SunPower Could See Upside Through Higher Efficiencies, Inroads in China

We remain bullish on SunPower (NASDAQ:SPWR), the second largest U.S. solar company, owing to its industry leading panel efficiencies, its recent move to form joint-venture yieldco vehicle with rival First Solar (NASDAQ:FSLR) and a strong outlook for global solar demand. Our $36 price estimate represents a premium of about 20% to the current market price. Additionally, there could be a further upside to our current estimate. For instance, if SunPower is able to improve its operating margins further through more advanced high-efficiency panels and cost reductions, it could result in a 20% upside to our price estimate. Further, if SunPower is able to make deeper inroads into the Chinese utility-scale solar market, we believe that it could result in a 15% upside to our current price estimate. Below we detail these scenarios and discuss their impact on the company’s stock. 

See Our Complete Analysis For SunPower

Better Than Expected Cost improvements, Higher Efficiencies (20% Upside)

SunPower’s EBITDA margins have increased from levels of about 5% in 2011 to about 19% in 2014, according to our estimates, driven by a greater mix of high-margin project-related revenues, more efficient modules, lower silicon costs and improved manufacturing processes. Over the long run, SunPower’s margins will be influenced primarily by two factors: 1) its ability to continue producing modules with industry leading conversion efficiencies that can command premium prices, and 2) moving further down the manufacturing cost curve.

All else being equal, higher efficiency panels have a more compact size for every watt of rated power output. While higher efficiencies are valuable in space-constrained installations such as rooftops, they are also the most recognizable specification for modules, helping the marketing narrative and brand positioning of a solar company. More efficient modules also make it cheaper to produce each watt of rated capacity, further helping margins. SunPower currently has among the best conversion efficiencies in the industry, with many of its modules offering efficiencies upwards of 20%. However, the company’s efficiencies gains could be falling behind the broader solar industry. Per the company’s panel efficiency roadmap, best-line cell efficiencies are expected improve from a little above 24% in 2014 to about 24.6% in 2016. Peers such as First Solar have been posting more significant efficiency improvements (1% module efficiency gain in 2014, albeit on a smaller base).

SunPower’s manufacturing costs declined by around 20% each year in 2012 and 2013. The company is looking to take its cost cuts to the next level with its newest Fab 4 manufacturing facility, located in the Philippines. The new fab will produce SunPower’s Gen 3 Maxeon back-contact solar cells and the company expects that this could reduce costs per watt by about 35% compared to its current manufacturing lines, owing to next-gen cell technology.  The Fab 4 facility will start up in 2015 but won’t reach full capacity (350 MW) until 2016. The company also has plans for another large scale facility, tentatively called Fab 5, that could come online by the end of 2017. While the location and other details for Fab 5 have not been announced yet, SunPower expects to roll out cells with a 25% conversion efficiency and modules with a 23% efficiency from the facility. ((SunPower bets on high efficiency and low concentrating PV, PV Magazine, August 2014))

Separately, SunPower has also been focusing on bringing down installation and balance of systems costs for its systems business by standardizing components and cutting down on soft costs. For instance, its Oasis power blocks combine solar panels, pre-manufactured system cabling and inverters which can be shipped pre-assembled to the job site for quick field installation.

Our $36 price estimate for SunPower assumes that company-wide EBITDA margins will increase from about 16% in 2015 to about 21% by the end of the forecast period. However, if margins were to rise to about 25% by the end of the forecast period owing to further cost improvements and better panel efficiencies, this could increase our price estimate by over 20% to about $44/share.

Making Deeper Inroads Into Chinese Utility Scale Market (15% Upside)

China is the world’s largest market for solar products. The country installed over 12 GW of photovoltaic capacity in 2014 and the number is expected to grow to about 18 GW this year, accounting for close to one-third of projected global solar demand. The longer-term prospects for the market also look solid, with the government targeting about 100 GW of solar capacity by 2020. Moreover, under the climate deal signed with the United States last November, China has committed to generating 20% of its electricity from non-fossil fuels by 2030. This could require the installation of as much as 1,000 GW of new non-fossil generation capacity. ^[1]

Most western solar equipment manufacturers haven’t been able to make a dent in the Chinese market, due to abundant domestic manufacturing capacity, the solar trade issues between China and the E.U./U.S and the price sensitivity of the market.  That said, the solar landscape in China has been gradually changing as the market matures. For example, project developers are seeing greater value in the differentiated technology, higher efficiencies and better energy yields that imported panels offer.

SunPower is one of the few Western solar companies that has made some progress in China, banking on its low-concentration photovoltaic (LCPV) technology. Low concentration PV solar systems, such as SunPower’s, are particularly useful in regions without clear skies since they can capture a significant amount of diffused light. These systems also work well in regions with a high level of solar irradiation, allowing project owners to derive maximum value from their projects. The company has joint venture agreements in place to manufacture and deploy its proprietary C7 solar concentrator technology in China, and it intends to build over 250 MW of projects in China this year. In 2014, the firm signed a second joint venture that aims to develop and own at least 3 GW of PV power plants (timeframe remains unclear), primarily located in the Sichuan province. Earlier this year, the company said that it would partner with Apple (NASDAQ:AAPL) to build two solar power projects in the Sichuan province, with total capacity of 40 MW.

We currently estimate that SunPower’s Asia Pacific shipments will approach about 550 MW by 2021, with ASPs and margins increasing to about $1.30/watt and 16%, respectively. However, if the company is able to gain significant traction in the Chinese solar market, increasing its total MW shipped to the Asia Pacific region to about 900 MW by 2021 with blended ASPs and margins for the Asia Pacific region rising to about $1.50/watt and 19%, respectively, owing to a greater mix of project sales, this could boost our price estimate by around 15% to $41/share.

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1. What China’s Climate Commitment Means for Its Electricity Sector, Greentech Media, November 2014 [↩]