Best stock to invest in
by Debra Fiakas CFA
Solar module producer First
Solar, Inc. (FSLR:
Nasdaq) received a boost last week from a new rating upgrade from
Hold to Buy. There are at least fifteen sets of analytical
eyes scrutinizing First Solar. The prevailing view on First
Solar had been ‘hold’ or ‘neutral’ with a median price target of
$70.00, representing a 13% return potential from the current price
Solar power generation has on a roll in recent years as lower solar
cell prices have helped find demand at higher volumes. The U.S. Solar Energy Industries
Association has forecast 25% to 50% growth in the solar market
in 2016. So the enthusiasm for solar components producers like
First Solar, is understandable.
However, on nearly the same day the First Solar investors saw the
upgrade in FSLR, a body blow was delivered to one of First Solar’s
competitors, Trina Solar Ltd.
NYSE). An analyst at a top-bracket investment bank downgraded
TSL to Neutral from Buy. The mean rating on TSL has been Hold
or Neutral as well. The median price target is $14.80,
promising a 67% return from the current price level.
How can traders and investors make sense of these seemingly
contradictory views on the solar sector? What is it about
First Solar that supports a compelling bull case, while Trina
Solar shares are to be avoided?
A check of estimates for the two companies provides some
clues. Trina Solar missed the consensus estimate in the
quarter ending September 2015 after trouncing expectations in each
of the two previous quarters. This might have been why
analysts following the company trimmed estimates for the quarter
ending December 2015. Despite the disappointment investors
might have experienced from the third quarter report and the
immediate caution for the fourth quarter, estimates for the year
2016 were only trimmed by a nickel to $1.36 per share. It
appears analysts with earnings models for Trina Solar are still
looking for earnings growth in the 20% to 22% range in 2016.
If we use that growth rate as a proxy for an earnings multiple, that
would suggest a target price of $27.20.
Could it be that the analyst is simply running scared – or
embarrassed – after the third quarter
disappointment? The stock gapped down in trading in the first
day of trading following the downgrade. Granted the entire
U.S. equity market was in peril during the day and could also have
influenced TSL downward. TSL now appears oversold despite
continued strong money flows into the stock.
TSL is priced at 6.5 times the 2016 consensus estimate. For
the price, investors get a company that delivered 20% top-line
growth and converted 8.0% of sales into operating cash flow in the
last twelve months. Granted sales growth has slowed from the
previous two years. However, reported profitability has
improved dramatically right along with higher operating cash flows.
First Solar on the other hand has been having trouble maintaining
its top-line and reported only 7.6% top-line growth in the last
year. Perhaps the most recent enthusiasm for FSLR it from the
company’s conversion of 14.1% of sales to operating cash flow, a
rate that is a bit better than its peers.
The growth forecasts for the solar sector are impressive.
However, if an investor takes a more cautious view given that the
rest of the world economy is in greater doubt, it seems prudent to
choose the company with the financial strength to withstand slowing
growth – the one that has lower leverage. Forget
demand measures, growth rates and cash conversion rates.
There is $308.6 million in debt on First Solar’s balance sheet,
leaving the company with a debt-to-equity ratio of 5.73. Trina
Solar by contrast has deployed far more leverage with total debt of
$1.5 billion and a debt-to-equity ratio of 138.68.
The duel is decided by the balance sheet.
Debra Fiakas is the Managing Director of Crystal Equity
Research, an alternative
research resource on small capitalization companies in selected
Neither the author of the Small Cap
Strategist web log,
Crystal Equity Research nor its affiliates have a beneficial
interest in the companies mentioned herein.
– Best stock to invest in