The second quarter of 2017 will likely prove to have been a high point for Chinese solar manufacturers, which made it a key for Canadian Solar (NASDAQ:CSIQ). In results released Monday before the market opened, the Chinese-Canadian company reported an increase in shipments and revenue, but also reported a non-GAAP loss that was a little surprising given strong industry trends.
If Canadian Solar can't make money when solar module prices are rising and project values are high, when will it be able to make money? That is ultimately the question investors are faced with when they consider this solar giant.
Growth at all costs
Canadian Solar shipped 1,745 MW of solar modules in the quarter and recorded $692.4 million in revenue. Gross margin was 24.2% but included two anti-dumping/countervailing duty reversals on U.S. tariffs totaling $57.6 million. Without those one-time benefits, gross margin would have been 15.9%. What was extremely notable was that non-GAAP loss, which pulled out the AD/CVD reversals, was $9.1 million, or $0.15 per share. This compares to first quarter net loss of $6.0 million, or $0.10 per share.
Both losses are notable because, in the first quarter, solar power system sales accounted for 18.8% of revenue. In Q2, the percentage of revenue from that source fell to 6.5%, meaning Canadian Solar was relying even more heavily on its core business.
Put another way, non-system sale revenue was up 17.8% sequentially to $647.4 million, compared to the 17.9% rise in module shipments. Higher module prices may not have shown up yet, but factory utilization was up and still, Canadian Solar lost money.
This matters because Q2 was an ideal time to be a solar manufacturer in China. Demand was high, keeping factories running at full steam, and prices were rising as well, although the timing of those rising prices may hit more strongly in Q3. Some of the demand for modules stemmed from China's feed-in tariffs as well as a surge in U.S. building ahead of the Trump administration's Section 201 decision on tariffs; those drivers of sales will be short lived though, so now is the time to post good numbers.
And demand could go down in the second half of the year, particularly for commodity multi-crystalline silicon modules, which are low efficiency, don't qualify for China's Top Runner program, and are less in demand in U.S. commercial and residential markets. If Canadian Solar was going to make a big profit, this was the time to do it.
The systems business is in question
If Canadian Solar doesn't have a profitable module business to rely on, that puts a lot of pressure on the systems business. Trends appear to be strong on the system side, based on comments from First Solar and SunPower, so next quarter will be key for the segment at Canadian Solar. It sold 281 MW of projects in July and is finalizing details on the sale of another 703 MW of projects. If these projects are sold profitably, Q3 could be good even if module sales aren't very profitable. If they aren't, there's little chance Canadian Solar can make money in any segment of the solar industry.
At that point, the $2.3 billion in debt not already associated with liabilities held for sale (projects Canadian Solar is in the process of selling) would become a big problem.
Why the market is so disappointed with Canadian Solar
Shares of Canadian Solar fell after earnings came out, and for good reason. This should have been a great quarterly report and the company still lost money. Its outlook wasn't even that good.
In Q3, management thinks module shipments may fall by as much as 100 MW to the 1,650 MW to 1,700 MW range, which will put pressure on the module side of the business. As I mentioned, system sales will be recorded in Q3, and that's why revenue is expected to be $805 million to $825 million with a gross margin of 15% to 17%. That may barely be enough to make a profit, primarily because of project sales, which are one-time events.
With customers favoring higher-efficiency modules, sale prices for modules coming down, and competition heating up in the system development business, the future doesn't look particularly profitable for Canadian Solar. And the company's deterioration may be coming even sooner than expected.