The Trade: Links We Like
Posted on 21 August 2009 | No responses
- The latest issue of Foreign Affairs is out and is filled with climate and energy related issues: an analysis of the upcoming Copenhagen Conference, “Black Carbon” emissions, Cap and Trade versus a Carbon Tax, and a contrarian forecast for an extended period of low oil prices. We expect some insightful commentary from this well-respected journal, whose history and expertise in the field of foreign relations and diplomacy assures that the issue will receive high-level attention. We’ll comment more on these issues as we digest it.
- James Glanz at the New York Times takes another break from his bureau post in Iraq to update us on delays in the Alta Rock EGS drilling project north of San Francisco at The Gysers. The news: “The [drilling] bit has snapped off at least once and become repeatedly fouled in a shallow formation called cap rock, and the drillers have twice been forced to pull it out and essentially start the hole over again.” This non-news seems hardly worthwhile given the enormity of Glanz’s purview in Iraq. We continue to find his coverage of the topic to be unfairly negative and are surprised that the Times continues to focus on this distraction.
Barron’s Wrongly Gets Sensational On the Q2 Beat.
Posted on 19 August 2009 | No responses
We are working on an analysis of First Solar for our clients, and have not finished our work, but we have done enough research to be able to say that Bill Alpert’s negative article in Barron’s last weekend raised red flags for all the wrong reasons (subscription required for access to the Barron’s article).
Alpert charges that the Q2 “beat” was a “figment of bookkeeping.” FSLR’s Q2 revenue of $525 million, versus $459 million of consensus-expected revenue, beat the consensus by $66 million. $84 million of sales came from a German solar project, named Lieberose, and it is here that Alpert takes issue. Barron’s simply attributes the revenue to FSLR changing an interest in the project from equity to debt, but this doesn’t tell the real story.
What actually happened is that FSLR sold its modules to the project in Q1 and Q2. In Q1 there was a financing arrangement, understandable given the timing of the deal, whereby FLSR had put up a loan and had a right to make an equity investment. Under accounting rules, the presence of the equity right disqualified the Q1 revenue from being booked in Q1, and it was deferred. The company had told analysts of this fact and that the deferred revenue was excluded from its full-year revenue guidance of $1.9-2.0 billion and that it would be recognized if and when the accounting standards dictated. In Q2 the equity right expired because the remaining financing was raised for the project, and so the company booked the $84 million revenue from the Q1 and Q2 sales.
Alpert doesn’t challenge the accounting rule that required FSLR to defer the Q1 sales nor does he indict the application of the rule that when the equity right ceased, due to sufficient funding of the project from other investors, FSLR had to recognize previously deferred sales. Are these sales real? Of course they are; the project exists; no dispute from Alpert here.
At what point, then, do these $84 million in revenue resemble a “figment of bookkeeping?” Alpert was way off-base with his characterization and he then goes on to raise a bogus issue with a new accounting standard SFAS 167, just issued on June 12, 2009, which takes effect after November 15, 2009, meaning that it will apply to FSLR 2010 reporting. (Alpert is so economical with the truth that he leaves out this timing.)
SFAS 167 was adopted in the wake of Enron to rein in bogus sales to entities under the control of the seller, or “variable interest entities.” Alpert cites FSLR’s general 10Q disclosure that sales to projects in which it has invested may raise issues under 167. Note that this is not a specific disclosure related to the Lieberose revenue, but a boiler-plate disclosure that all companies must make.
By Alpert’s transitive logic: the equity right in Lieberose is the same as a “variable interest” in a controlled entity and therefore must be what FSLR is talking about in its 10Q disclosure. Very sensationally, he connects FSLR to Enron by stating, “investor’s may well question whether the company-funded projects reflect natural demand for its products.” It’s a substantial charge given the magnitude of the fraud involved in Enron, and understandably raises fears, especially among non-accountants.
Is the right to an equity stake in Lieberose a “variable interest” in a controlled entity that allowed FLSR to pull the strings of demand enough to generate a Q2 beat? No. FSLR never had control of the project and panel sales were booked at prevailing, not inflated, market prices. Whether the project would exist but for FSLR’s financing, it is hard to say, but that doesn’t make the profits any less real nor does it trigger 167 scrutiny, even if 167 had been already implanted as Alpert falsely implied.
What about the issue of whether analysts were fooled into using revenue estimates that were too low? The company was pretty clear on its Q1 conference call that the guidance excluded some upsides and some downsides, the deferred revenue from Lieberose was an upside. The only criticism we would make of FSLR is that it could have included more disclosure in the earnings press release and thereby prevented about 5 or 10 minutes of excessive exuberance in the after-market after the press release was released and before the slides and conference call.
Here is what the company said on its Q2 conference call on July 30 as reported in Seeking Alpha’s transcript. (Contrary to Alpert’s implication, this was not buried in the 10-Q filing.)
“Let me provide you with some additional comments on the Lieberose project. Revenue recognition was triggered by the closing of the project’s third-party debt financing in the second quarter. First Solar only holds subordinated debt in the capital structure of it today and the expiration of any right to the project equity. Year to date, we have recognized $84 million of revenues representing approximately 80% of the total project revenue. The project is currently being marketed for our customer Juwi.”
There are ample issues with FSLR that merit exploration and analysis, but the “Q2 revenue beat” is not one of them. Barron’s has egg on its face in our view. Barron’s also tried at the tail end of the article to raise an issue with FSLR’s purchase accounting treatment on OptiSolar, but since most readers can only tolerate so much accounting technicalities, and since Barron’s never made clear what it was objecting to anyway, we will refrain from commenting further.
KAIST OLEV: A Better Idea?
Posted on 13 August 2009 | No responses
Some “out of the box” thinking from South Korea caught our attention. Instead of the current idea of electric vehicles with batteries (fixed or swapable), which leads to problems like cost, weight and energy density, how about charging the vehicles from power strips buried along roads or at intersections?
A small battery in the vehicle could allow it to go off-road, but most of the time the vehicle would be near to power supplies, and the power could be transferred, without contact, across a gap of a few centimeters. OLEV stands for Online Electric Vehicle. The idea is being developed by the “MIT of Korea,” the Korea Advanced Institute of Science and Technology (KAIST). A demonstration event was scheduled for today, August 13, in Korea. More details can be found here and here.
Obviously the concept is years away, if ever, but more than anything it shows that scalable solutions that can truly compete with the fossil fuel based infrastructure will require disruptive ideas that perhaps we still have not seen. The early internet had the browser, what will be the cleantech equivalent?
230 miles per gallon for the Volt? How much is that in cents per mile?
Posted on 12 August 2009 | No responses
Eager to appear as green as possible to its new owners, GM (Government Motors cynics call it) announced earlier this week that the new Volt model of plug-in hybrid would get an EPA rating of 230 miles per gallon in city driving. It’s a brilliant marketing ploy given consumers’ obsession with the MPG benchmark, but it won’t take consumers long to detect the flaw in this measure, and realize they need a new way to compare alternative vehicles when the technology changes.
In the electricity business, faced with comparing gas-powered versus coal-powered versus solar or wind powered, engineers have developed the LCOE (levelized cost of energy or electricity) metric. The EPA and the auto industry will have to do the same. Miles per barrel of oil equivalent? Miles per kilowatt-hour-equivalent? More likely it will be something like US cents per mile, or euro cents per kilometer.
It is not only the fuel cost that has to be captured (electricity and gasoline) but also the capital cost of the vehicle… and, more importantly, the batteries. Exact numbers are not known but a recent Carnegie Mellon University study pegged the Volt battery “base case” cost at $1,000 per kWh ($16,000 total for the 40 mile volt pack).
GM disputes this as being “hundreds of dollars” too high but has done little to dispel the rumor that the overall car will be priced at $40,000 (but subject to a $7,500 tax credit). If you drive 15,000 miles per year at 230 miles per gallon you’re only using 65 gallons of gas, but do the gas savings alone make it worth the high upfront cost?
Edmunds.com runs the numbers against a Chevy Malibu Hybrid and concludes that the Volt may be green but it’s an expensive way to save the planet. Even with the tax credit, the payback on gas savings between the Volt and Malibu is 9.5 years. As Edmunds.com’s Kevin Smith points out
““EPA fuel-consumption measures are really inappropriate for the Volt. It’s an electric, pure and simple, which happens to carry an onboard, gasoline-fueled charging station for when there’s too much distance between electrical outlets. The EPA doesn’t measure the energy consumed when charging the car via plug-in, and depending on your driving, that may be all the energy it needs.”
A headline number of 230 miles per gallon is nice PR, but little else. We look forward to when GM starts making a real case for EVs with a metric that is meant to enlighten not confuse.
Solar PV Module Revenues and Volumes (not Prices) Bottomed in Q1
Posted on 11 August 2009 | No responses
The solar energy sector, measured by revenues, appears to have hit bottom in calendar Q1. We expect that when full Q2 results are in they will show a strong rebound (better than 30% in aggregate) off the Q1 low, although the Q2 level is unlikely to recover all the way to the Q4:08 level.
Only about 5 of approximately 25 public solar companies that report quarterly results have reported their calendar Q2 results to date (8/11/09). After reviewing their results and looking at the consensus expectations for the remaining 20 names, we concluded that most of the remaining companies will achieve Q2 revenues above the Q1 trough.
Another upswing is getting underway. The peak quarter for solar PV revenues was Q3:08, or about a year ago, ending a remarkable run up driven mainly by extremely generous feed-in tariff subsidies in Germany and Spain. Volumes of panels installed roughly doubled from 2007 to 2008. The Spanish subsidies were capped after it became apparent that country could not afford the original subsidy program, and Germany made changes to phase down its subsidies more rapidly. Mainly due to the Spanish program, and aggravated by the global recession and reduced credit availability, prices and volumes fell sharply in Q4 and again in Q1. The solar companies were slow to react to the downturn, perhaps because so many of the companies in this sector are newly formed and have yet to experience a downturn.
Capital spending continued to grow in Q4 over Q3 and did not begin to drop until Q1. Inventories rose modestly in Q4 and especially steeply in Q1 as companies were slow to curtail production and cut prices. Prices for modules and cells have fallen by on the order of 30% to 50%, and we believe they are still eroding. These price cuts have triggered some demand growth as solar energy has become more price competitive in areas with subsidy programs less generous than Spain and Germany (e.g. the US).
The capacity build up in both the principal raw material (polysilicon) and the various conversion steps (wafers, cells, and modules) was such that we do not expect producers to be able to raise prices for awhile.
Two of the hardest hit solar companies will report on 8/12/09. Consensus estimates look for a nearly 100% revenue gain Q1 to Q2 at JA Solar (NASDAQ: JASO (ADR)- $5.28) to US$67 million (still well below the year-ago level of $180 million). There is unusually wide variability in the estimates for JASO though. Revenue at LDK Solar (NYSE: LDK-$11.11) is expected to fall about 21% from Q1:09 to US$225 million, however. The company had issued a press release on 7/23 saying it expected revenues of $225-$235 for the Q2 and would be taking an inventory write off of $150 to $170 million. Before the 7/23/09 guidance, the company had estimated revenues of $215 to $225 million. The weak LDK results have thus been well telegraphed.
Small World Thesis: An idea gaining traction.
Posted on 10 August 2009 | No responses
This short article is the first we’ve seen in the general media of a trend that was highlighted by Jeff Rubin in his book, ”Why Your World Is About to Get a Whole Lot Smaller: Oil and the End of Globalization.”
His thesis: the era of cheap oil (light, low sulfur, conventionally extracted) is over. Depletion rates are accelerating, replacement rates are not keeping up. What is being found is not crude oil but natural gas. The marginal barrel of oil is high cost: tar sands, heavy, deep water, shale, etc. The stage is set for oil to return to triple-digit levels that will make many global supply chains uncompetitive, shifting the advantage to regional supply chains with less transportation costs.
As an example, over the longer term, we would expect Mexico will displace China in many supply chains as a supplier to US-based operations because it is closer. The FT’s Richard Milne focuses on the European business beat, but we think his observations apply globally, particularly when you consider how cheap energy was the real reason the Chinese labor arbitrage made economic sense.
Rubin enhanced his reputation significantly with an early call on recent rise in oil prices. We expect to see more stories of the “Smaller World” idea finding their way into the press.
Geo-engineering: should renewable energy investors worry?
Posted on 7 August 2009 | No responses
For now, most renewable energy costs more than fossil fuels, but investors have been backing renewables for at least two good reasons.
(1) The fossil fuels will inevitably become harder to find and more expensive to extract, although official government projections are more optimistic than most observers, and (2) carbon emissions from fossils are a serious problem for the future of humans, according to the prevailing scientific wisdom. Some proposals to find cheaper ways to cut GHG levels are getting some press today:
FT: Call for cheap ways to stem climate change.
and
WSJ: Geoengineering: It’s a Great Idea, It’s a Terrible Idea.
Investors should keep an eye on geo-engineering proposals because there is a small chance that this could undercut the support for cutting carbon emissions by switching to renewables. Should a consensus emerge that a large scale engineering intervention is the cheapest and most direct path to averting climate change, investment capital would move away from renewables in rapid fashion.
At this point, we think the risk is too small to adjust investing strategies but something to consider.
Clunkers: An expensive way (over $300 per ton) to cut carbon emissions.
Posted on 6 August 2009 | No responses
In case you needed a reminder that Americas are passionate about their autos look no further than Cash for Clunkers, or CARS (Car Allowance Rebate System). The original plan: $1 billion of funds, first come, first served. Trade in a low efficiency car or truck and depending on what you buy, $4,500 or $3,500 of the new car purchase price is picked up by the government. The DOT chose November as their best guess for how long it would take to exhaust the program. The reality turned out to be a week. Now the Senate has reached a deal to add $2 billion to the pot.
Wild success? From the perspective of stimulating the auto industry, yes. Dealers were swamped with inquiries and sales figures for July jumped to 11.24 million vehicles sold (SAAR) over June’s 9.69 million.
Implicit in the program’s design was a goal of saving gasoline and cutting carbon emissions. We took a quick look at how the CARS stacks up from the carbon emissions perspective.
For the sake of simplicity, assume that the average “clunker” traded in the program has a useful remaining life of 50,000 miles before the owner must replace that vehicle.
According to the Department of Transportation the average fuel efficiency of cars surrendered has been 15.8 mpg. The average rating for new vehicles purchased is 25.4 mpg. Granted, without CARS, that owner would most likely have purchased a used, similar vintage car, for only a modest efficiency improvement, and not a new Ford Fusion, as we’ve seen with the program. But offsetting that argument is the fact that many clunkers would not even have lasted the full 50,000 miles we are assuming.
| Miles Per Gallon | Gallons Per Mile | Gallons Per 50k Miles | |
| Avg. Per Vehicle Traded In | 15.8 | 0.0633 | 3,165 |
| Avg. Per Replacement Vehicle | 25.4 | 0.0394 | 1,969 |
| Gallons Per Car Avoided by CARS Trade | 1,196 | ||
| Lbs of CO2 Per Gallon | 19 | ||
| Total Pounds of CO2 Avoided Per 100k Miles | 22,725 | ||
| Short Tons of CO2 Avoided Per Trade | 11.36 | ||
| Weighted Average Cost to the US per Vehicle | $ 4,100.00 | ||
| Cost Per Ton of CO2 | $ 360.84 |
As the table illustrates, the price per ton of avoided carbon is untenably high in the spectrum of options available to reduce emissions. Consider that there is a market price for CO2 on the European Climate Exchange that puts the marginal cost of abatement at 14.34 Euros a metric ton (approximately $20 per short ton).
If resources available to curb global warming were larger, then this sum would be less egregious. But considering that current plans are to fund the program with an additional $2 billion from the DOE’s loan program, the opportunity cost in the each ton abated jumps considerably higher. For a closer look at the multiplier effects that are lost when funds are diverted from the DOE’s loan guarantees see this post by Sam Jaffe on Seeking Alpha. His point is that to spend $2b on removing carbon from the atmosphere is fine, but to use $2 billion from the energy loan pool (using a conservative 10% reserve requirement or 10x multiplier effect) means that $20 billion in private credit for clean energy investments will be unavailable for numerous projects that would abate carbon at a much lower cost than CARS.
Clearly the government is trying to do the right thing with Cash for Clunkers and we applaud the effort. But it is also apparent that politics, not economics, are driving decisions on reducing carbon emissions.
UPDATE 8/7/09: We found this analysis on Econbrowser to be particularly interesting. Retiring assets (cars) early to abate carbon raises an interesting point about the net energy effect of pulling car demand forward or creating it at all (perhaps the some of the clunker drivers would’ve opted for mass transit without the next car subsidy?)
SEC exposes GE’s tricks for “beating estimates.”
Posted on 5 August 2009 | 1 response
GE's Forward EPS estimates. Source: Google Finance
One of our pet peeves are companies that consistently “beat” analyst consensus estimates by a few pennies per share in nearly every quarter. We tend to view it as a big red flag, and we are pleased to see the SEC finally doing something about it. “G.E. bent the accounting rules beyond the breaking point,” said Robert Khuzami, director of the S.E.C.’s enforcement division. “Overly aggressive accounting can distort a company’s true financial condition and mislead investors.” Many investors seem to fall for this “beating by a penny” practice and take this as a sign of a good company.
Tracking guidance a bit too close. Source: Yahoo Finance
There are only two ways companies can consistently beat: (a) talk down the analysts by subtly rewarding those with lower estimates or stressing the downside risks (e.g. Microsoft) and (b) fiddling with the reported numbers, where management always has some discretion. Always being better-than-expected is simply not sustainable because expectations would adjust up over time.
To the extent there is a systematic bias in analyst’s earnings estimates, research has shown that they tend to be too high in projecting long-term growth rates. There is probably also a tendency for analysts to be too low on their near-term estimates because there is more of a penalty to analyst reputations from being too high than too low. These biases apply to analysts and companies across the board. Our pet peeve is about companies that stand out by consistently being slightly better than the consensus. GE has been notorious for it, and the SEC, after years of digging, has discovered instances of fiddling with the numbers.
The SEC can and should be using statistics to spot probable perpetrators. Call it “corporate profiling.” The Madoff fraud was apparently successfully detected by some investors (but not the SEC) because the returns were too consistent to be real. Let’s watch and see (a) if the SEC catches some of the other “serial beaters,” (b) if GE stops consistently beating by a penny, and (c) if the practice at other companies becomes less common before the SEC steps in. We should not get our hopes up too high, however, because the underlying cause is human nature, and that is unchanging.
UPDATE 8/7/09: The New York Times adds some interesting color on this topic we’ve not seen elsewhere.
Don’t shoot the messenger
Posted on 4 August 2009 | No responses
Is the IPCC still credible? Andrew Revkin, who covers climate change at the New York Times takes a shot at undermining it, but he misses his target by a mile (or 1.6 kilometers to translate to internationally recognized units). His article today, “Nobel Halo Fades for the IPCC,” might be acceptable from a generalist journalist at a local newspaper, but from the NYT specialist reporter readers should expect better. While we at E4 Capital believe that the IPCC is a legitimate subject for critique, Revkin does not win our endorsement.
The article rambles: The IPCC can’t keep up with the fast pace of the science, it’s biased against dissenting views on disruptive change, it can’t recommend a course of action. Then there’s a litany of pitfalls that await the upcoming fifth assessment of research on climate trends to be released in 2014. Again, the article jumps from issue to issue, some relevant, some not, none leading to a conclusion with respect to the IPCC’s abilities.
Two other points in the article are worth mentioning as particularly egregious. Revkin concludes from the beginning that the IPCC doesn’t live up to its mission because “there is scant evidence that nations are acting on its warnings.” That seems just plain wrong given all the signs of action across the globe. Where is his evidence? Because first, “emissions have grown.” This is not evidence of inaction.
The second reason the halo has faded? Revkin describes the intergovernmental talks as “deadlocked.” Where are they deadlocked? Since most successful negotiations will appear to be “deadlocked” to outside observers just before a breakthrough is made, one should take the NYT’s conclusions on this point as premature at best. Again, how does this indict the IPCC, which was never intended to have a role in brokering deals to begin with?
There is a significant body of work and analysis that questions major parts of the IPCC work. We recommend to the NYT that it reload and try again with a critique after doing more research.
