Canadian Solar: Rising Chinese Production Pushes Global Market Into Glut

seekingalpha05-15

Canadian Solar Inc.'s stock has lost around 15% of its value since I covered it last, reporting poor EPS and negative cash flows.The company's significant presence in China poses risks due to labor ...

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Glut\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-05-15 05:53 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4693254-canadian-solar-rising-chinese-production-pushes-global-market-into-glut><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Canadian Solar Inc.'s stock has lost around 15% of its value since I covered it last, reporting poor EPS and negative cash flows.The company's significant presence in China poses risks due to labor ...</p>\n\n<a href=\"https://seekingalpha.com/article/4693254-canadian-solar-rising-chinese-production-pushes-global-market-into-glut\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":"IE0034235188.USD","symbol_name":"PINEBRIDGE GLOBAL FOCUS EQUITY \"A\" (USD) 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ACC"},"translate_title":"加拿大太阳能：中国产量上升推动全球市场供过于求","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"SEDG":1,"AAPL":1,"CSIQ":1,"NVDA":1},"content_text":"Canadian Solar Inc.'s stock has lost around 15% of its value since I covered it last, reporting poor EPS and negative cash flows.The company's significant presence in China poses risks due to labor issues and the differing country's legal rights to assets for foreign investors.With stagnating demand and high financing costs, the global solar market is struggling, creating a growing solar panel glut that may last years.Canadian Solar's solvency and liquidity profile appears poor but is subject to unique benefits and risks associated with its operational focus in the PRC.With Canadian Solar's market capitalization reduced, it may need to accelerate equity sales to offset its significantly negative free cash flow.   fanjianhua/iStock via Getty Images In October of last year, I published \"Canadian Solar: EPS Outlook Plummeting On Solar Glut And China Risks,\" highlighting my moderately bearish outlook for the solar panel producer Canadian Solar Inc. (NASDAQ:CSIQ). Since then, the stock has lost around 15% of its value while reporting poor EPS and increasingly negative operating cash flows. In the article, I argued that this was likely to occur due to labor issues in China and falling demand for solar in most of the world. Although the decline in solar demand may prove temporary, I argued that its financial issues could be significant enough to create long-term problems for the firm. As such, I believe it is an excellent time to cover the company again with an updated outlook, considering recent changes to the solar market and its fundamentals. China's Risks Should Not be Overlooked  I also pointed out the controversial point that, effectively speaking, Canadian Solar is a Chinese company, not a Canadian one, even though it is headquartered and listed in Canada. Per its 2023 annual report, of its 22.2K employees, 18.2K are situated in China (pg. 129), or ~82%. Of its $4.3B in long-lived assets, ~$2.4B are in China and $691M in Thailand, with just $11.4M in Canada (F-69). It sells globally, with about 40% in Asia and the Americas and the remaining portion in Europe, though that fluctuates yearly. Solar is not really produced in developed countries, though sometimes products are finished in developed countries, so they may be \"made there.\" I do not think it is problematic that CSIQ is selling in China, only that investors must consider this fact when assessing its value. Its annual report had 290 references to \"China,\" 280 to \"PRC,\" and 103 to \"Canada.\" In these references, many are in-depth details regarding the peculiar risks of owning and operating assets in China, which are very complex but are generally unsupportive of the rights and privileges of foreign owners compared to those typically seen in Canada and the U.S. I defer to its annual report on those matters, but the fact is that CSIQ must be valued as a Chinese company, as for all effective operational purposes, it is. China is a communist country with very different legal rights to assets. Further, China, as a country, has significant forced labor (an undeniable and well-documented fact). Many analysts and researchers, including the government, believe that Canadian Solar has some operations in areas such as Xinjiang, Inner Mongolia, and others, where forced labor is a significant issue (1,2,3,4). According to its last annual report, the company has \"zero tolerance\" for forced labor. Still, it then states that it faces risk regarding Biden's \"Uyghur Forced Labor Prevention Act\" (which is in effect), stating, \"Notwithstanding, there can be no assurance that we will not experience adverse consequences arising from the impact of these restrictions on our products and supply chain.\" Thus, the company admits that it may be exposed to this risk. In researching this controversy, I've seen a few counterpoints by investors and analysts. One is that its CEO, Dr. Shawn (Xiaohua) Qu, spent most of his adult life in Canada. I find this immaterial because most of its manufacturing is in China. Some also argue that Canadian Solar is as Chinese as Apple (AAPL) and Nvidia (NVDA), which primarily manufacture in China. However, there is a significant difference. Apple and Nvidia do not own and operate factories in China. They contract with Foxconn and others to do so. Yes, that gives them a moral issue, as Foxconn's practices are problematic. However, investors in those companies are not directly exposed to the legal risks associated with the U.S. (and similar) and China regarding foreign asset ownership and operating challenges in China. China's economy is, in my opinion, far worse than most understand. Its incredibly underpaid labor force is becoming more vocal and frustrated. With its government becoming unable to improve its situation after over a decade of inflating its property bubble, I believe it is due to significant economic tension and heightened labor unrest. While my point is speculative, I firmly expect that Canadian Solar will eventually face labor and production costs issues as China's economy continues to turn over. Canadian Solar Valuation Outlook Not only is China's economy struggling, but also the global solar market. As I recently detailed regarding SolarEdge (SEDG), demand for solar is falling globally due to high interest rates, particularly in the U.S. Solar loans are now around 9% after being around 4% for many years, rising in line with interest rates overall. Numbers, on that matter, can differ as many lenders use interest-rate buy-down options to increase loan amounts and lower rates to take advantage of the tax refund program on solar. Regardless, solar is far more expensive to finance today than it was, making it less competitive with traditional energy. Solar demand is falling, but it is not collapsing. I think this trend will continue as long as rates are so high, unless electricity prices spike again as they had in 2021. However, as Chinese manufacturers continue to aggressively ramp up production amid stagnating demand, a significant glut has formed, leading to lower prices despite higher production costs. Eventually, that may result in solar being affordable again, but it's still creating a crisis for CSIQ. The company's profit margins slipped significantly during 2023. They rebounded in Q1, but its operating cash flow plummeted, offsetting the benefit of higher margins. See below: Data by YCharts Despite its poor performance, CSIQ is focused on aggressively expanding its manufacturing base. Its CapEx-to-sales ratio is very high at 33%, giving it a staggeringly negative free cash flow of -$731M last quarter. Its working capital is hardly positive at $139M, and its quick ratio of 53% implies it operates with thin liquidity. To offset that, the company has diluted its equity occasionally. See below: Data by YCharts CSIQ is very leveraged, with over $5B in financial debt compared to a $1.1B market capitalization. Over recent quarters, its cash-from financing has ranged from about zero to over $1B. Crucially, its ability to raise cash by selling equity is greatly hampered today because its market capitalization is so low. Thus, it is resorting to more debt financing. See below: Data by YCharts Notably, the majority of its debt is short-term and low rate. Its total interest costs per year are around $50M, which is low. Based on its balance sheet, it appears its liabilities are primarily short-term borrowings, short-term notes payable, \"other payables,\" advances from customers, and \"other current liabilities.\" Its annual report notes $1.26B in long-term borrowings and $389M from \"green bonds and convertibles.\" The structure of its liabilities is quite different from what I usually see. I will not pretend to understand the complexities of financing industrial projects in China. That said, it is clear that the company has significant liabilities compared to its market capitalization, as well as substantial negative free cash flow and (more importantly) operating cash flow, making it dependent on external financing. Its ability to sell its equity to raise cash, if it must, is low due to the decline in its market capitalization. Its debt financing appears to be very low cost, but investors and analysts may wish to look into that further. However, if we assume solar demand will remain falling or stagnant for the coming years while production continues to rise (as implied by CSIQ and others' immense CapEx spending), the glut will grow, and prices will continue to decline, likely resulting in more negative CFO. CSIQ's Altman Z-score is falling quickly today: Data by YCharts The Altman Z-score is an index measure of statistical bankruptcy risk derived from changes in balance sheets and margins. Scores below 1.8 signal elevated credit risk, and those closer to 0 indicate high bankruptcy risk. If I assume that the solar industry will remain slow due to the production glut, then its score will likely continue to deteriorate, potentially resulting in bankruptcy in the future. The Bottom Line I remain bearish on CSIQ, but I would not short-sell it. My reason is simple: I do not understand every aspect of the Chinese operating and financing environment today. From what I understand, CSIQ has all the tell-tale signs of a manufacturer on the verge of poor liquidity and solvency, caught in an industry with overproduction and rising production costs (labor and commodities in particular), and falling or stagnant global demand. In capitalist economies, that points to a heightened potential for bankruptcy. Canadian Solar is effectively operating in a communist economy. In the event its situation continues to deteriorate, it may receive stimulus from the PRC or something similar. I absolutely would not bet on that happening, but that is enough reason not to bet against it, either. I am analyzing the firm from a capitalist perspective, where we cannot (usually) assume the government can or will take substantial measures to change its situation. From what I understand, that often happens in China.  Still, as seen in Evergrande, Chinese firms can pay domestic investors but not foreign investors, treating foreign investors unfairly. CSIQ is not an ADR. It is technically a Canadian firm, but its assets and employees are in China. Again, there is not necessarily a defined risk for CSIQ relating to this, but it is enough that I would rather not touch it. Those who understand these legal complexities may have an edge in analyzing CSIQ. Still, I am bearish on CSIQ and believe the odds are unfavorable to the firm, with its 2024 risk likely more significant than in 2023.","kind":null,"is_publish_news":null,"is_publish_highlight":null,"is_publish_live":null,"is_publish_wemedia":null,"editions":null,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":1,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.22.5","shortVersion":"4.22.5","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2435521147"}