Tuesday, August 26, 2008

Solar Stocks: Rain or Shine?

Solar stocks have skyrocketed in the past year thanks to rising oil prices, but that doesn't necessarily mean that if oil continues to drop that they will, too. No, solar is an industry that is on the rise with increasing sales orders to prove it. As a matter of fact, just yesterday LDK Solar (LDK), a Chinese manufacturer of polysilicon-based solar wafers, said that wafer production is ahead of schedule and raised 2009 sales estimates well above Wall Street expectations. The news cheered investors who watched their stock increase over 9% breaking out of a three month base on heavier than normal volume. It also gave a lift to an otherwise sagging sector with Ascent Solar (ASTI) and Akeena Solar (AKNS)--two stocks that have been particularly beaten up in recent months--rising the most (3% and 4.3% respectively). Today, however, tells a different story with solar sliding as oil rises leading us to ponder the following question: Is the recent good news a harbinger for another growth spurt in the solar sector or will declining oil prices weigh them down?

Fundamental considerations
The answer is that it's not easy to tell since most of the companies in this space have only been publically traded for two years, if that. Even Larsen Kusick, a scribe at TheStreet.com, admits that it's unclear which fundamental statistics will provide long-term guidelines for future profit estimates. He selects five solar stocks that look the most “interesting” (he doesn't define that term in his article) and divides them into two groups based on the underlying sunlight-to-electricity conversion technology. First Solar (FSLR) and Energy Conversion Devices (ENER) use thin-film technology as their conversion mechanism. The other group uses polysilicon-based technologies--a more efficient conversion mechanism than thin-film but also in short supply. The companies dependent on polysilicon are SunTech Power (STP) and SunPower (SPWR), a division of Cypress Semiconductor (CY). (Check out their charts--they're virtually identical.) Trina Solar is the last stock. It, too, relies on polysilicon but one stand-out feature of its business model is that it is vertically integrated, using polysilicon that it recycles from the semiconductor industry.

From the standpoint of revenues, First Solar and Trina lead the pack. Both have experienced impressive growth over the past year (although First Solar's first quarter sales were down compared with last year's) and are expected to increase or at least maintain this high level through next year. Kusick is a little worried that these future expectations might already be built into the stock prices, and he might be right. The weekly chart of Trina shows it's been caught in a downward channel since it hit its $72 high last summer. It's the biggest loser in the space today posting a 9% loss as of this writing. A tug of war seems to be going on in First Solar as the stock has been channeling between $250 and $300 for the past several months. It needs to break above its previous high of $317 for this chart to have any legs.

Wall Street has had to play catchup with Energy Conversion. Recent quarter estimates blew out analyst expectations resulting in further overextension in price. Since January, the stock has risen from $22 and is now bouncing off of $80 resistance--an increase of over 260%. Usually, when a stock rises this high this fast, a breather is in order. Unless it blows out earnings again, I'm expecting it'll have difficulty breaking through this upper resistance level.

Looking at other fundamentals, Kusick found that P/E ratios painted a better picture than Price/Sales, but here again the results are subject to some confusion. SunPower and SunTech have cheaper valuations but remember their profits are closely tied to the supply of polysilicon. Of the entire group, Trina sports the lowest P/E. Kusick's reasoning is that Wall Street isn't sure if the company's vertical integration model will stand the test of time. Generally, First Solar is considered the 400 pound gorilla in this space, but I'd be a little gun-shy of marrying into that company since insider trading as of late has been extremely heavy.

What about other names in this space?
Kusick did a nice job on his articles. I'm sure it took a bit of time to research all those names and I'm grateful he did it so I wouldn't have to. (Hey, I want to enjoy a what's left of the summer, too!). But I'm surprised he didn't mention some other big names like LDK Solar, MEMC Electronics (WFR), and Evergreen Solar (ESLR). So what about them and the others? As I mentioned above, LDK, is trying to break above $50 resistance as is MEMC. (MEMC makes semiconductor materials for a wide variety of applications, so technically it's not a pure solar play.) Like First Solar, Evergreen has been channeling between $8.50 and $12. Two companies to either avoid or short are Ascent Solar (ASTI) and Akeena (AKNS). (Akeena is trading under $5 which means your broker probably won't let you short it.)

Industry forecast
Although these companies may be fundamentally confusing and technically uncompelling, that doesn't mean the rain won't let up at some point. The problem with any new technology is that there's a rush of startup companies--some will make it, some will fall by the wayside, and the rest will be gobbled up by the larger fish in the sea. I think that's what will happen to solar over the next few years, and many of the names we see today will have disappeared by one means or another. So which ones will survive? Right now, that's almost anybody's guess. But don't worry. Once the clouds clear the sun will shine and it'll be evident which companies are here to stay. For now, I'll stay on the solar sidelines and roll my die in other sectors.

"Solar Plays Starting to Shine, Part I," by Larsen Kusick. 6/26/08 TheStreet.com

"Five Hot Solar Plays: The Fundamentals," by Larsen Kusick. 6/27/08 TheStreet.com

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