By some measures, Chinese solar manufacturers are improving. Yesterday, Canadian Solar Inc. (NASDAQ:CSIQ) reported higher-than-expected revenue, a lower loss, and a respectable gross margin of 9.7%. But by others, the market is deteriorating, like Trina Solar Limited (ADR) (NYSE:TSL)‘s first quarter, when net loss more than doubled from a year ago to $63.7 million.
The big questions investors need to ask are: Where are the trends and when might companies be profitable?
The trends aren’t good for Chinese solar
Every company in China is a little bit different, but at their core, they make a very similar product and follow very similar trends. So, despite a better quarterly earnings report, Canadian Solar Inc. (NASDAQ:CSIQ) is experiencing a sequential decline in shipments just like Trina Solar Limited (ADR) (NYSE:TSL). The margin difference you see below comes from Canadian Solar Inc. (NASDAQ:CSIQ) selling 24.5% of its modules into Japan — where margins are high — while Trina Solar Limited (ADR) (NYSE:TSL) only sold 9% of modules into Japan and 19% into the low-margin German market.
|Q4 2012 Shipments||Q1 2013 Shipments||Q4 2012 Gross Margin||Q1 2013 Gross Margin|
|Canadian Solar||404 MW||340 MW||5%||9.7%|
|Trina Solar||415 MW||393 MW||1.9%||1.7%|
Source: Company earnings releases.
The largest manufacturer in China, Yingli Green Energy Hold. Co. Ltd. (ADR) (NYSE:YGE), expects similar trends in the first quarter, with shipments falling 6% to 7% and gross margin between 4% and 4.2%. So, every company follows the same general trends on both the top and bottom lines.
In the second quarter, the two companies that have reported earnings are expecting demand to pick up, with Canadian Solar Inc. (NASDAQ:CSIQ) guiding 380 MW to 420 MW of shipments and Trina Solar Limited (ADR) (NYSE:TSL) sees 500 MW to 530 MW.
So, overall the general shipment trend is down across Chinese solar in Q1, but there is an expected boom in the remainder of 2013. Any improvement is projecting, not based on an overarching trend in reported numbers.
Can they ever be profitable?
If we overlay the negative trends above with expected improvement during the rest of the year, we need to ask if these companies can ever be profitable again.
Canadian Solar Inc. (NASDAQ:CSIQ) is carrying $1.7 billion of debt (including notes payable) and Trina Solar Limited (ADR) (NYSE:TSL) had $1.3 billion of debt. To pay for this debt alone, they must make about $60 million annually based on first-quarter interest payments, which are still at extremely low rates. If we annualize interest and operating expenses based on the first quarter and use each company’s shipment guidance, we can estimate the needed gross margin per watt of solar.
|Canadian Solar||Trina Solar|
|Annual Operating Expenses||$150 million||$178 million|
|Annual Interest Expense||$60 million||$60 million|
|Breakeven Gross Profit||$210 million||$238 million|
|Shipment Guidance (top end)||1.8 GW||2.1 GW|
|Gross Profit Needed per Watt||$0.117||$0.113|
Based on these numbers and an average sale price of about $0.65 per watt for the industry, these companies would need to make a gross margin of at least 17% just to break even. And this doesn’t include taxes or rising interest costs from growing debt loads.