Two Solar Stocks With Excellent Growth

by Zach Scheidt Innovation Innovation

Shares of solar energy companies have been trading higher this quarter on hopes the industry will finally rebound. At issue has been an abundance of supply, along with falling prices for manufactured solar panels. Also, budget cuts in Europe have dampened a significant source of demand as the continent continues to struggle under widespread recession.

But one of the benefits of these challenges is that weaker competitors have been forced to shut down, allowing the surviving companies to eventually capture a much larger portion of the overall market share for solar energy products.

With new technology improving the efficiency of solar panels, investments in solar energy are becoming much more cost-effective. At this point in the cycle, there are two major companies that are operating at a profit and appeal to me as a growth stock investor. Both carry some risk, of course, but both are attractive opportunities for speculative growth investors.

First Solar - The Biggest and Best

From a financial standpoint, First Solar Inc. (Nasdaq: FSLR) is the strongest company in the industry. Throughout the turbulent gyrations in the solar energy market, the company has managed to stay well ahead of its peers.

To date, First Solar has held a competitive edge in terms of technology, offering the very most efficient solar modules, which in turn represents the strongest value for customers. But recent industry data suggest that First Solar may be losing its technology edge, which is certainly a concern for investors.

This past week, First Solar sold 8.5 million shares to investors in the form of a secondary offering. The shares were sold at $46 per share - which at the time represented a significant discount to the market price. The transaction raised approximately $375 million after underwriting fees, which the company can use to build its business.

First Solar was somewhat cryptic in its explanation for how the capital would be used:

We intend to use the proceeds from the sale of our common stock offered hereby for general corporate purposes, which may include acquisitions of under development photovoltaic solar power system projects, investments in photovoltaic solar power system projects that will be jointly developed with strategic partners and capital expenditures or strategic investments to develop certain business units and expand in new geographies.

Skeptical traders claim that the company is just taking advantage of the recent increase in stock to sell shares at a premium price. But this doesn’t make sense to me. First Solar would have little to gain in diluting current shareholders simply to hoard cash on its balance sheet.

Instead, I believe the company has its eye on one or more private solar companies with new technology advances. Don’t be surprised to see First Solar announce an acquisition sometime in the next few months (using the cash it raised from this offering), to gain access to this technology.

As is often the case when a company issues a large number of shares, First Solar traded lower this week. This is due to the additional supply of shares hitting the market all at once. The decline shouldn’t be taken as an indication that current investors have lost interest in the stock.

For now, the company is expected to earn $4.20 per share this year. The stock is currently trading at about 10.5 times earnings - reasonable, considering the growth challenges in the industry. However, if First Solar puts the new cash to work on a strong growth opportunity, I expect the shares to rally sharply.

First Solar may have lost a bit of ground to competitors over the past year, but the company is still the strongest in the group. On the financial side, the company has plenty of cash, a very conservative amount of debt and very strong cash flow. Operationally, First Solar has a well-established customer base, and all of the resources it needs to continue to advance its leadership in the area.

If you can only buy one solar company right now, First Solar is the one you want in your portfolio.

SunPower - A New Approach to Business

One of the biggest challenges solar customers face is the high initial cost of installation.

Sure, it may be clear that by installing solar panels on top of a building, a company could save 30% on energy over the next five years. But the upfront cost can be too restrictive for many businesses, and so they simply continue wasting money slowly on higher energy bills.

SunPower Corporation (Nasdaq: SPWR) is one of the few companies offering a lease program that allows customers to break the cost of solar panels into periodic payments. This approach gives SunPower access to a much wider base of customers, and also creates a reliable revenue stream.

Investors love steady revenue streams. This business model reduces the boom and bust cycle of signing large contracts, and then going for extended periods before another important deal is signed.

It’s also important to note that of the solar leasing companies, SunPower’s equipment has been proven to hold up better than the competition. This means that when the lease is up, SunPower typically has a valuable asset that they can lease out again, or sell for additional income.

Analysts have been revising their earnings estimates higher for this company over the last two months. As you can see in the table below, 60 days ago, the company was expected to earn $0.55 this year. Since then, analysts have raised their estimates by 36% to $0.75. Similarly, the analysts have increased their 2014 estimates from $0.57 to $0.88

This type of increase in expectations typically precedes a major stock advance. Analysts revise their assumptions based on new company information, or based on new developments in the industry. But they typically still maintain a conservative view (because analysts get fired for being too optimistic, but not for being conservative).

As institutional investors begin to act on the new information from analysts, the demand drives prices higher. Then, as it becomes clear that the company is poised to exceed analyst expectations, the institutional investors increase their allocations. Of course, demand from retail investors also helps to propel the stocks higher.

Adding Solar to Your Portfolio This Week

The entire solar sector has traded lower after First Solar flooded the market with 8.5 million new shares of stock. This additional supply (and the resulting lower prices) may give investors a chance to pick up shares at a discount.

Over the next several quarters, I expect these stocks to continue to trade higher. Shares of First Solar could rise based on the catalyst of a new acquisition. And SunPower will likely continue to advance as the company installs more equipment (leading to more long-term lease revenue).

After a few cloudy years, the sun is shining on the solar industry.

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