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Solar Industry: The Next Growth Area for Investors

May 27, 2014 | About:
Value Investor

Vinay Singh

5 followers

There are many similarities between Apple (AAPL) and the solar industry. Just a few years ago smartphones were the talk of the future with a minuscule install base. Apple faced constraints outside of its control, as few wireless networks could handle the bandwidth demands of smartphones. Still, Apple kept pushing forward, and its stock exploded from $100 to $700. The solar industry is actively pursuing a similar path of continued product improvements with a very small install base, and its future looks very encouraging.

U.S. net energy generation from solar is about 0.19% of total net generation, a minuscule number. At the same time, new product developments and inflation are improving solar's economics day by day. Increasing panel efficiency is a critical part of decreasing costs. It allows home owners to decrease their total system cost by using less real estate, fewer parts and less labor. Falling incentives have hurt renewable energy installations in places like Germany and Spain, but in the long term it will help the industry be less reliant on fickle bureaucrats.

Growth Investing

The introduction of the iPhone helped to send Apple's yearly operating income from below $10 billion to more than $50 billion. With U.S. new smartphone activations falling and strong competition from Android, the iPhone's market is becoming saturated. Falling growth has sent Apple's stock price from $700 to $400. The key to making a killing with Apple was to buy the company before it entered its high growth phase and its profit margin fell from previous highs to 23.5%.

SunPower (SPWR) is nowhere near as famous as Apple, but the company has a number of strong traits. It gained a major vote approval from big oil when the French oil giantTotal agreed to purchase a majority stake in the company. SunPower is working very hard to differentiate its products with highly efficient and reliable panels. Its X-Series panel with an efficiency of 21.5% is one of the best products in the industry.

The company's financials are improving. While its gross margin of 14.6% is positive, its profit margin of -13.3% needs to rise. Critically, SunPower's debt load is manageable with a total debt to equity ratio of 0.72. The company is definitely a growth play given its optimistic valuations. It is trading around 40 times 2013 earnings and 30 times 2014 earnings.

Investing in solar energy is not as simple as buying up every solar manufacturer on the market.Yingli Green Energy (YGE) in a large Chinese manufacturing that has focused on winning the cost war. The problem is that it now carries a huge debt load. Its total debt to equity ratio of 8.68 and quick ratio of 0.3 are horribly risky, and the Chinese government has already shown that it is willing to let manufacturers go bankrupt.

In addition to its debt problems, Yingli has a profit margin of -28.3%. It is expected to post net income losses in 2013 and 2014. SunPower's strong Japanese presence is very close to China, and hasn't helped Yingli. With local partnerships and its highly efficient panels, SunPower has proven that it can compete on Asian soil and give Yingli a run for its money.

Conclusion

The world is quickly reach grid parity and America is no different. Given solar's low install base, increasing efficiency, and increasing costs for alternative fuels, an industry leading manufacturer like SunPower has attractive growth fundamentals. Even with solar's positive macro dynamics, debt ridden firm's like Yingli should be treated with great caution. Apple is no longer a high-speed growth play, but as a large cap dividend payer with a price to earnings ratio around 10, it is an attractive for conservative investors.


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