Canadian Solar (NASDAQ:CSIQ) Q3 2019 Earnings Call

0:00 Ladies and gentlemen, thank you for standing by and welcome to Canadian Solar's third quarter 2019 earnings conference call. My name is Tara and I will be your operator today. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. As a reminder, this conference is being recorded for replay purposes. I'd now like to turn the call over to Ed Job, Managing Director of Canadian Solar's IR Department. Thank you. Please go ahead. Thank you, Tara, and welcome everyone to Canadian Solar's third quarter 2019 earnings conference call. Joining us today are Dr.

0:49 Sean Chu, Chairman and Chief Executive Officer, Yan Zhong, Acting Chief Executive Officer, and Chief Operating Officer. and Dr. Huifang Zhang, Senior Vice President and Chief Financial Officer. On this call, Xiong will provide a brief introduction, followed by Yan, who will review the execution of our business strategy and outlook, and Huifang, who will go over our financial results. We will then open the call to your questions. Before we begin, may I remind listeners that management's prepared remarks today, as well as their answers to your questions, will contain forward-looking statements, which are subject to risks and uncertainties.

1:39 Therefore, the company claims the protection of the safe harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from management's current expectations. Any projections of the company's future performance represent management's estimates as of today's call. Canadian Solar assumes no obligation to update these projections in the future unless otherwise required by applicable law. A more detailed discussion of the risks and uncertainties can be found in the company's annual report on Form 20F, filed with the Securities and Exchange Commission. Management's prepared remark will be presented within the requirements of SEC Regulation G regarding generally accepted accounting principles or GAAP.

2:33 Some financial information presented during the call will be provided on both GAAP and non-GAAP basis. By disclosing certain non-GAAP information, management intends to provide investors with additional information to permit further analysis of the company's performance and underlying trends. Management uses non-GAAP measures to better assess operating performance and to establish operational goals. Non-GAAP information should not be viewed by investors as a substitute for data prepared in accordance with GAAP. At this time, I would like to turn the call over to Canadian Solar's Chairman and CEO, Dr. Sean Chu. Sean, please go ahead. Thanks, Ed, and work hard, everyone. This was another strong quarter for Canadian solar. Total module shipment was ahead of the expectations, and our growth margin was up significantly.

3:32 Overall, global demand levels remain robust, and our strong brand bankability and reliability continues to command a premium for our products. We expect these positive trends to continue into 2020, given the compelling economic benefits for solar and the broader push for renewable energy. We are seeing stable pricing trends cross our key markets, especially in markets where we have a leading position. including the US, Japan and Brazil.

4:21 Then we'll update you on our business and pipeline. I would just like to emphasize that our integrated business model remains at the center of our success. Synergies from our model, from our module and project businesses continue to give Canadian solar an important competitive advantage. Our global late-stage project pipeline stands at 2.4 gigawatts, exceeding Q3. We are on track and committed to monetizing the portfolio as we move forward. The diversity of our pipeline In thought after market will enable us to secure an attractive ROI for the company and shareholders.

5:18 This in turn gives us increased visibility and added confidence in our outlook. As we have said in the past, we will use the process of the project asset sales to invest into and other development opportunities that meet our criteria. This includes higher ASP markets such as Japan and fast developing markets like Brazil. Our goal is to deliver profitable growth, high project returns and greater stability in our monetization process.

6:05 In 18 years, Since founding Canadian Solar in 2001, innovation has been at the center of everything we do. One of our competitive advantages is our ability to commercialize higher efficiency solar modules, which helps us to lower the total cost of solar systems and create value for customers. For example, our team recently set another world record of 22.8% conversion efficiency for T-type multi-crystalline silicon solar cells.

6:50 R&D and innovation leadership will always be one of our key priorities. Finally, we continue to strategically and cautiously invest in capacity expansion. Canadian Solar is the world's leading cell and module manufacturer, and our capacity is designed to flexibly support customers' changing demands. Our business strategy has allowed us to remain nimble while benefiting from significant efficiency improvement across the manufacturing design chain. Overall, I'm pleased with our team's continued progress and our financial results with Q3.

7:43 We are positive in our outlook based on demand levels and the strength of Canadian Solar's business. Our priority remains unchanged to increase value for the company and our shareholders. With that, I would like to pass the line Thank you, Sean. We're pleased with our Q3 results and continued progress. The key takeaways from this quarter are, one, Q3 shipments and gross margin both came in above our previous guidance. We're firmly on track to monetize our 3.4 gigawatt late-stage project pipelines.

8:30 While this is always subject to unpredictable and short-term delays in cell closing, we have a proven track record in realizing the value of high-quality, high-IR projects across the world. We continue to strengthen the synergies between our upstream and downstream businesses. On one hand, we're leveraging our global purchasing power to capture greater value, while on the other hand, we're repositioning our business model to become a system integrator and a solution provider, taking greater advantage of our existing and growing tech markets. With this end, we continue to evaluate strategic R&D investments and partnerships to build up our leadership position in technological innovation.

9:18 We're confident that our differentiated strategy and business model will allow us to continue to deliver strong results in the coming quarters and years. Importantly, we're resolutely focused on delivering profitable growth and creating value for our shareholders and customers. Now, let me go through this quarter's results. In Q3, revenue from our MSS business was $675 billion. Growth margin was again above expectations and improved to 26.9% from 22.8% in Q2. The improvement was driven by stable ASPs as we benefited from our strong brand bankability and reliability and also our optimized channel structure and disciplined sales operation management.

10:19 Canadian solar continues to differentiate and drive value through R&D leadership and innovation. As Sean just mentioned, our team broke another world record in cell conversion efficiency in Q3 for P-type multi-crystalline silicon. This was a significant milestone and proved that our proprietary multi-crystalline silicon technology can achieve efficiencies that are close to mono while enjoying the cost advantage of multi-supply chain. We're rapidly ramping up mass production of our P5 cassette mono modules and expect P5 capacity to increase significantly throughout next year.

11:04 We continue to expand our technology pipeline and remain committed to providing customers with competitive products that produce the lowest levelized cost of electricity. In our energy business, our team continued to execute and made significant progress in Q3. We announced the NTP sale of the 266 MW Rambler project in the U.S. and completed the sale of 80% interest in the 171.5 MW project in Brazil. Our portfolio of late-stage utility-scale solar power projects, including those under construction, were 3.4 gigawatts as of September 30, 2019, compared to 3.6 gigawatts during our last call.

11:54 Projects in operation totaled 796 megawatts as of September 30, with an estimated resale value of approximately $900 million. We remain committed to monetizing the remainder of our late-stage pipeline and operating projects through 2020 and beyond. This is consistent with the timeline we provided previously. For example, in Brazil, we completed the sale of an 80% interest in three projects with total capacity of 353 megawatts in late October. The global demand for our project assets is high given our proven track record and bankability.

12:41 In Q3, we won attractive PPAs with total capacity of 424 megawatts and reached COD on the largest solar power plant in Argentina of 100 megawatts. We continue to drive growth and develop new project opportunities across various geographical markets. We remain focused on pursuing only those opportunities that meet our stringent development and ROI criteria. Our strong track record of excellent performance has helped make Canadian solar one of the sector's most bankable brands. The latest example was in Q3 when we secured $120 million in non-recourse project financing for two solar projects in Brazil. Our ability to secure financing on favorable terms gives us a significant advantage and continues to make Canadian Solar a development partner of choice.

13:47 Now let me comment on guidance for Q4 2019. We currently expect total Q4 module shipment to be in a range of 2.3 GW to 2.4 GW, including 190 MW of shipments, to the company's own utility-scale solar projects. Revenue expected to be in the range of $850 million to $880 million. Gross margin is expected to be between 19% and 21%. The lower margin reflects the expected lower margin contribution from project sales in Q4. For the full year 2019, we now expect total shipments to be in the range of approximately 8.4 gigawatts to 8.5 gigawatts. Total revenue for the full year of 2019 expected to be in the range of $3.13 billion to $3.16 billion.

14:50 Overall, we're optimistic in our long-term outlook and expect an acceleration in growth in 2020 led by sales in our late-stage project pipeline. Our company's fundamentals have never been stronger. We remain focused in executing on our strategy for the MSS and energy businesses and on building value for the company and its shareholders. Let me now turn the call over to Huifeng for a more detailed review of results for the third quarter. Huifeng, please go ahead. Thank you, Yan. As you know, for Q3, both results of module shipments and gross margin were above expectations. The improved volume and profitability reflected the benefits of our strong pricing power and continued cost reductions.

15:42 The energy business also contributed significantly to the growth margin, a trend we expect to continue as we monetize the remainder of the 3.4 gigawatt late-stage pipeline. In the process, our focus is to maintain a balance between driving profitable growth and strengthening the balance sheet. Now, let me go over the financial results in detail. In Q3, total solar module shipments were 2,387 megawatt compared to 2,143 megawatt in Q2. Net revenue for Q3 was $759.9 million, down 26.7% sequentially, and down 1.1% year-over-year. Net revenue for Q3 was comprised of $674.9 million from the MSS business and $97.6 million from the energy business.

16:36 Gross profit in Q3 was $198.9 million compared to $182.6 million in Q2 and $204 million in Q3 last year. Gross money in Q3 was 26.2%. compared to 17.6% in the second quarter of 2019 and 26.1% in the third quarter of 2018. These figures include anti-dumping and countervailing duty true-off benefits of $24.3 million in Q3 2019 and $21.6 million in Q2 2019 and $8.3 million in Q3 2018. Excluding these benefits, Non-GAAP growth margin would have been 23% in Q3 2019, 15.5% in Q2 2019, and 25% in Q3 2018. Total operating expenses were $118.8 million in Q3 compared to $121.9 million in Q2 and $104.5 million in Q3 2018.

17:53 The income from operations was $80.1 million in Q3 compared to $60.7 million in Q2 and $95.9 million in Q3 of last year. Operating margin was 10.5% in Q3 compared to 5.9% in Q2 and 12.5% in Q3 of the prior year. Foreign exchange gain in Q3 was $2.8 million compared to gains of $16.4 million in Q2 and $10.1 million in Q3 of the prior year. who recorded a loss of a change to fair value of derivative of $2.2 million in Q3 compared to losses of $12.5 million in Q2 and $8.9 million in Q3 2018. Income tax expenses was $10.4 million compared to expenses $14 million in Q2 and $13.4 million in Q3 2018. Net income attributable to Canadian solar shareholders for Q3 with $58.3 million, or $0.96 per diluted share.

19:00 This compares to a net income of $62.7 million, or $1.04 per diluted share in Q2 2018, and a net income of $66.5 million, or $1.09 per diluted share in Q3 2018. The net income attributable to Canadian solar on a non-GAAP basis for Q3 2019 was $40.1 million, or $0.66 per annuity share, just excluding ADCB 2-up noted earlier. Now moving on to the balance sheet. At the end of Q3, Canadian solar increased its balance of cash and cash equivalents to $526.2 million, and added $438.5 million at the end of Q2. So this is cash.

19:50 was 522.7 million at the end of Q3 compared to 542.5 million at the end of Q2. Inventories at the end of Q3 were 413 million compared to 337.8 million at the end of Q2. Inventory turnover was 63 days in Q3 compared to 40 days in Q2. Short-term volume and current portion of long-term borrowings on project assets at the end of Q3 totaled $1.3 billion and changed from the end of Q2. Long-term borrowings at the end of Q3 were $525.9 million compared to $462.9 million at the end of Q2. Total debt at the end of Q3 was $1.97 billion, of which $433.1 million was non-recourse.

20:47 Small-term borrowings and long-term borrowings directly related to the utility-scale projects, which include $406.9 million of non-local borrowings, household $670.8 million at the end of Q3, compared to $640.5 million at the end of Q2. With that, I would now like to open the call to your questions. Operator? Thank you. Ladies and gentlemen, we will now begin the question and answer session. If you'd like to ask a question, please press star 1 on your telephone and wait for your name to be announced. If you need to cancel that request, please press the pound or hash key. Our first question comes from Colin Rusch from Oppenheimer.

21:34 Please go ahead. Thanks so much, guys. Can you break out how big the direct model sales channel was in the quarter and what the growth rate is on that, you know, during the year and year over year? So you're talking about the split of volume in different channels, right? Yeah. Okay. So the split of channels is actually evolving but rather stable. It's not a dramatic change, except we continue to adjust our allocation to different markets according to the price movements. In general, first of all, in mature markets like U.S., Europe, Japan, and Brazil, and Australia, we continue to expand our direct sales channel into the premium rooftop market.

22:30 And so that has been around like 25% of our total volume. We will continue to grow in that segment with premium pricing and also a differentiated product offering. And, of course, marketing and other channel strategies, channel support, and a dedicated team, of course. And on the other hand, next year, something strong about Canadian solar is we have a highly bankable capacity in Southeast Asia that we're going to ship to the U.S., It's about three gigawatts to the U.S. in the next few years and each year. And there's a shortage on bankable capacity in Southeast Asia, so our price in U.S.

23:18 market is very healthy. And thirdly is we continue to allocate more volume in high-price markets like Japan. And Japan, naturally, the net profit level for any business in Japan is like 10%. twice or three times compared to other markets. It depends on the business segment. And our leadership, our market share in residential marketing in Japan is pretty high. It's more than 10% ranking number two after Panasonic, but ahead of other local Japanese players. It gives us a lot of profit. And in markets like Brazil and Australia, we also sell at a slightly higher pricing.

24:04 with a bigger volume. And we will continue to control our exposure in low-price markets like China and India. On top of those, we also have captive markets with our own projects. Our own energy group of projects will mostly use our module at a market price, so we don't have to really go with the super low-price competition. And also, our turnkey EPC project is also using our This is the channel structure and the split of the volume. I hope I answered your questions. Yes, that is incredibly helpful. I know you want to be a little bit cautious about sharing too much about the cadence of cost reductions, but what can you tell us in terms of how we should think about how that moves forward?

24:54 It seems to me that you've got some pretty We believe into next year, we will cut down our cost. and together, of course, the module price will also go down. And we actually observing the cost reduction mainly coming from the mono line, mono supply chain, and in particular, wafer.

25:41 And however, we believe that the price, module price going down together with the cost going down and at certain point of the time, when price goes down, To a certain level, there might be a turning point of the market. So we actually are cautious. And also, next year, the Tier 1 suppliers will have more volume overseas and therefore have better control of the pricing. And the Tier 1 capacity, comparing to total demand, the oversupply is actually less. So companies with better branding and bankability and better products will have a better chance to sustain the pricing. So this is my view. Sean, do you want to add more?

26:28 In terms of the cost of good food, we have continued the cost down curve every year. I will call it, why is the, I would use the term organic cost down. That's the cost down effort from ourselves. through better production control, better equipment, more automation, and also higher efficiency. For that, typically every year we can get somewhere around 10%, 10 to 15% of cost down in the past few years. Another factor which is inorganic or involuntary cost down and that's the cost in the supply chain. For example, polysilicon, wafer, that cost down. It's a little bit difficult to estimate that cost.

27:26 Sometimes it's triggered by different events. For example, last May 31st, the change of China policy triggered a big cost down on the material cost along the line. So combine the two together, I think next year we will see Let's say 10 to 20 or maybe 10 to 25% of the cost down on the solar modules. And whether it's 10 or 25, let's see. I know I give you a very broad range, but this is solar. You have to work with broad range. But as you said, five solar modules according to the cost curve and continue to maintain a premium Then we can be a winner in both good or bad market.

28:23 Thanks so much, guys. Once again, if you'd like to ask a question, please press star 1 on your telephone. Our next question comes from Brian Lee from Goldman Sachs. Please go ahead. Hey, guys. Thanks for taking the questions and welcome back, Sean. I guess maybe just first off, I jumped on the call late, so I might have missed this, but is it just the Japanese projects that are falling out from Q4 into Q1 of 2020? Yes, this is one of the Japanese projects we originally thought we can close everything in Q3, and somehow because of a lot of paperwork, and then flip it to a later time. Actually, I talked to the Japan team last night and then they told me that they are moving forward.

29:26 Everything is smooth. There's no dispute with the buyer. So in terms of clothing and the pricing variation, we're confident that everything will come out in the right place. But maybe because we have several projects in the closing, some of the projects originally we scheduled for Q4 for the same reason may slip into Q1, but earlier part Q1. So that is the situation. It's just the issue of administrative process. Okay, fair enough. But the Japanese project in question that was originally potentially for Q3, that's having the biggest impact here on the Q4 guidance. And then, are you, Weifeng, do you want us to assume that it's in Q1, or is this an administrative process that could extend even beyond Q1 for the Japanese project in question?

30:32 Actually, we're working on multiple projects. So I think one shifted from Q3 to Q4 and more from Q4 to Q1. And that's also the reasoning driver. We know the guidance for Q4. Yep, understood. And then I guess on gross margin, I had a question there just Can you give us a sense of, you know, in the 19% to 21% range, what's being reflected for the two different segments? Well, I think it's mainly, primarily driven by the slippery of the project sale closing. And a smaller part is on the module side because of the price dropping.

31:29 So that's the situation. Okay, fair enough. Is there any, I think... There's also a project that's low margin that's going to close in the next quarter. It's called McBride Project. That's a $130 million low margin sale. Low margin sale in the project's business for Keyform. Okay, fair enough. And then for the ADCVD reversal, I know you don't typically put that into guidance. Just want to confirm that's not embedded in the guidance for Q4 as well. It is already adjusted. OK, now it's not. It is not in the 19% to 21%.

32:16 Correct, not in the guidance. OK. Great. And then maybe last one, I'll pass it on. I think there's been some scuttlebutt for potentially a near-term policy update on the China solar market for 2020, maybe even by year-end. Just wondering, I know this year the late policy development kind of stunted the market out there in China. Maybe they're trying to get around that this year, but Maybe give us your latest thoughts on how you expect policy to settle out next year if you think the subsidy budget, I guess particularly for utility scale, changes much from this year, and if you would expect some clarity around policy toward the year end, or are you still expecting it next year?

33:09 Thank you. First of all, I want to say that our exposure in China is lower. Short-term fluctuation in China market has a minimum impact on our business. Secondly, regarding China demand, I think we all heard the news about the total installation in the first three quarters of 16 gigawatts. So we also see that we do not experience a super strong rush in Q4, although there's a slight demand up in October and November. But overall speaking, it's quite rationalized demand. So Q4 is done. Basically, most capacity has been fulfilled. And into next year, we continue to see the rationalization of the market.

34:07 However, we also anticipate the delay of the projects from push forward by the delayed project from this year to next year. Actually, the reason for China's low number of installations this year is partially also because, aside from being rationalized, is the late announcement of the project permits. That did not give you enough time to secure the land and other financing. So that's part of the reason why it gets pushed forward into next year. So therefore, Next year, I was given like as low as 30, 35 gigawatts next year, but with the push forward delayed project into next year, we anticipate China can be on the higher side compared to the 35 gigawatts.

34:56 It can go up to 40 gigawatts next year. Because over time, people need more time, and we'll need the time to readjust their position to get into the new policy. And in terms of the policy clarification, it's a moving target, but I don't think it will have a fundamental impact on the existing programs of the grid parity and also the subsidized market because the subsidy is going down already. It went down this year already. It will continue to move down next year at low level. but the entire industry is actually, over the year, they should get used to, better adjusted to the new environment and the demand will be stabilized.

35:51 Sean, do you have any questions? Next question, please. Next question comes from Mark Strauss from J.P. Morgan. Please go ahead. Thank you very much for taking our questions. Wei Feng, I just wanted to go back to the guidance if I can. I apologize if I missed this. I just want to be clear. So for the year, you've left your shipment guidance the same, but you took down revenue. Are you reducing your internal assumptions for ASPs in the MSS business, or is it completely a function of the project delays? Completely a function of the closing time of the project in Japan.

36:39 Right, okay, got it. And then on the power plants and operation, it's like the megawatts were stable quarter over quarter. You took down the estimated resale value a tad, though. Just curious what's driving that. Is that just a rounding error, or is there anything that you'd call out in any of these regions where you have operating assets? Well, it's mainly because of China. As we all know, I think end of June last year, China market, project market actually was crushed in a way. And so there's a lot of project inventory that's on sale in the market in China.

37:25 And because of the desperation of selling those projects for cash flow purpose, the pricing moving around in the market is pretty low. So it's now, right now, a buyer's market. And our projects are actually better, much better in terms of project completeness and quality compared to the inventories in the market. And we receive rather healthy pricing. And also, however, we have some... Because of the market change and the perceptions, we have some difficulties on collecting the residual payment, balance payment on the project already sold.

38:13 And so according to the U.S. GAAP and our finance department worked together with Deloitte and they made an evaluation of the situation on certain projects. And one of the projects that we have... We have a write-off on the balance of payment. So this is one of the reasons. And also, we have a project that unsold. The valuation come down a little bit. So this is the reason for the devaluation of the project pipeline. Okay, very helpful. Thank you. Once again, if you'd like to ask a question, please press star one on your telephone.

39:02 Our next question comes from John Cedric from Luminous. Please go ahead. Hey guys, just maybe two quick ones. One, can you give us a sense of where the module ASP was in 3Q and where do you see it in 4Q? And then secondly, it looks like you've increased your module capacity for 2020 but left the cell capacity pretty much unchanged. Can you give us a sense, maybe preliminarily, what you think you'd be able to grow shipments in 2020, given the uptick in module capacity? What's your first question? ASP. ASP for? For 3Q and what you're expecting for 4Q. Yeah, yeah, yeah. I would say from Q3 to Q4, it's a downturn, but for us, it's also a downturn, but more mild.

39:54 It's a rather stable down. So this is a Q4 situation. And because we secured our high price orders much earlier for most of the Q4 pipeline, and It's only a portion of the Q4 POs that come late with the impact of pricing down. However, costs also went down a little bit. Moving to next year, I think the margin percentage next year may go down compared to this year to a certain level. But it depends on individual companies. I believe Canadian solar with our brand name and bankability and our channel structure and our brand name around the world and the discipline on the prioritizing markets, we should be able to maintain a better price in the market.

40:54 And so also next year, the supply chain cost structure changed. This year, one of the benefits we enjoyed is we actually made our decision on selling more poly product based on economics of the supply chain. Next year, that will change. We'll see that this could be some significant cost down on non-weaver side, so that will transfer to sale, and so therefore we can benefit from mono more than this year. So next year, we're going to have 9.6 gigawatts of cell and also 13 gigawatts of module capacity. So our shipment volume will go up.

41:47 I cannot give you guidance today, but our shipment volume will go up, which will compensate for the slight percentage down on the margin side. and also our next year, we believe that our project team will do better than this year. Hi, John. This is Xiaohua speaking. I have one more comment to supplement what Yan just said. Yes, indeed, we are going to expand our module capacity a little bit. Well, cell capacity is the same. That's the current plan. The module capacity The expansion of module capacity is all for new products. For example, we have a very successful product. We call it Taiku.

42:33 As a matter of fact, that's the first time the so-called 166 millimeter wafer got commercialized in the industry. So that requires some new capacity. But we are making good money there. You also asked about the gap between internal cell and modules. In the past two years, there's a development of cell-only companies in China. They don't do wafer, they don't do module, but they do just cells. There's a few companies like that. So we somehow fill the gap so that we don't have to buy, you know, develop our own cell capacity all the time. We can... So our internal cell capacity can be better supplemented by external cell-only companies.

43:29 We focus on channel and the branding of the module. That's another trend that's been in development in the past couple of years. So John, I hope Ian and I answered your question. Yes, thank you, guys. Just a final call. If you would like to ask a question, please press star 1. There are no further questions. I will pass back to Dr. Sean Kew, Canadian Solar's chairman and CEO, for closing comments. Thank you. Thank you, everyone, for joining today's call and for your continued support. If you have any further follow-up questions, please contact Thank you. Ladies and gentlemen, this concludes today's conference call.

44:27 Thank you for participating. You may now disconnect.