LDK: Light The Way With LDK

Imagine a company that is so successful that it can handpick its clients. A company with products so highly coveted that it sold out its inventory for the fiscal years of 2008 through 2009, and nearly 50% of its inventory for 2010. A company in an industry that has brought the cost per watt down from over 100$ per watt in 1975, to less than 4$ per watt in 2008. A company that has been averaging a 200% year-over-year growth rate for the last three years. Now stop imagining: This company is LDK Solar (LDK). Performance: Since its inception in early 2005, LDK has been setting the standard for excellence in the solar sector. Through hard work, diligence and visionary leadership, LDK has become the world's largest producer of mono-, and polycrystalline solar wafers. By the end of of 2008 LDK will be producing vast quantities of polysilicon in addition to solar wafers making it the worlds largest solar company. Summary: Unlike some better known solar companies, such as First Solar (FSLR), Sunpower (SPWR), Suntech Power (STP), or Solarfun (SOLF), LDK does not produce the actual photovoltaic solar modules. LDK is positioned in a similar place in the solar supply chain as Intel (INTC) is in the technology sector. Intel's processors and motherboards are critical components of any computer; and similarly, LDK's wafers are critical components of any solar module that is made using polysilicon. As a result of these similarities, LDK is often referred to as the Intel of the Solar sector. Many analysts insist that First Solar is the best of the breed, because it does not use polysilicon wafers. This could not be any farther from the truth. First Solar's Debacle: First Solar has the largest market capitalization of any solar company trading on the united States exchanges with a market capitalization exceeding twenty Billion. First Solar manufactures its thin film panels using a cadmium-telluride substrate blend. Cadmium-telluride is a combination of tellurium and cadmium. Both of these elements are very toxic and very scarce. According to the European Union's 2003 ROHS (Restriction of Certain Hazardous Substances) Directive, use of six hazardous materials is prohibited in excess of 100 PPM (parts per million). Unfortunately for First Solar, cadmium made the list. In fact, First Solar's panels use 470,000 PPMs of cadmium. As a result, the European Union could ban the use or production of First Solar's panels at any time. Because First Solar makes most of its money in Europe, this could decimate its business overnight. Other Issues Weighing on First Solar: Moreover, tellurium is becoming increasingly expensive. Tellurium is used to produce Blu-ray discs, CD-RW discs, and various types of random access memory. Soaring demand from Sony's (SNE) Blu-ray has lead to a meteoric rise in the price of tellurium. Blu-ray's long-term success was guaranteed when the Toshiba Corp. (TOSBF.PK) announced it will no longer develop, manufacture or market HD DVD players and recorders. The price of tellurium has risen from $10 a kilogram in 2004 to well over $300 a kilogram today. Demand is expected to continue to rise dramatically, and without a substantial increase in production, tellurium prices should go through the roof, largely eliminating First Solar's competitive advantage. Conversion Rates: While toxicity of cadmium-telluride, and the scarcity of tellurium, will continue to hinder First Solar's growth, the company's biggest problem is incredibly low conversion-efficiency rates. Compared to its peers, First Solar has one of the worst solar conversion efficiency rates in the sector. At present levels, First Solar is able to convert 10.5% of the sunlight it brings in into electricity. This is significantly lower than the 13% conversion rate Sharp achieves and Suntech Power's 18%. In fact, First Solar's rates are less than half that of the market leader Sunpower, which achieves a whopping 22%. In addition to soundly beating First Solar's conversion-efficiency rates, what do these companies all have in common? They all manufacture their photovoltaic modules using polysilicon-manufactured solar wafers. Advantages of Polysilicon: Silicon is one of the top ten most common elements on the planet, so raw-material shortages should never be a problem. Analysts have been criticizing companies that use polysilicon-manufactured wafers due to steeply rising polysilicon prices. They argue that high polysilicon prices will erode profit margins for polysilicon-based solar modules. While it's true that polysilicon prices have been rising at an exorbitant rate, prices are expected to plummet in the latter half of 2009-2010 as more production comes on line (Gupta, 2008). On the other hand, some analysts expect polysilicon prices to drop as early as the 3rd or 4th quarter of 2008. While production bottlenecks lead to rising prices of polysilicon, raw-material shortages predominantly spur higher tellurium prices. Polysilicon prices will fall as more production comes on line, because of the abundance of the raw material. The tellurium problem is not so easy to solve. Production increases will not be able to offset rising costs. Very much like oil, tellurium production will not be able to keep pace with rising demand. Polysilicon Plant: During the summer of 2007, LDK Solar announced that they were partnering with Fluor, one of the world's largest, and most prestigious publicly owned engineering, procurement, construction, and maintenance services companies. Flour will provide engineering, procurement and construction manufacturing services for LDK's two polysilicon factories in Xinyu City, Jiangxi, People's Republic of China. When completed, these factories will be the largest in the world. Fluor uses a comprehensive EPCM (engineering, procurement, construction, maintenance) services approach that will include a trichlorosilane plant, chemical factor-deposition reactors, converters, and other necessary infrastructure and utilities. Partnering with Fluor made perfect sense for LDK. Its experience and ability to quickly construct a state of the art polysilicon factory means LDK can continue to execute its business initiatives. Polysilicon Production: Upon completion of the two polysilicon factories, LDK will expand its polysilicon production capacity to include three production lines. Enabling LDK to produce 15,000 tons of polysilicon and more than 90,000 metric tons of trichlorosilane by 2009. In comparison, current worldwide production of polysilicon is approximately 100,000 metric tons per year. The smaller of the two factories will intially produce 1000 metric tons of polysilicon. This factory is slated for completion by the end of the second quarter in 2008. The larger of the two factories will be completed late in the fourth quarter and it will initially produce 7000 tons of polysilicon. Demand: Demand for solar wafers will remain very strong as other solar companies expand their production capacity. Over the last eight years, the solar sector has grown over 849%, with production rising from 877 megawatts in 2000, to 8325 megawatts in 2007. Most analysts remain optimistic about industry growth, and the global solar photovoltaic market is expected to grow from US$13 billion, to over 40 billion by 2012. And as aforementioned, all of LDK's inventory for 2008-2009 has been sold, and nearly 50% of it's inventory for 2010 is already commissioned. Second Quarter 2008 Results: In the second quarter of 2008, LDK reported fully dilluted earnings per share of $1.29. This stellar quarter slaughtered analyst estimates of 44 cents per share. LDK recorded over 441 million dollars in revenue, a 89.2% sequential increase over quarter 1 of 2008. LDK also reported record net income of 149.5 million dollars, a 200% sequential increase in revenue over quarter 1 of 2008. While explosive revenue and income increases highlighted LDK's strong quarter, gross margins sequentially declined 2.3% over quarter 1 of 2008 to 25.4%. In spite of an overall decrease in gross margins due to higher polysilicon costs, operational margins improved slightly due to LDK's successful execution of its vertical integration strategy. Guidance: Due to unprecedented demand for its solar wafers, LDK raised revenue guidance from 1.08-1.18 billion, to 1.65-1.75 billion dollars. The company now expects wafer shipments to be in the range of 750-770 megawatts. Its gross margin guidance remains unchanged and LDK expects gross margins in the range of 23-28%. These numbers seem very conservative and I expect margins to be much closer to thirty percent, because LDK will be producing its own polysilicon in the third and 4th quarter. By the end of 2008, it is anticipated that LDK will achieve 1.2 gigawatts of capacity. LDK reached 1 gigawatt of capacity on 8/25/2008. Raw Materials and Profit Margins: Many solar companies outsource or offshore many of the stages of the production process, but in hopes of increasing overall profitability, LDK will ultimately complete nearly all of the phases of the production process in house. Once LDK's two polysilicon production facilities are operating at full capacity, LDK will reduce its raw material costs dramatically because the company will be immune to market-pricing fluctuation of polysilicon: mitigating the need to sign new contractual polysilicon agreements. LDK's profit margins will improve robustly in the 4th quarter and throughout 2009 as polysilicon production capacity is expanded. By the end of 2009, LDK anticipates profit margins in excess of 40%, and some estimates suggest that profit margins could be as high as 55%! Wafer Thickness: LDK effectively reduced wafer thickness from 200 microns to 180 microns, and both wafers are being mass produced. Further reduction is expected by mid year when wafer thickness will be reduced to 160 microns. Reduction to 140 microns is expected by the end of 2008. Currently, LDK has a 120 micron wire in trial production. The company is also cutting down on the number of broken and fragmented wafers. Reductions in wafer thickness and breakage provide increased efficiency, and lower inventory and raw material costs. These reductions will directly contribute to the bottom line and reflects LDK's ability to execute its strategy of becoming the worlds premier providers of solar wafers. Contract Signings: Other notable contracts include long-term deals with BP (BP), GE (GE) and Sharp. Year to date, LDK signed ten long-term contracts with some of the worlds leading producers of photovoltaic products. Based on current metrics, LDK's contract backlog is worth over twenty billion dollars. The company signed a paramount deal with Qimonda (QI) solar that will privilege it to the excess polysilicon and damaged wafers produced in Qimonda's factories. LDK's top-notch recycling facilities will melt the broken products down and turn them into premium-grade polysilicon. Under these agreements, LDK will receive large prepayments that usually reflect 10% of the contract's value. This will help LDK finance its polysilicon factories, purchase raw materials, and further its expansion plans. The prepayments promote shareholder value, because the necessity for equity or debt financing is reduced. Technicals: On a valuation basis, LDK is also trading much more favorably then other American companies in the sector. Though LDK's revenue exceeds industry "leaders" First Solar and Sunpower, both of these companies unjustly command much higher market capitalization's and valuations. First Solar's price-to-earnings ratio is well above 90 and its market capitalization exceeds $22 billion. Sunpower's price-to-earnings ratio is well over 150, and its market capitalization is $8.3 billion. Meanwhile, LDK is trading at 20 times its earnings, and its market capitalization is only $5.46 billion. Its forward price-to-earnings ratio trades at an even deeper discount of 11.60. Based on these numbers, it is clear that investors are willing to pay a premium for First Solar and Sunpower, despite LDK's similar earnings and better long-term prospects. Going Forward: After reporting a record quarter on August 11th, LDK's stock has risen from $33.58 to $51.26 cents as of the close on August 30th. While LDK has risen more than 50% in the last 2 weeks, this is just a drop in the bucket. By the end of 2009, LDK will conservatively earn 1 billion in net income. If LDK is trading at 51.26 by the end of 2009, its pe ratio would be about 5. Surely LDK will command a much higher valuation because of its unparalleled performance, and conservatively LDK will have a pe ratio of 15. Using these numbers, LDK will conservatively be trading at 150 by the end of 2009 and I believe the upside is north of 250 dollars a share. Commodities, Global Warming, and Government: Soaring commodity prices and global warming will also contribute to LDK's long-term growth. According to many analysts, the solar industry will grow at an annual rate of 20% and we should expect LDK to capture a large percentage of this market. Countries around the world are curtailing their emissions of greenhouse gases and carbon dioxide because they are contributing to global warming. Solar energy is creating a feasible alternative to traditional energy sources, such as coal, oil, and natural gas. Solar panels produce electricity that businesses can use, store, and sell back to the power companies if the infrastructure exists. Once we reach grid parity-the point at which fossil fuel created electricity coincides with the price to produce solar energy-solar energy demand will erupt. In coming years, analysts anticipate solar energy prices will continue to decline. With the U.S. elections right around the corner, global warming debates are going shift into high gear. Even more energy legislation will be passed mandating lower emissions, which in turn will provide more incentives to shift to solar energy. These incentives will include tax credits, grants, and-most important- government mandates. While politics and the stock market are separated by a fine line, both John Mccain and Barack Obama have pledged their support for renewable energies. LDK is perfectly positioned to profit off the growing demand of solar energy, because the components it manufactures are critical to any polysilicon manufactured photovoltaic. Polysilicon will dominate the solar market because of the abundance of the raw material and the higher conversion rates. LDK will take advantage of this growth by delivering world-class solar wafers manufactured in state-of-the art facilities. Good Luck Longs! by:John Schiro