Are These Solar Stocks are Now a "Buy"?

Posted by Wealth Wire - Thursday, June 30th, 2011

 
Published 06/30/2011 - 09:00 *Originally published in StreetAuthority.com and re-published with permission.

By David Sterman

As the second quarter winds down, a number of stocks are licking their wounds -- perhaps none more than the solar stocks, many of which have been handed an outright drubbing. It happens in this volatile sector once every few years. And each time investors sour in the industry's prospects  and these stocks sell off, the ones that sport the weakest balance sheets or have the least competitive margin  profiles take the hardest hits. If solar spending drops sharply, industry bears insist, these companies may end up in really deep trouble.

 

Then again, if investors come to see the solar sector in a better light (as they repeatedly have after past bouts of deep pessimism), then it's these very same stocks that could see the most upside. I've pulled out two names that look like the best rebound plays for when the solar sector gets up off the mat again.

LDK Solar (NYSE: LDK )
This company stepped on the gas too hard in a bid to become a dominant player in the solar power industry. It borrowed heavily to increase output of everything from raw silicon to solar wafers (which are used to make solar panels), and is now paying the price. Sure, the company can boast an impressive 10% global market share  for its panels, but will that translate into enough sales and profits to help keep its crushing $2.1 billion debt load from imperiling the company? The answer looks more positive that the plunging stock would suggest.

This is because LDK's efforts to move into all aspects of the solar supply chain actually insulate it from tougher periods. When demand slows, LDK is not captive to costs beyond its control for things like silicon and can thus preserve margins better than panel-producing pure-play rivals.

So why did shares slump so badly in the first quarter? LDK tried to borrow a hefty $1.5 billion to meet near-term loans and raise cash levels, but couldn't find anyone willing to lend. That spooked investors into thinking a cash crisis was looming because the company will need to come up with roughly $1 billion by later this year to meet those debt obligations.

The good news: the process is well underway. The company recently raised $240 million by selling an interest in its poly-silicon business, and recent quarterly results indicate that cash flow may be robust enough to fill a big part of the remaining hole. LDK will still have to borrow some undetermined amount, but not nearly as much as had been anticipated. "While LDK's highly leveraged balance sheet remains risky, we believe the company is not facing a liquidity crisis in the near-term," note analysts at Needham, who have a $15 price target, roughly 100% above current levels.

Analysts at Brean Murray (which hold a $12 price target -- more than 50% above current levels), figure recently-released first quarter results set a more positive tone for the rest of the year. Gross margins rose above 30% in the first quarter after falling to 27% in the fourth quarter of 2010, and most importantly, the backlog of new orders is starting to rebound nicely. Brean Murray analysts think LDK will ship more than 200 MegaWatts of panels in the current quarter, almost double their prior forecast.

If LDK is able to clean up its balance sheet -- a process that could take place in the next quarter or two, then investors are bound to notice the stock's ultra-low price-to-earnings (P/E) ratio of just 3.5. This stock may never garner a high multiple, but simply moving that P/E up to 7 implies a doubling of the share price.

ReneSola (NYSE: SOL)
Even as LDK lived beyond its means by borrowing too aggressively, ReneSola -- a leading provider of solar wafers -- took a more measured course. The company has been expanding aggressively into poly-silicon production with funds generated from its own cash flow. (ReneSola generated $403 million in operating cash flow and $262 million in free cash flow in 2010.) Still, the company's decision to boost production in 2011, even as total industry demand and pricing were cooling, was not met well by investors, and shares have been in freefall ever since mid-February.

The gloom that has set in regarding demand and pricing is likely to keep this stock under pressure in coming weeks, and perhaps for the rest of the summer. But shares look like they have found a bottom right under $5. When sentiment starts to turn in favor of solar stocks, this could be one of the strongest rebound candidates. This is because the company is sitting on ample unused low-cost manufacturing capacity and has a high degree of leverage to any stabilization in demand for solar power equipment.

Action to Take --> During the course of this summer, plans for solar spending in major countries such as Italy and Germany will start to firm up. Note that the recent decision by countries such as Germany to move away from nuclear power could put solar right back in the spotlight. If that happens, stocks such as LDK Solar and Renesola, each of which has a major industry presence, could move up in a big way from their lows.


-- David Sterman

Disclosure: Neither David Sterman nor StreetAuthority, LLC hold positions in any securities mentioned in this article.
For more investing and energy stock information, go to StreetAuthority.com

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