Something new under the sun

These are boom times in solar power. But deals are moving so quickly, some of the world’s top manufacturers are getting crushed. Not Canadian Solar. What’s keeping it above the fray—and out of the headlines?
By John Greenwood

Shawn Qu, founder, chairman and CEO, Canadian Solar: Headquartered in Canada, run out of China, listed on Nasdaq, reaching markets around the world

The sprawling, low-rise industrial building in a business park on the outskirts of Guelph, Ont., about an hour’s drive west of Toronto, is pretty much indistinguishable from its neighbours, except for the higher flow of cars and trucks moving in and out of the parking lot.

At Canadian Solar Inc. (Nasdaq:CSIQ), anonymity is almost a virtue. It’s easy to miss the discreet sign bearing the company logo on the front gate. Shawn Qu, the founder, chairman and chief executive, rarely speaks to the media and eschews flashy cars and other trappings of wealth. Yet his 24% stake in the company—he is the largest shareholder—gives him a net worth of about US$230 million, making him one of Canada’s wealthier people.

In a rare newspaper interview in 2014, he acknowledged that due to the demands of his work he has time for few diversions—he likes to swim to stay in shape and he sometimes goes on ski vacations with his family. But make no mistake, Qu’s company—which he started in 2001 after getting his PhD at the University of Toronto and a stint with another solar power firm—is at the forefront of its industry, one the world’s largest producers of photovoltaic (PV) panels with annual revenue of US$3.5 billion. More recently, Canadian Solar has begun branching out into building and owning industrial-scale solar farms and is rapidly building up a portfolio of projects in Canada, the U.S., Mexico, Europe and other countries. Remarkably, Qu’s company has achieved these gains at the same time as some of its toughest competitors are struggling for air.

In early April, SunEdison Inc., a Belmont, Calif.-based solar giant, sent shivers through capital markets when it filed for bankruptcy with more than US$14 billion of debt. Abengoa SA of Spain, another behemoth, is selling off subsidiaries in a bid to avoid the same outcome as it grapples with a debt load topping US$10 billion.

Their fate is a testament to the enormous challenges players face in this industry. Yet while scores of solar companies have come and gone in the past decade, these are now boom times, demand and installations are exploding, low-carbon energy is the future—shouldn’t it be time to make hay? Therein lies the irony. Solar is a capital-intensive industry, requiring enormous up-front investment. In the early days at the turn of the century it was all about putting up factories with the latest production facilities and making panels. Those that produced the most for the least amount of money came out on top. But as production has grown and technology evolved, margins shrunk. Simultaneously, the demands changed as the industry morphed into a business of building and operating actual solar farms. Now access to capital has become a differentiating factor.

Another key, it appears, is financial engineering.

This time last year one of the hottest trends in solar was something called a yieldco. Yieldcos are akin to investment trusts, tax-efficient structures designed to operate the assets they hold and spin off cash. For yield-hungry investors at a time of stagnant interest rates, they were a godsend when they first emerged early in the decade. In fact for a while, investors couldn’t get enough of them. Solar companies like SunEdison stepped up to the plate, setting up yieldcos and cranking out or acquiring more and more solar projects to fill their portfolios.

But then something happened—triggered by, of all things, the fall of natural gas and coal prices starting in early 2014; that, in turn, caused electricity prices to tumble. Profit margins on solar took a hit and investors felt it immediately. Soon, the bloom was off. In the early days, the yieldco concept was all the market cared about. But as yieldco profits fell, investors began scrutinizing the solar projects they held. They didn’t always like what they saw. SunEdison found itself accused of using its yieldcos as a dumping ground for low-quality assets. When shareholders at TerraForm Power, one of its yieldcos, voted down a proposed acquisition, things began to unravel. In the space of a few short months access to capital dried up, shares plummeted and SunEdison was left to file for bankruptcy.

That doesn’t mean yieldcos are finished. Well-structured ones continue to perform, and Shawn Qu remains a big fan. In fact, Canadian Solar was well down the road last year to launching its own yieldco when the market dried up. The company had hoped to use the returns to pay down some debt, diversify its sources of funding and free up cash to finance more projects.

In March, when Canadian Solar released its 2015 results, Qu said it would test the yieldco waters again later this year. But if it doesn’t happen, no worries; the business carries on and the company can raise the money by selling finished assets instead of channeling them into a yieldco. “We have several options to monetize our project development expertise,” the company said in a statement.

SHAWN QU LAUNCHED Canadian Solar with zero fanfare, backed mostly by his own modest savings. An immigrant from Beijing, China, who came to Canada to study for his masters at the University of Manitoba before moving to Toronto for his doctorate, Qu’s captivation with solar’s possibilities started in school. Later, it fueled a desire to strike out on his own, after a stint with a solar power subsidiary of a larger automation and technology services company. Canadian Solar’s first success came in the form of a contract to make a solar-powered car-battery charger for Volkswagen in Mexico. At the time he won the deal, Qu had no manufacturing facilities and none of the financing to build them. But he pulled it off, built a plant in China, and revenue from the first invention kept Canadian Solar afloat until it got better established.

From there, it grew quickly, building panels for customers in Germany, an early mover on government incentives, and then North America. The company went public on the Nasdaq in 2006, just as the first serious boom in solar panel sales took flight. Its shares soared as high as US$50 in 2008, but the financial crisis and the market crash put an end to that. The sector rallied briefly in late 2009 and 2010. But then a proliferation of competitors, many based in China, saturated the market and brought margins and valuations down to earth. Scores of players were forced into bankruptcy. That settling phase lasted until 2013. At that point, the picture began to brighten, thanks to decreasing costs and increasing willingness on the part of governments to help drive investment in solar generation.

For investors, it’s been a wild ride. After the vertiginous highs of 2008 and another short-lived spike into 2010, Canadian Solar shares eventually slipped below US$3 for much of 2012. They came back to life in 2013, zooming above US$30 as the industry’s fortunes revived. They’ve been volatile since, but the company has steered clear of any serious pitfalls.

Panel pusher: Canadian Solar built this 10MW, 47,000-module AC utility-scale solar power plant in Kingston, Ont., then sold it to Blackrock in 2014

Today, Canadian Solar has products and projects installed and operating in about 70 countries. In 2015, according to PV Tech, it was the world’s second-largest maker of photovoltaic modules. Along with the US$3.5 billion in revenue, net income for the year was US$172 million, down from US$240 million in 2014. If the company does make good this year on a potential asset sale, it says 2016 revenue will fall between US$3.2 billion and US$3.6 billion.

Some credit Qu’s conservative approach to business and risk avoidance for the company’s durability. According to Jade Jones, a senior analyst with GTM Research in Boston, a big factor in Canadian Solar’s rise has been its focus on having a cost-competitive product. “They focus on standard technology that is proven and that has demand,” she says. “That makes it easier for them to break into projects that are utility-scale and which demand lower prices for panels.”

More recently, Jones adds, the supply-demand balance in panels has improved because so many competitors went under. “That’s been good for the manufacturers that remain standing,” she says.

Another factor in Canadian Solar’s performance seems to be access to capital. Even in the sector’s darkest days Canadian Solar has never lacked for lenders. “We have a whole bunch of different sources of financing,” says chief financial officer Michael Potter, who spoke to Listed in place of CEO Qu, who was unavailable. Potter estimates the company raised as much as US$5 billion in debt and equity last year alone. Much of the borrowing is from banks in China, according to the 2015 annual report. So far, that’s proved a good arrangement at a time when many solar companies dependent on western lenders often found themselves in a credit crunch. On the other hand, as the company’s own annual report notes, this exposes it to risks within China’s financial sector at a time of economic uncertainty.

CANADIAN SOLAR’S ACCESS to Chinese capital speaks to the company’s strong Chinese presence from top-to-bottom. The company might be headquartered in Guelph, for example, but Qu runs it primarily from Suzhou, China, along with at least two of its biggest factories. And despite its name, Canadian Solar, the company didn’t open a manufacturing plant in Canada until the Guelph facility came on line in 2011. (In 2014, it added a second plant in nearby London.)

For this reason, Canadian Solar has had to deal with accusations from both Ottawa and Washington of dumping cheap, subsidized Chinese-made solar panels in North American markets and has been hit with punishing tariffs. In Canada, a preliminary investigation last year assessed a duty equivalent to 174% of the Chinese export price; in the U.S., a lighter 30%. Those tariffs stem mainly from trade complaints from local competitors arguing the Canadian Solar is really a Chinese company with a Canadian headquarters for convenience.

In 2010, Canadian Solar’s use of Chinese auditors did get it embroiled in a U.S. Securities Exchange Commission investigation of those auditors. The problem arose when those firms—Chinese branches of several international accounting and auditing firms—refused to disclose client audit files in violation of securities rules. As one of the clients with files in limbo, Canadian Solar had to make other arrangements with the SEC before clearing its name. However, the company did directly run afoul of the SEC in another matter, when it overstated its 2009 revenues. The subsequent SEC action and settlement in 2014 cost Canadian Solar US$500,000. (A Canadian class action lawsuit around the same matter has yet to be resolved.)

Raise any of this with Potter and it’s clear the CFO is tired of defending Canadian Solar’s true identity. “We’re a Canadian company,” he says, his voice betraying more than a trace of exasperation. “We have no special relationship with the Chinese government, or any special subsidies. We’re not a state-owned company, we don’t get access to Chinese government money or anything.”

There’s a flipside, too, of course. Given the global nature of the business, many of Canadian Solar’s top competitors are Chinese companies. Operating alongside ensures it maintains a level playing field as the market explodes and transforms. And the rate at which that is happening is staggering. Last year, investment in solar generation worldwide soared to $US161 billion, more than coal or gas generation combined, according to Bloomberg. That’s five times the amount of money solar attracted in 2005. This year, newly built solar capacity in the U.S. is expected to more than double the level from 2015. According to GTM Research, a photovoltaic solar system is now installed in the U.S. every two-and-a-half minutes. In 2006, the year Canadian Solar went public, it was an average of every two hours.

As recently as 2010, solar was the among less attractive renewable energy options; today it’s easily one of leaders, attracting significantly more investment than either wind or biomass. In the early 2000s when solar evolved from rich man’s hobby to viable business, activity was mostly confined to rich countries like Germany and the U.S., but the balance has been shifting and China is now the epicentre after emerging as the world’s biggest solar generator in 2015. It plans to triple existing capacity by 2020.

“We are witnessing a global boom in photovoltaic solar, with many firms operating close to full capacity and sold out for 2016,” says Paul Coster, an analyst at JP Morgan.

In conjunction with this boom, as noted, there’s been a shift in the market from merely making panels to building, owning, operating and/or selling entire projects structured on long-term contracts with utilities and local governments. According to Jones of GTM Research, Canadian Solar got into project development relatively early compared to other big Chinese manufacturers. “That’s proved to be a good business,” she says.

As Potter describes it, this move enables the company to capture revenue from panel manufacture as well as from the sale of electricity from solar projects—many of which are substantial and benefit from multi-year contracts at guaranteed prices.

If running solar panel factories requires a lot of capital, building projects takes it another level higher. But solar farms, says Potter, “are essentially real estate developments, and there’s a big industry of banks that provide financing. The typical solar project has a 15- or 20-year contract to sell electricity where the pricing is known and it can definitely sell pretty much everything it makes.” That means a steady cash flow that can be securitized, with plenty left over as profit.

MEANWHILE, THE COMPANY has lots of opportunity before it to scope out. Justin Trudeau’s federal Liberal government recently joined 175 countries in signing the 2015 Paris climate accord, throwing its support behind the environmental movement and renewable energy. While Ontario remains host to 90% of all Canadian solar installations, other provinces—such as Alberta, under Premier Rachel Notley—have served notice they’ll be supporting solar as well.

Outside of Canada—due to politics, economics, environmental concerns and also health effects—the opportunities are many times as large again. “The largest markets right now are Japan, the U.S., and China,” says Potter. “We’re also looking at setting up large projects in Brazil.”

Potter believes the next phase of the market will be defined by a reduced dependence on government incentives. He says technology has evolved to the point where subsidies are no longer necessary. “Five years ago government support was essential, but today there’s some huge markets that are taking off that really don’t have much government support at all.”

Not everyone would agree. Or, at the very least, the market is waiting for more evidence in the form of tangible results. Case in point: Canadian Solar shares have recently been trading barely above book value. This, even as most analysts are bullish on the stock, with target prices double or more of current levels.

“We think as consolidation happens and stronger companies emerge the risks of the sector will decrease,” says DBRS analyst Radi Annab. Which means if Canadian Solar can stick to its current path, its current anonymity—like non-renewable power—might soon be a thing of past.

Photography: Canadian Solar

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