Yingli Green Energy (NYSE:YGE) and Trina Solar (NYSE:TSL), two of China’s largest solar companies by market capitalization, have had a relatively good 2013, aided by higher demand for panels in both the domestic and international markets, better price realizations, as well as improving profitability. Both the stocks have performed well – Yingli is up by around 80% year-to-date while Trina Solar is up by a whopping 170%. In this note, we take a brief look at what to expect from the two companies and the broader base of tier-one Chinese solar manufacturers going into 2014.
Expect Stable To Improved Panel Pricing On Growing Demand And Capacity Consolidation
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Both Yingli and Trina Solar reported some stabilization in their average selling prices through 2013, benefiting from a narrowing supply-demand gap in the solar industry. This ended a streak of double-digit annual percentage declines. We believe that the prices could remain stable or improve slightly next year due to higher demand, as well as the possibility of further capacity consolidation within the Chinese market. According to NPD Solar Buzz, global solar demand could cross 50 GW (shipments in 2013 are estimated at 35 GW) next year as installations continue to rise in China as well as in other emerging solar markets. Additionally, there have been signs of consolidation in the Chinese solar industry, with some large and over-leveraged companies including LDK Solar and Suntech Power selling or idling their underutilized capacity. The Chinese government has indicated that it will not permit solar companies to build new manufacturing plants that are intended to “purely” expand capacity, meaning that companies that have been seeing healthy demand will likely have to acquire unused capacity from other manufacturers rather than building out new capacity.
Increasing Focus On The Downstream Solar Space
While the solar panel business has become largely commoditized over the last few years, the solar project development business has been thriving. This so-called “downstream” business is benefiting from lower panel and equipment costs, which are making solar power an increasingly viable alternative to conventional sources of energy. The downstream business has healthy margins compared to the panels business, since it involves providing value added services such, as design and construction, in addition to procuring equipment. For example, First Solar (NASDAQ:FSLR), one of the world’s largest solar companies, had gross margins of around 10% for its panel business in 2012, while the margins for its projects business stood at over 35%. Most Chinese solar companies, Trina Solar and Yingli included, have a relatively small presence in the solar projects business. As of 2012, Yingli Green Energy’s systems business accounted for less than 2% of its overall revenues, and we estimate that projects account for a similar (or smaller) percentage of Trina Solar’s overall revenues. We expect both companies to make deeper inroads into the downstream solar space in 2014 . Yingli has projects to the tune of around 130 MW for 2013, and we expect this to grow significantly in the next year.  Trina Solar is estimated to have a development pipeline of over 500 megawatts (MW) currently, most of which is located in China. 
Margins For Panels Should Rise on Better Non-Silcion Costs, But Silicon Costs Could Pose A Threat
Both companies have seen their margins rise continuously though 2013, aided by better pricing and higher utilization rates, which helped fixed-cost allocation. During Q3 2013, Yingli reported gross margins of around 14%, up from negative levels during the same quarter last year, while Trina saw its operating margins improve to around 15% from less than 1% a year ago.  We believe that both companies will see stable to improving gross margins next year owing to continued high utilization rates, improving pricing conditions, and cost reduction initiatives. However, the potentially higher prices for polysilicon, a key raw material used in manufacturing polycrystalline panels, could pose a challenge to both companies. Prices for the commodity are just off their all-time lows and the growing demand for panels could result in higher pricing. According to a report by GTM Research, polysilicon prices could rise by as much as 25% next year.  Although polysilicon costs now account for just about 20% to 25% of panels manufacturing costs, higher prices could nevertheless impact margins.Notes: