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First Solar: $10 - $12 Billion Valuation for the Buyout Price?

December 26, 2011 | About:
In my previous post, one member of GuruFocus asked about the chances of First Solar (FSLR) being bought out. I think the probabilities would all dependent on 1) the strategy of First Solar for its profit sustainability, so that the big solar industry players or LBO can come in to take company private, and 2) if the potential acquirer is in solar industry, it needs to have certain synergies to boost the corporation going forward. In addition, there are several big diversified holding corporations that might be the potential acquirers. They might want to buy out for the purpose of entrance or to diversify their holdings. Profit sustainability is key as well.

Regarding First Solar's current and future strategy, Michael J. Ahearn, the chairman and interim CEO, has explained it quite well in both their third and fourth-quarter conference calls. He said the mission when starting First Solar in 1999 was to make solar electricity a meaningful part of electricity supply worldwide, and to be self-sustaining, both economically and environmentally.

To lead to that mission, they laid out mid-term goals. One was being able to profitably deliver solar electricity at the price as low as $100 a megawatt hour and the second was to build a global supply chain capable of operating a multi-gigawatt scale to deliver ito the mass market. The third point was to have close engagement with policy markets, regulators and customers to identify the needs to have robust flow of innovative solutions for customers.

He has mentioned on the intention to move from niche subsidy markets that the company was operating in the past to the mainstream electricity markets worldwide. There were plenty of opportunities, as in the US, 300 gigawatt plus coal generation fleet was aging, the mandate in Germany to shut all nuclear plants by 2022, and EU objective of 20% renewable by 2020. In the emerging markets such as India, peak electricity generation capacity in India lagged demand and demand keep growing. 35-40% of the population in India lack access to electricity, and much of electricity depended on expensive diesel generation, and altogether the developing countries now having around 02 billion people currently were without access to electricity. In order to mass scale the solar power to catch the opportunities, the only way that any solar power companies have to do is to have low cost electricity, which is the first goal of First Solar and they are trying to reduce gradually.

With those global demands, the industry has experience a huge growth in solar supply. The First Solar management team realized that global production tripled over the last three years, as a result of two factors.

The first is the entry barriers from manufacturing polysilicon wafers and cells disappeared several years ago, when equipment suppliers effectively integrated process technology into turnkey production. That led inexperienced or unskilled operators to quickly enter the supply chain, which led to an explosion of production in China and elsewhere. The cecond factor was the silicon feedstock constraints to bring online by both incumbent and new suppliers. Feedstock availability brought down prices and enabled higher utilization rates for the name production capacity already in place.

He said: “In a supply chain without structural entry barriers, several things occur. First, production volumes increase so long as capital is available to fund it, and we've seen over the past several years that U.S. equity markets and, more recently, Chinese governmental entities have been willing to provide the capital needed to fund a massive production expansion. Second, production volumes eventually exceed demand and pricing declines as manufacturers attempt to sell the excess product compressing margins. Third, prices and margins continue to decline until the financing eventually stops and only the most resilient producers remain in operation. And fourth, the supply-and-demand equilibrium that is eventually achieved is only temporary. Excess production resumes when capital again becomes available to fund it. And this last point is important. In an industry without entry barriers, which we believe in our case for polysilicon PV module industry, the easy reentry of competitors and expansion of capacity will keep downward pressure on prices and margins indefinitely.”

The CEO explained the common mistake of people who think factory expansion equaled growth. It did not. First Solar grows by identifying customers with pressing needs and serving them. Building more factories without any demand creation would not lead to growth. So he stressed the business of creating new markets.

The strategy to move away from the subsidized markets seems to be a very sound move. The management team believed European subsidized markets began to slow down while legislation was translated into effective programs and bureaucracy to streamline. First Solar would begin shifting the revenue base from subsidies to sustainable markets in 2012. The goal is to shift progressively over the three-year period of 2012-2014 so that by the end of 2014, it would derive all of the revenues from sustainable markets. First Solar seems to have a well-thought and planned-out strategy for its future to drive the business to a very sustainable level.

Charlie Munger supported the viewpoint that solar is the way to go in an interview of CNNMoney: “All kinds of things are going to be possible once we really gear up to harness the sun, that has always required cheaper solar and better batteries and they’re both coming.” And just recently, Warren Buffett made his move on solar projects, Berkshire Hathaway’s (BRK.A)(BRK.B) subsidiary, MidAmerican Energy purchased Topaz power plant of First Solar for $2 billion. Jeff Bencik, an analyst at Kaufman Bros said: “If nothing else, what this does is it tells you that First Solar will be able to sell what it makes, and that certainly is better than any other solar company can say at this point.”

After being wiped out of more than $22 billion of market value, First Solar seemed to be the potential candidate to be bought out. According to Robert W. Baird & Co, the world’s largest maker of thin-film solar panels might attract interest from General Electric or Siemens AG on the expectation that demand would keep increasing in the $55 billion solar power industry in the next decade as prices become more competitive. Jeff Bencik commented further: “given the pull back in the price, it certainly does make a lot of sense for someone to buy out First Solar. At the end of the day, First Solar is still profitable. So you are buying the best in the industry at a discount price. Certainly for both GE and Siemens it would diversify their energy platform.” For GE, the largest wind turbine supplier in the US, just bought a private thin-film maker this year that uses same materials like First Solar. It is said to invest $10 billion by 2015 to develop environmentally friendly products across its large-equipment filed such as power generation, jet engines and locomotives. For Siemens, Thilo Mueller of MB Fund Advisory in Germany commented in the phone interview: “They have next to nothing in photovoltaic, and they may be able to combine their strength in wind power with photovoltaic. It would make sense for Siemens, and they may be able to get First Solar for a comparatively cheap price.”

On the buyout price, the biggest shareholder of First Solar, which is “Estate of John T.Walton,” the Walton family, is holding 17.26% of total outstanding of the company. They would demand at least a 50% premium in the takeover, around $47-$48 per share, Jeff Bencik thought. Total SA has paid 44% premium for 60% stake in company’s competitor SunPower in April. Comparing to historical market valuation, the 05 years average P/E ratio stays at 126x due to extremely high valuation of more than 430x in 2006 and 130x in 2007, when First Solar first turned to be profitable. But on average 03 years, it traded at 22.5x and P/CF is at 19.2x. Now it was trading at only 5x P/E and 9.9x P/CF. Roughly, I think the buyout price should be at least 10x of earnings, and might approach 20x of earnings when the growth of sustainable market revenue is realized. So First Solar might worth at least $6 billion or might be acquired at the range of $10 - $12 billion valuation.

What do you think? Feel free to give your comments and ideas on First Solar and solar industry below. Thanks

This is the subjective viewpoint of the author, and it is not the recommendation to buy, hold or sell the stocks mentioned in this analysis. Anyone who wishes to buy, hold or sell the stocks has to do his/her own analysis at his/her own risk.

About the author:

Anh Hoang
Money manager into global equities, especially with US and Vietnam markets. CFA level 3 candidate. Lecturer for Stalla - CFA course in Vietnam

Visit Anh Hoang's Website


Rating: 3.7/5 (14 votes)

Comments

jaumepared
Jaumepared - 2 years ago
$.08 Eight cents for a KWH electricity in the USA. That is with enormous amounts of regulation and government taxes. Therefore solar has to come down another 90% before it is economical. Sure Buffet et al can coerce and manipulate some small government guaranteed subsidies on small projects, but it just ain't there. Surely, energy frauds, scams and tulipmanias will always have their day, but a viable business model for this technology is not there today.

I do hope science discovers a quantum leap ahead in the productivity of solar energy. Until that time, buyer beware!!
paulwitt
Paulwitt - 2 years ago
Buy CLNE and HEK as a play on natgas. Natgas is cheaper and cleaner than what we have now, and it creates jobs, reduces our trade deficit, and most of all, it WORKS!

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