First Solar (Nasdaq:FSLR) Posts Another Solid Quarter - We Still Think Stock is Expensive

Oct 30, 2008
Author: SCP Editor

October 30, 2008 – First Solar (Nasdaq:FSLR) yesterday after the market, reported Q3 revenues of $348.7 million, up from $267 million in the prior quarter, and $159 million for the same period last year. Net income was $99.3 million, or $1.20 per share (fully diluted), compared with $69.7 million, or $0.85 per share in the prior quarter and $46 million, or $0.58 per share last year. The stock closed at $115.75 in yesterday’s session, at a P/S ratio of 9.39 times trailing twelve-months revenue and a P/E ratio of 33 times trailing twelve month earnings. Here are some updates and our take:

First Solar remains a thoroughbred in a fast field. Management raised its 2008 sales forecast to a range of $1.22 billion to $1.24 billion and it expects sales of $2 to $2.1 billion in 2009. Its total backlog is $6.3 billion.  

They also announced yesterday that they are now entering the U.S. residential market through a 5-year 100MW supply agreement with Solar City, and a $25 million investment into it. This will expand First Solar’s potential customer base, and Solar City offers a leasing program to help customers deal with the up-front costs of residential. This should bode well for First Solar’s expanded presence in the residential market in a credit constrained economic environment.

In addition, First Solar announced a new long-term supply agreements with Sorgenia Solar, and extended supply agreements with several existing customers including EDF Energies Nouvelles, Ecostream, Juwi and Phoenix Solar AG. In total First Solar expanded contracted module volume by a total of 525MW, which represent additional sales of $800 million.

In total, yesterday’s announcements of 625MW in supply agreements represent more than $1 billion in revenue. Importantly, as commoditization is expected in the market, First Solar’s costs are decreasing. It announced on its earnings call that cost-per-watt in Q3 was $1.08, a 9% decline on a quarter-over-quarter basis.

Management iterated that much of its projected growth is coming from the European markets, which have been a source of concern relating subsidy programs and governments’ commitments to maintaining them. They said, having recently met with political and regulatory authorities throughout Europe, there are no plans to cut programs because (i) any significant reduction would result in job loss and reduced economic activity at a time when economies can’t afford it; (ii) the cost of solar programs is modest in relation to other programs and have largely factored into existing electricity rates; and (iii) countries that have felt the need to moderate growth (Spain and Germany) have already modified their programs, while the other counties are still in the ramp stage. So the outlook for solar growth in Europe remains solid.

The other major area for concern for the solar sector has to do with customers’ ability to finance planned projects in the current credit constrained markets. First Solar said it has factored these concerns into its FY2009 guidance and will consider contingency scenarios where it provides financial support to enable higher project reports if needed to support the market. Much of First Solar’s business comes from Germany (85% of anticipated volumes in 2009) and management said the credit situation there appears adequate, but it said that solar projects lending outside Germany has “essentially stopped for the time being.” It has reviewed its existing customers outside of Germany, which are Independent Power Producers, and believes most have adequate funding to bridge lending delays into 2009.

The financial risk in its customer base represents about 15% to 20% of its planned sales into Europe in 2009.

Finally, in terms of the consensus expectations that there is going to be module oversupply in the markets in 2009, First Solar’s management reiterated that its long-term contract price in 2009 is a €1.54 per watt, substantially below the current market levels of crystalline silicon model prices and probably below most suppliers’ estimated cash costs. So there should be sufficient elasticity in First Solar’s business economics which will enable it to remain competitive in the markets, should oversupply of modules begin pushing prices down.

We noted above that First Solar is entering the U.S. residential markets. The recent 8-year extension of the 30% ITC creates long-term visibility and stability in the market which is critical to sustained growth. Near term, management acknowledged that traditional investors in tax equity (large institutions) have largely stopped participating. It is unclear when and if these investors are going to return to the markets in 2009, so this will undermine some of the near-term expected benefits to the U.S. solar markets from the ITC extension. It is also pursuing a strategy into the U.S. market to work directly with utilities and their affiliates to pursue PPA (power purchase agreements) structures with investors.

Earnings call takeaways:

·         First Solar is an industry cost leader so should remain competitive in a commoditizing market;

·         Entering the U.S. utility and residential markets should open up new growth opportunities;

·         Business favors long-term take or pay contracts which create better long-term pipeline visibility;

·         Expanding capacity based on demand, not on expectations of demand;

·         Focused on management of financials and increasing profitability; and

·         Management thinks risk is mitigated in European markets.

As we noted above the stock is trading at 9x P/S (ttm) and 33x P/E (ttm) – both multiples, which seem expensive to us in the current market environment. On a forward basis, based on management’s guidance, we are forecasting $1.23 billion in revenue for FY2008 and $331 million in net income. At a 5x P/S and 20X P/E we would get price targets of $76 and $82, respectively.

We are bullish on First Solar’s business, but we just think that the stock price still doesn’t reflect the recalibration the broader markets have undergone lately in light of the current economic environment and the expectations that the global economy is going to be in a recession next year. As of yesterday, the average multiple of P/E for the S&P 500 based on estimated earnings was 10.7x, the lowest level hit since 1985. We think the high-growth prospects of First Solar’s business justify a multiple at double this, but we can’t make an argument that it justifies a multiple three times this.

We are in the minority here though. In October, the Street provided the following ratings and targets for First Solar:

·         Kaufman Brothers rates it a HOLD with a price target of $140 (10/30/2008)

·         Merriman Curhan Ford rates it  a BUY (10/30/2008)

·         Soleil rates it a BUY with a price target of $160 (10/30/2008)

·         Credit Suisse rates it an OUTPERFORM with a price target of $150 (10/29/2008)

·         Wedbush Morgan rates it a BUY with a price target of $175 (10/24/2008)

·         Friedman Billings rates it a MARKET PERFORM with a price target of $210 (10/14/2008)

·         Collins Stewart rates it a BUY with a price target of $210 (10/13/2008)

·         Lazard Capital rates it a BUY with a price target of $265 (10/10/2008)

·         AmTech Research rates it a BUY with a price target of $170 (10/10/2008)

·         Barclays Capital rates it an OVERWEIGHT with a price target of $180 (10/9/2008)

Important Disclosure Note: SCPEditor has no position in FSLR. The information and trades provided here and in the comments are for informational purposes only and are not a solicitation to buy or sell any of these securities. Investing involves substantial risk and you should evaluate your own risk levels before you make any investment. Past results are not an indication of future performance.