SunPower’s Margins Lifted By Utility Scale Solar And Higher Value Markets

During Q2 2013, SunPower (NASDAQ:SPWR), one of America’s largest solar companies posted its first quarterly profit in nearly 2 years. The firm’s gross margins, which rose to around 18.7% from around 12.3% in Q2 2012, have been aided by an increasing focus on the utility scale solar market, improved manufacturing efficiencies as well as a focus on higher value markets. Here we look at some of the key factors that are impacting the company’s margins.

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Strong Capacity Utilization: SunPower currently has an annual panel manufacturing capacity of around 1.3 gigawatts (GW). During Q2 2013, the company ran all its manufacturing facilities at full capacity and this is expected to continue over the next several quarters as well, thanks to strong demand. Higher utilization rates enable companies to better absorb their fixed costs and allow for economies of scale. We expect this to be a key driver in reducing production costs and improving margins going forward.

Focus On Manufacturing Improvements and Panel Efficiency: SunPower’s monocrystalline panels offer the highest conversion efficiencies in the industry with some of its panels such as the X-series offering efficiencies as high as 21.5%. The typical polysilicon panel on the other hand has an efficiency of around 15%. Higher efficiency panels are positive for gross margins since they actually require a smaller quantity of raw materials to manufacture each watt while actually commanding a pricing premium over conventional panels in the marketplace. SunPower has cut down its polysilicon consumption from around 4.4 grams per watt to around 4.1 grams earlier this year, owing in part to efficiency improvements. The firm has also been improving its manufacturing process to produce thinner wafers with a higher efficiency and better yields. In 2012, the company was able to reduce its panels manufacturing costs by around 25%, and we believe that these continued manufacturing improvements are likely to help margins. ^[1]

Utility Scale Projects: SunPower has been increasingly focusing on the utility scale market, building large scale solar power plants. The company currently has two large solar projects in the U.S. – the 250 MW California Valley Solar Ranch (CVSR) project for NRG Energy and the 579 MW Solar Star projects for MidAmerican Solar. The business involves providing a large volume of panels as well as value added services such as engineering, procurement and construction activities. While SunPower doesn’t break out the financials for its utility scale business, we believe that it is significantly accretive to the company’s overall margins since companies such as First Solar (NYSE:FSLR) report EBITDA margins that are at least 20% to 25%  higher for their utility projects compared to their module businesses. We expect a bulk of SunPower’s margin growth to come from new utility scale projects.

Increasing Sales To High Value Markets Such As Japan: SunPower is gaining significant traction in Japan, which is one of the fastest growing solar markets in the world. The company saw its sales to the country rise to a record high during the second quarter and mentioned that it has around 10% market share in the Japanese residential solar market. ^[2] SunPower’s products are ideally suited for the Japanese market, which is geared towards high quality and high efficiency panels. According to GTM Research, solar installations in Japan could touch about 6 GW this year making it the world’s second largest solar market in terms of shipments. Given that systems prices in Japan are among the highest in the world, the country could become the largest solar market in terms of revenues and this makes it a very attractive market for panel manufacturers, especially from a margin standpoint.

Rising Polysilicon Prices Could Pose A Threat: The prices for polysilicon, which is a key raw material used in manufacturing solar cells, have seen a precipitous decline over the last few years as an oversupply of the commodity drove down prices from over $400 per kilogram in 2008 to current levels of below $25 (in China), helping solar panel manufacturers drastically cut down on their manufacturing costs. ^[3] However, there have been signs of stabilization in polysilicon prices over the last few months, and there is a strong possibility that prices will actually rise going forward. While SunPower sources its feedstock through long term contracts, it could nevertheless be impacted if polysilicon prices were to rise going forward.

Trefis has a $25 price estimate for SunPower, which is almost in line with the current market price.

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