News on July 21 that China will subsidize large scale solar power installations to the tune of 50% of the cost of on-grid power and 70% of the cost of off-grid power sparked rallies of 5% to 10% in solar stocks.  Barron’s reports, however, that at least several analysts said they had already in effect factored the impact of this subsidy into their numbers.

It leaves us wondering what else analysts may have already factored into their estimates.  We are also left wondering about not-yet-reported details.  How long will these subsidies last, how rapidly will they phase out, and are there any caps on the amounts?  Will these subsidies be limited to Chinese-made module suppliers? We’ve only seen a Mandarin language press release, in which we are not fluent, so we’ll reserve some judgment.

Unofficial reports hint that the subsidy is more hype than substance given the small size of 500 MW and a potential mandate to split the MW allocation among provinces – a measure that would limit deployment given that solar simply doesn’t work well in some regions.

Given the still-high cost of solar power, in general, we are skeptical that solar power will be able to capture a significant share of the energy market in the next few years.  The bulls argue that solar is close to achieving “grid-parity.”  On the numbers we have seen, it would take an installed cost per watt of $1.50 to generate a levelized cost of electricity from solar panels of around $.104 a kWh – grid-parity in most of the world (leaving aside areas with unusually high insolation levels and high electricity costs).

How close are we to $1.50 an installed watt? A February 2009 report from the Lawrence Berkeley National Laboratory on the Installed Cost of Photovoltaics in the US from 1998 to 2007 is helpful on this point.

Using a sample size of 37,000 residential and commercial, grid-connected PV systems installed in the US over that period (which is 76% of all grid-connected PV in the US through 2007) the authors calculate a capacity-weighted average installed cost in 2007 dollars per watt (pre-tax and subsidy).   The result is a cost decline of $10.50/W in 1998 to $7.60/W in 2007.  That translates into an average annual reduction of $.30/W or 3.5%/yr, in real terms.

More telling, the study subtracts a global module price index from installed cost and finds that the bulk of these overall reductions come from efficiencies gained in non-module costs.  The Study states:

“The overall decline in installed costs over time is primarily attributable to a reduction in non-module costs….. From 1998-2007, average non-module costs fell from $7.5/W to $3.6/W, representing 73% of the average decline in total installed costs over this period.”

Despite the rapid expansion in global module capacity, this component of total installed costs has declined but by decreasing amounts as capacity expands.  Not the kind of economies of scale one would expect.

If this 3.5% a year trend holds, it would take 19 years to bring installed costs down far enough to generate at grid parity, which means that for the foreseeable future, subsidies will rule the day.  Shouldn’t this make investors suspect the sustainability (let alone growth) of earnings for the solar module manufacturers and the multiples being applied to those earnings?

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