Why First Solar Is An Ideal Play For The Mid-Term

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Mar 06, 2012
Sometimes going against the grain is the most profitable course you can take. Buying in when everyone else is selling can be risky – after all, the could have a ways to go before it bottoms out – but it can also be extremely profitable.


Take First Solar (FSLR, Financial) for example. It fell almost 7 percent in after hours trading on Tuesday after reporting its fourth quarter performance. The company, which is the world’s largest maker of thin-film solar panels, was hit hard across the board as panel prices decreased by roughly 50 percent last year and the company was hit with charges that totaled nearly 20 percent of its market value.


All in all, First Solar had to take a $393 million writedown of goodwill. It also had to contend with a $60 million bill for restructuring and another $164 million in warranty payments to replace flawed equipment. The bulk of these warranty payments stems from a manufacturing issue the company experienced in 2008. The glitch lasted for roughly a year. The problem causes premature power loss in some panels, particularly those in hot climates. In the end, the company missed analysts estimates and was forced to reduce its guidance.


First Solar reported a $1.26 earnings per share (EPS) versus expectations for an EPS of $1.54. It also missed revenue estimates, coming in at just $660 million on estimates of $781.55 million. The low numbers were enough to inspire the company to lower its net sales outlook for 2012 down from $3.7 billion to $4 billion, to just $3.5 billion to $3.8 billion. First Solar officials blamed its poor performance on the sharp decline of its business in Germany after the government there began to reduce its subsidies and the general maturity of the market there. The US, amongst others, also reduced incentives for renewable energy.


"First Solar's performance in the quarter was impacted by an aggressive competitive environment, an uncertain regulatory environment, warranty-related charges, and restructuring costs incurred to help position our business for the future,” said interim CEO Mike Ahearn. “Despite these headwinds, we continue to make strides reducing manufacturing costs, increasing module efficiency, and successfully building out our captive project pipeline. These improvements, combined with our recent restructuring and strategic repositioning, enhance our competitive position in a very challenging environment."


The company also reduced its 2012 top-line guidance, saying that it will scale back manufacturing and halt plans for a new factory in Vietnam to match the supply from the weaker-than-expected demand. But, external issues facing the company are only part of the problem – First Solar is also hunting a new CEO and is no where near ready to make a decision. In fact, the company is still in the process of narrowing down applicants for the position.


This combination of factors has been enough for many people to write First Solar off.


Collins Stewart downgraded the company from “buy” to “neutral” on February 10, while Barclays Capital initiated an “equal weight” opinion during the fourth quarter. Both Ardour Capital and the Kaufman Brothers downgraded their opinions of First Solar from “buy” to “hold” in October. From the hedge fund industry, David Einhorn, the founder and manager of Greenlight Capital, sold out of his position in First Solar during the fourth quarter while Whitney Tilson’s T2 Partners announced the company as a hold position. But, I’m not sure.


First Solar is one of top short positions in the S&P 500, and the solar markets in general have been beaten up lately, but First Solar is a first runner. The company has some serious intellectual property and the production lines to make it happen, more so than its rivals. There is also a chance for parity with coal further down the line. I definitely wouldn’t bet against this company. If anything, I think buying in now could be great timing.


First Solar recently traded at $33.25 a share on a mean one-year target estimate of $43.03. If analysts are right on that, First Solar will return over 29% over the next 52 weeks. The company is also priced low. It has a low forward price to earnings ratio of 8.63 and is priced at just 0.78 times its book value. Looking at its earnings growth estimates, First Solar’s earnings are expected to grow by 15.38% a year on average over the next five years according to Yahoo Finance, versus expectations of 13.19% for its industry. Analysts say that the company’s earnings will actually shrink by 31.30% this year, then grow at 2.20% next year.


Competitor Suntech Power (STP, Financial) isn’t positioned nearly as well. The company recently traded at $3.29 a share on a mean one-year target estimate of $2.59 – that’s a projected loss of over 21%. Further, the company is priced high at 42.73 times its earnings. According toYahoo Finance, analysts expect Suntech Power’s earnings to grow by 18.33% a year on average over the next five years, but I’m not buying it. On January 26, Stifel Nicolaus downgraded its opinion of Suntech Power from “hold” to “sell” – and we have to agree. This company has miserable numbers compared to first Solar and, while its outlook is strong, I doubt it will be able to bounce back.


First Solar is a different story. I think the stock is a great pick. It has strong upside and is priced to buy. The company also has high earnings growth. Given that First Solar’s 5-year earnings growth estimate is an average of 15.38%, and it is expected to lose over 31% this year while gaining just over 2% next year, the company is expected to average an earnings growth of 35.33% a year for 2014, 2015 and 2016 – which makes it perfect for a medium-term play. Investors could hold off to invest in First Solar until the end of this year (in other words until after its earnings shrink over 31%) but it is priced low enough now that it would be smart to buy a position in First Solar soon.