Solar industry and burden of debt

Knowing that interest rates have been discussed as one of the preferential treatments Chinese receive, it is rather obvious that on the balance sheet those have not materialized

Media, politicians, hedge funds and peers (SolarWorld) have been giving public statements on Chinese companies apparently receiving preferential treatment in regards of obtaining debt, low or no-interest loans and subsidies. We have decided to review balance sheets what we consider leadership of solar companies in a way that shows debt structure, cash coverage to maintain payments and to see if there is much truth to those statements. Of course we cannot see anything outside of the balance sheet, income statement or statement of cash flows.  Since none of the companies claim to have such arWhile US International trade agency investigation continues and first results will be seen in January, we are not fully convinced that decisions will be made outside of political desires and popularity to right side of views like protectionism and nationalism. It is very obvious in history, in time of the economic despair various radical views had emerged to protect national interests and let to some disastrous   outcomes, not only in trade but to humanity. While those examples are very extreme, sometimes for what is misguided “right” the wrong thing is done.  We can only hope that this will not be the case in this situation.  Lastly, we have placed great care on collecting data to provide an accurate view of the debt conditions. However, the reader should use due diligence to review and question the data collected and refer to original publications to seek further details. We apologize for errors if any are found, they are unintentional, and we will correct them as we will receive the feedback.  

Cash management

Solar earnings for most of the companies have been negative in Q3 and as the difficult conditions continue even premium organizations will have hard time managing their business. Cash management is required for sustainability and staying power of any business. Particularly, in the period of diminishing earnings or negative earnings low cash reserves can lead to fiscal troubles. Those who cannot recover earnings due to operational costs and high maintenance of their financial conditions may become insolvent and conjure bankruptcy protection. In case of solar companies value of the assets like PPE (property, plant and equipment) are not going to bring liquidity as the industry is highly energized for development of new technologies to deliver high efficiency and lower cost.  Only new equipment is desired, while old legacy tools have no value. Some of the intellectual property may attract buyers, but until recently the driver of true research and development came in a form of equipment makers, thus for the majority of the companies intellectual property has no significant value. Companies which can sustain cash levels are better prepared to weather such a period of time. Ability to pay bills, including interest expenses is crucial. Table (Cash Management) illustrates changes in the cash position of leading solar businesses (cash level includes restricted cash) from Q2 to Q3. The top of the list shows negative changes, where in the span of three months, cash level had dramatically dropped. The change may not have been necessarily a result of the loss of cash due to operational difficulties. Companies may have paid a greater amount of the debt or use cash for Capex (Daqo). Increase in cash can also be a result of recent borrowing, which can result in difficulties later. Solar industry is experiencing a dramatic period of negative conditions. Increase of the cash levels in such period, although points out to more borrowing, but also shows that company has strong lines of the credit and good relationship with banks.

Availability of cash to pay interest

Cash flow is necessary for operational execution (procurement of materials, payroll and resources), but also level of cash, can show business ability to pay its bills and interest on debt. Another critical ability is to finance day to day borrowing and have enough cash to manage repayments of principal sums.  (% of Cash coverage for interest expense Q3) contains percentage of cash levels versus the quarterly interest payments.  It appears that REC has the most need for available cash to pay interest payments.  The Norwegian company has closed the number of wafer plants due to high operational costs. This includes recent idling of the 60% of the most modern plant in Norway, leaving this once global leader in wafering just with 1.2GW of wafer capacity. REC has profitable polysilicon facilities and has been very aggressively writing down assets to improve their balance sheet. Despite those changes REC has low levels of cash. It is been rumored that REC is going to be put for sale by its majority owner, Orkla in 2012. In the statement, Orkla had announced to clean REC’s balance sheet. Potential buyer will be certainly looking on the level of debt and the cash holdings.  

Structure of the debt

Various views can illustrate company’s condition. In the figure 3, breakdown of the debt, the interest payment an average interest rate shows how leading global solar companies are managing their levels of the debt. The total amount of cash reflects in % the amount of the debt coverage. Although First Solar may soon fall under the hardship due to narrowing of pricing gap between its thin film and c-si modules, the leader in its category, has the best cash coverage.  This table also illustrates the average interest rates for overall debt levels. Knowing that interest rates have been discussed as one of the preferential treatments Chinese receive, it is rather obvious that on the balance sheet those have not materialized. Further, many observers have considered Mainland companies to align with Taiwanese counterparts for production of solar cells. It comes as a surprise that Taiwanese have been receiving very low levels of interest on their borrowings.  All mentioned, Motech, Gintech, Neo Solar and Green Energy Technologies are at 1.5% or less %.  Interestingly German Q-Cells have the average of its debt at 3%. Q-cells large amount of convertible bonds imposes a problem for the company, if bondholders decide to cash their principle, one coming due in February of 2012. We have not studied the details of covenants guiding the conversion. On Q-cells website the

% of cash coverage for interest expense

conversion rate points to around 60 times of the current share price which would have logically opted the bondholder to cash if that is in fact the option. In this case Q-cells would quickly become strapped for cash. On the other hand, it appears that Ja Solar has the highest rate at 8.5% average. That alone puts in doubt that Chinese companies have been unfairly gaining debt to leverage their production. Based on balance sheet analysis SolarWorld is enjoying middle-of-the-road  rates along with Chinese companies.  

Short term borrowing

 The short-term borrowing and the amount of the total cash in our view is something, which requires a separate attention. Short-term borrowing is generally a supplement level of cash so the enterprise can manage its day to day business.  In addition, the current portion of the long-term debt may become mature and will require payout. In our view, the size of this type of borrowing versus cash and particularly a multiple level of the debt over cash may indicate that corporation could be faced with hard times to operate if the cash levels are also shrinking due to lack of earnings.  Both LDK and Suntech have almost three times of the short-term debt than cash. Gintech has five times of the cash amount.  Yingli which appears to be heavily leveraged has 1.44 times of short-term borrowing over the cash.  Jinko Solar which is considered superior to many on operational dynamic has been showing weakness in debt management and has the 1.29 times of the short-term debt versus the cash account, not much better than larger and debt laden Yingli.  Interestingly Q-Cells and REC have trouble with long-term debt only, which may delay impact on those companies for a number of the quarters, instead showing up as an issue in carrying on the business day to day.  Short-term borrowing can be refinanced in a way LDK has done last week, by selling bonds. In closing, the debt arrangments for Chinese companies have no signs of beneficial treatment. In fact within the group the amount of cash and the levels of coverage show large variable, which prudent investors will explore with great attention. For complete data view, please visit this page.