First Solar (FSLR -7.59%) has delivered yet another interesting earnings report and conference call. But sales of $567 million and earnings of $0.78 per share for the first quarter weren't what surprised investors -- it was the news that the company will be going on yet another expansion spree.
This time, the company is building a new 1,200 MW solar manufacturing plant in the U.S., which will grow its domestic capacity from 600 megawatts (MW) to 1,800 MW by the end of 2019. It's those expansion plans that management spent the most time talking about on the conference call, and there are a few highlights that investors should know about. (Transcript via Seeking Alpha.)
The U.S. is the right place to invest
Even though President Trump's solar tariffs will be in place for almost four more years, it may seem odd that First Solar is choosing to build a new manufacturing plant in the U.S. Typically, Asia has proved to be a more cost-effective location, which is why most of First Solar's production capacity is in Vietnam and Malaysia. But CEO Mark Widmar said a few factors impacted the decision:
There are three major benefits to building a new fully integrated manufacturing facility in the U.S. Firstly, recent U.S. tax reform and the favorable local and national business environment enhance the economic rationale for U.S. manufacturing.
Of course, taxes aren't the only driver of First Solar's investment decision. Automation plays a big role too.
Secondly, the lower labor cost per watt of our Series 6 module reduces the labor arbitrage benefit of manufacturing in Malaysia or Vietnam relative to the U.S. Lastly, by locating the factory near our existing U.S. manufacturing facility, we will be able to efficiently leverage the capabilities and know-how of our experienced R&D and manufacturing teams.
In short, domestic manufacturing isn't as cost prohibitive as it used to be, and First Solar is taking advantage.
First Solar will soon be one of the biggest solar manufacturers in the world
There are only a handful of solar manufacturers with more than 5,000 MW of annual solar panel production capacity -- a scale that can drive both operational efficiency as well as operating leverage on sales and R&D expenses. First Solar is going to climb up those ranks with this new plant addition.
[W]ith this new U.S. factory Series 6 global nameplate capacity is expected to increase to 6.6 gigawatts. In combination with approximately 1 gigawatt of Series 4 capacity, we expect to have 7.6 gigawatts of total nameplate capacity as we exit 2020.
In December, First Solar said it planned to add 4,000 MW of new capacity by 2020, so the company has nearly doubled its outlook in just a few months.
Financials are being driven by project sales
First Solar is undergoing a major strategic change away from building solar power systems to primarily selling solar panels. It will still sell about 1,000 MW of solar power systems each year, but expect the rest of its revenue to come from module sales. CFO Alex Bradley explained why margins could be hurt as a result of this shift.
On a segment basis, our first quarter systems gross margin was 40% and our module gross margin was 6%. The system segment margin was strong as a result of the India, Japan, and U.S. projects sold in Q1.
However, the 6% gross margin in Q1 doesn't include the impact of tariff-driven pricing that First Solar has enjoyed for the last year. Makers of most competing imported panels are now suffering under 30% U.S. tariffs, while First Solar can import its panels tariff-free. This has led to higher average sale prices (ASP) for solar panel sales booked in the last year.
The average ASP of module sales in Q1 is not reflective of pricing on more recent bookings and we expect module segment ASPs to improve in coming quarters.
Bradley pointed out that even as ASPs go up, costs associated with ramping up output at its new manufacturing plants will suppress margins for the rest of the year.
Even as ASPs increase, the module segment gross margin through the remainder of the year is expected to be low, due to ramp-related costs at the beginning of Q2 and because initial Series 6 module production is targeted toward the systems business.
Reduced guidance shouldn't set off alarm bells
First Solar cut its 2018 net cash balance and operating cash flow guidance by $100 million and increased its capital expenditure guidance by $150 million, but that shouldn't alarm investors. In fact, there may be some positives in the update. As Bradley said:
The primary update we're making to our guidance is the project timing pertains to the sale of our Beryl project in Australia, which was originally anticipated in 2018 which we now expect to complete and recognize revenue on in 2019.
Despite not selling the Beryl project and increasing capital expenditures by $150 million to build its new U.S. manufacturing plant, First Solar only reduced cash flow and cash balance guidance by $100 million.
If you dig into First Solar's comments, operations look like they're performing better than management expected. That should be good news for investors over the long term, especially when you factor in the company's growing manufacturing base.