • Report this Comment On September 18, 2012, at 11:30 PM, AlicenBlundrland wrote:

    There are several metrics to look at for solar companies. The primary fundamental is Opex+Interest to determine viability. All things equal if the industry ever stabalizes with target ASP at the mid $0.55 range then companies that can keep 20% margins would generate gross profits of $0.11 +/-. Companies today like LDK at current volume shipments have Opex and interest at $0.33 per watt. At fully loaded this falls to $0.15. Companies like Trina Solar is currently in the $0.18-$0.20 range per watt produced and with current capacity fully loaded would be around $0.15. A company like ReneSola at is around $0.09-$0.10 in Opex and interest per watt today.

    In the current downturn this is creating serious shareholder equity erosion for most. At this time cash preservation is at a premium for most. Several of the companies have heavy cash flow generation burried into some of those negative margins through built in depreciation costs. Those that have the lower cost and have the cash flow from depreciation even with lower margins may burn at a lesser rate.

  • Report this Comment On September 19, 2012, at 3:20 PM, energyforecast wrote:

    TSL has $600m cash, long term debt is far less than their Chinese competitors, and they are decreasing their costs even further. http://finance.yahoo.com/news/trina-solar-streamlines-operat...

    Additionally, the Chinese government is just about to move on 15 GW worth of solar installations before 2015. Either one of these, let alone both of them, will cause the cashflow concern to go away. In fact, profits will return.

  • Report this Comment On September 19, 2012, at 4:05 PM, clanza875 wrote:

    I dont understand why FSLR wouldnt simply switch to this new technology if it was so wonderful.

  • Report this Comment On September 19, 2012, at 6:55 PM, energyforecast wrote:

    Two reasons. FSLR won't switch from thin film because their entire name and credibility are based on it, and even if they did they'd still be left competing against chinese competitors with lowest labor costs. Their only long shot is the ridiculous "strategy" they are applying now.

  • Report this Comment On September 20, 2012, at 8:27 AM, clanza875 wrote:

    Do you really think they would just stubbornly stand behind thin film if there was a more efficient cheaper alternative? I think there is more than enough room in this world for both an american and a chinese company to thrive.

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