Solar’s TAN Starting to Fade

The remarkable run in solar stocks earlier this year was typical of previous bubbles we have seen...and valuations had expanded to levels that left very little room for error.

But the group has been savaged, as a glance at the Claymore Global Solar Energy ETF (TAN-AMEX) illustrates. And it might still be too early to buy, but picking through the wreckage of this market will keep you occupied.

But at least one SellSide shop thinks more pain is ahead for solar bulls as multiples continue to contract:

Solar PV: New Era Of Uncertainty, Will Global Delevering Push Multiples Lower?

If the bloom is off solar valuations, where will solar PV shares trade—in line with semiconductors, IT hardware, contract manufacturers, chemical companies or power generators? Whatever the "comp" group, it appears likely that shares of solar PV stocks will experience further multiple compression as investors discount both the existing uncertainty surrounding global solar PV demand and now factor in a de-levering of global credit markets. That said, it is still early days, and we believe energy generated from solar PV is just scratching the surface and stands to see significant unit growth when system prices drop. ThinkPanmure Note

TAN ETF 6-month chart
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We wonder if the bloom is coming off equity valuations for the solar PV sector as investors discount new project financing risks that were not in the equation until very recently. That said, as long as institutional financing doesn’t dry up, we expect shipments of solar PV modules to post strong growth over the next few years as there is strong fundamental underlying momentum. For example, solar PV generation systems still represent only one-tenth of one percent or so of global electricity generating capacity; raw materials cost should fall as polysilicon supply comes on line; and, panel prices should drop, pushing levelized cost of energy (LCOE) from solar PV closer to grid-parity.

Access To Capital Critical For Production Capacity Ramps

Yet, for solar PV to achieve meaningful share, we think existing producers will need to hit their production capacity build-out plans, which will require cash, and lots of it.  A quick rank-order suggests Solarfun, JA Solar, and Suntech are well-positioned from a balance sheet perspective, while SunPower, Evergreen Solar, and LDK Solar could be constrained if projected cash flow from operations fall short or credit facilities are reduced.

“Take-Or-Pay” Is Only As Good As A Counterparty’s Ability To Do Either

In the supply-constrained solar PV environment, cell and module producers have been able to extract more than high prices. Last we checked (at Valencia), many of the solar PV cell and module makers had booked about 40-50% of their planned production for 2009 and much of the sales volume is backed by prepayments, letters of credit, and/or third-party promises to ‘take-or-pay’. However, we find it hard to believe that the sudden and growing financial market crisis of confidence will not have a negative ripple effect into sectors that rely heavily on project-finance including the solar PV space which is seeing growth in projects of ever-larger sizes.

What Semis, IT Hardware and Contract Manufacturers Have in Common

As a public equity category, solar PV is relatively new to the scene. That said, we see enough similarities between this sector and each semiconductors, IT hardware, and contract manufacturers to draw some reasonable analogies. While the ultimate core multiple may not settle for some time, we note our surprise at the rapidity, magnitude, and scope of the finance sector meltdown. Hence, we think ‘wait-and-see’ may be the best approach before pulling the trigger on this bargain hunt.

Watching the stocks from the sideline as they sketch out a valuation history for future Stockjockey’s might not sound terribly adventurous, but might be essential to your solvency. Handicapping the stocks might be easier down the road, but rumors of overcapacity in the industry should also continue to dog the stocks in the near term. Perhaps the demise of the weaker plays, similar to what is going on in banking, will enable the survivors to emerge stronger and will limit capacity increases that might bedevil the industry as well.

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The content contained in this blog represents the opinions of 1440 Wall Street. This commentary in no way constitutes a solicitation of business or investment advice. It is intended solely for the entertainment of the reader, and the author. No Position

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