I decided to invest some of my profits from selling OHI into buying a trading position in Suntech Power Holdings Co. Ltd. (STP). Back in mid June I flagged that I would wait patiently for STP to come to the value point I wanted…and here it is.

STP has once again fallen to a value point I couldn’t ignore. After a quick refresh of my due diligence I have gone overweight in STP. [Neither OHI nor STP are held in the FI Portfolio] The following notes are my half edited notes with half my thoughts.

Why is STP so cheap? With a PEG of 0.55, healthy margins and a backlog they can’t satisfy it looks incredibly attractive. Is it the large debt, lack of cash flow, Germany cutting subsidies, the proposed Spanish subsides cut, Australian subsides being capped or another reason like falling oil prices or technological obsolescence? Time to find some reasons; as it is essential know your enemy.

Using Numbers to Cut Through the Noise

2007 Annual Filing

Balance Sheet

• AR balloons from $98M to $238M
• Other points that needs investigation on B/S are long term prepayments and loans to suppliers of $162M and $103M respectively.

Income Statement

• Revenues increased from $599M to $1,348M. Going back to AR issue; in 2006 AR was 16% of revenue while in 2007 it grew to 18%. So not quite the problem it appeared at first glance.
• Growth not ending up on bottom line. Keep an eye on this.

Cash Flow

• Operating consumed $9M in cash. Ouch. Large part of this disappearing income trick was the increase in AR of $139.5M. Throw in a $79M interest free loan to a supplier and a few more large ticket items and wham bam there goes your cash.

Grid Parity

This great summary from TMF poster TomFoolNC

Driving down costs
- module costs - lower cost silicon, increasing conversion efficiency and economies of scale
- balance of systems costs by 15% YOY

2007 installed watt cost is $7.50
by 2012 they want to get to $4.00/watt

at $4.00/watt with irradation of 1600 hrs/year get a solar electricity cost of .18 kWhr. (this is peak power grid parity (on avg.))

of that $4.00/watt cost $1.50 is manufacturing cost, $2.00 ASP (.50 profit), and 2.00.systems cost.

In looking at this, 1600 hrs year, is (1600/365) = 4.3 per day. Looking at this PV solar radiation map,
http://www.nrel.gov/gis/images/us_pv_annual_may2004.jpg
it looks like better than 4/5s of the US gets this much sun, and about 20% of the country gets much higher.

Commodity business.

What multiples do they deserve?

There is little doubt PV (photovoltaics) will become a commodity item and will only deserve commodity business multiples. However, that time is not now. There is still time to profit with STP prior to having to being really concerned about commodity multiples.

Superseding technology.

This is a real concern and it will definitely happen. However, it does not mean game over for STP. They have proved themselves to be intelligent leaders in the solar market. It will take years for any product to overtake first generation PV. STP may be the innovator or should have time to license.

STP Q2 Earnings are released Wednesday 20^th August. Consensus eps is $0.31 with a range of 0.27-0.35.

Summary

Long term investors should avoid picking individual names in the alternative energy, AE, market. While there is little doubt that AE will outperform the broader market over the next decade or three, picking individual players and profiting form them is unlikely using a buy and hold approach. Long term buy to hold investors should look no further than an solar index like Claymore/MAC Global Solar Energy (TAN) or Market Vectors Solar Energy ETF (KWT). For an even broader investment take a look at PowerShares WilderHill Clean Energy (PBW).

For investors who are prepared to dig deeper and keep an eye on developments in the solar industry I believe STP provides an excellent short term (around one year) opportunity for profit for around current prices (My trading position was bought at lower prices than today closing $34.78). Keep an eye on cash flows, a company can’t keep growing forever by borrowing money. Cash flow is king! Also keep an eye on their loans to suppliers and long term prepayments, danger lies down that path.

Articles of Note

Smart Money good read
My Last Post on STP