Sunday, February 22, 2009

Solar Flux

The solar industry is certainly in flux. Major economic winds are reshaping the industry, which has largely developed in the cocoon of government incentives.

A transition was inevitable for an industry growing almost 40% per year to reach ~4GW in 2008--as recently as 2001 total industrial production was under 400MW.

But the global financial crisis and the ensuing world-wide recession has acted as a pressure cooker, compressing changes that would normally play out over years to take place in a matter of months. Capital and credit markets siezed up in near perfect sychrony last fall, abruptly shifting investors primary concern from the "ability to reach scale" to simple "survivability". Firms at the very center of our global economy disappeared overnight or were de facto nationalized, entire industries are on the brink of failure (or have already failed but are too stubborn to admit it--Detroit anyone?)

Against this backdrop, the solar industry flux can seem insignificant, but it is not. The solar industry by its nature (~ all the costs are upfront) is driven by 1) price (panel and install), 2) financing, and 3) government policy/incentives. Each of these is rapidly "evolving".

Start with 2) financing. Not only are manufactures struggling individually with the rapid changes in credit markets, so are their suppliers and customers. Some financial institutions were major financiers of renewables like solar via tax credit financing arrangements, even for the financial institutions that still exist, the wild profits that drove the tax credit appetite seem unlikely to return. As a result investors are currently skeptical of planned projects that rely on this tax credit financing.

Silver lining: interest rates are low and some recent policy changes (primarily in the US) have increased the value of the tax credits and the number of people that can utilize them.

Back to 1) Price. This is the most "visible" factor. A recent supply bottleneck (silicon) for the solar industry is shifting from scarcity to plenty. Elimination of this bottleneck was widely anticipated and analysts expected the cost of solar to fall 10-20% by the end of 2009, but all the previous forcasts assumed continued robust demand growth for solar and parallel (semiconductor) industries. It appears that panel prices fell 6%-10% in the last quarter of 2008, and some expect the same trend to continue this quarter (and possibly next?). There have also been significant currency moves as a result of the financial crisis--Euro weakness, Yen strength--which complicates analysis of these price trends. Still we are seeing a year's worth of price moves in a single quarter and that is bound to negatively impact a number of companies in the solar supply chain in the short term. Longer term a lower cost of silicon is good for solar as it brings the cost of solar down relative to competing energy sources, but abrupt changes are inevitably disruptive.

Silver lining: Lower prices will lead to greater demand. Each 1% drop in module prices reduces the simple payback of solar by ~1 month. (Even more in locations without incentives or marginal annual sun-hours.)

3) Government policy/incentives. While generous subsidies in Europe are getting scaled back (bad), the US is increasing its support for solar under President Obama (good) and both Japan and China appear to be increasing support for solar (good). On balance, I think this will prove an intermediate and long term plus for solar, although it is unclear what the near term effect will be. Incentives that are too generous tend to be volitile (subject to cuts in a crisis) and sometimes lead to misbahvior/fraud like we saw in Spain last year. In addition in the US utilities now have the same relative incentive to invest in solar as individuals or businesses. This could quickly lead to significant growth in utility scale investment and installations (100MW+)...already we have seen CA utilities take the lead due to generous state incentives. If utilities across the southwest follow suit, excess solar industry capacity would quickly be filled.

In summary, the US is the largest natural market for solar (the largest economy + plus lots of territory with good sun), and for the first time in a generation policy is likely to be supportive of solar for the next several years. Combine this with a lower cost of solar due to de-bottlenecking the solar supply chain, and the US may be at the center of a 40GW solar industry in 2015. While investors need to be mindful of short-term adjustments and pitfalls--see any solar companies 3 month stock chart--I see every reason to think that solar will be one of the industries leading the US out of its current recesssion.


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