Trina Solar Revised To $14 On Cost and Market Related Concerns

After witnessing nearly two years of losses, Trina Solar (NYSE:TSL) has posted three consecutive quarters of profitability aided by stronger global demand for solar panels, stabilizing average selling prices and improving operational efficiency. However, despite the better performance, we believe that the company faces some risks in driving its earnings growth, including escalating costs, sluggish improvements to manufacturing technology, and demand-related uncertainty in a few key markets. Considering this, we have revised our price estimate for Trina Solar from about $18 to about $14, which is slightly above the current market price.

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Progress On Cost Reduction May Not Be Sustainable

Given the uncertain pricing conditions in the solar market, Trina Solar has largely relied on reducing its direct manufacturing costs and improving its manufacturing efficiency to drive growth. Over the last three years, the company has reduced its core manufacturing costs from over $1 to under $0.50 per watt (as of Q4 2013).  However, only about 25% of the cost improvements came from manufacturing process optimizations and improvements. On the other hand, as much as 75% of the cost decline came from lower polysilicon prices and tighter controls on the company’s supply chain. These lower raw material costs were largely attributable to the nearly three-year long oversupply situation in the solar market, and we believe that such improvements may be difficult to replicate going forward as demand improves. For instance, polysilicon prices grew by about 8% sequentially during Q1 2014. ^[1]

We do not expect the company to gain a significant cost edge via the improvement of manufacturing processes either. Most Chinese solar companies use similar manufacturing equipment, ^[2] and likely don’t have much intellectual property to make breakthroughs on the manufacturing cost front. Trina could also face some risks related to its labor costs. While the manufacturing process for solar cells is largely automated, the traditionally lower labor costs in China have given Chinese companies a slight edge over their European and American rivals. However, labor costs in China have been rising fast and this could hinder Trina Solar’s cost competitiveness compared to its international rivals.

Uncertainty In Two Of Trina’s Largest Markets

China is Trina Solar’s single largest market, accounting for about one-third of its sales. ^[3] During the last year, Chinese solar installations stood at roughly 12 gigawatts (GW),  growing by over 200% year-over-year. This led to surging demand for Trina Solar and other tier-1 Chinese manufacturers.  However, things could be different this year. While China’s National Energy Administration announced that it would provide incentives for the installation of about 14 GW of new solar capacity, it now expects installations of just about 10 GW, due to significantly lower than expected installations in the distributed solar market. ^[4] While this could reduce projected global demand for solar products by about 8.5% this year, it could have a more pronounced effect on Trina Solar given that its revenue stream is more dependent on the Chinese market.

Trina could also face some headwinds in the United States, its second largest market. Earlier this month, the U.S. government decided to apply preliminary duties on Chinese solar equipment imports while closing a loophole that allowed Chinese companies to circumvent the previous tariffs imposed during 2012. Although Trina Solar faces the lowest tariffs (about 18.6%) among various Chinese vendors, it could still see higher landed costs in the United States, resulting in lower sales.

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1. Fastest Quarterly Growth in Polysilicon Prices Since 2010, Greentech Solar, April 2014 [↩]
2. Operating efficiency alone cannot push Trina’s costs down forever, Morningstar, June 2014 [↩]
3. Trina Solar Form 20-F [↩]
4. Solar Segment Update: Implications Of China Solar Estimate Cut, Seeking Alpha, June 2014 [↩]