When Germany announced it was going to cut its solar energy subsidies up to 16% effective July 1, investors reacted like the sky was falling. Photovoltaic (PV) cell producers saw their share prices plummet, and doom was predicted for solar companies from Berlin to Changzhou, home of Trina Solar (TSL.NASDAQ), one of China’s top-rated US-listed companies.
A silver lining was a boost in sales ahead of Germany’s planned subsidy cut: PV cell and module maker Trina booked a first-quarter net profit of US$44.5 million against a net loss of US$11 million the previous year. Market leaders Suntech Power Holdings (STP.NYSE), Yingli Green Energy (YGE.NYSE) and a smattering of smaller firms including JA Solar (JASO.NASDAQ), ReneSola (SOL.NYSE) and LDK Solar (LDK.NASDAQ) also saw a jump in sales before the July 1 deadline.
But investors, project managers and Chinese solar firms are now asking themselves: What happens next? Hong Kong-based energy analyst for Nomura Securities Ivan Lee sees domestic PV makers having to look elsewhere for revenue growth as one of their biggest customers closes up the purse strings.
"In our view, the entire solar value chain will be hit by the German subsidy cuts," said Lee.
With a still-underdeveloped domestic market, Chinese solar companies have been overwhelmingly reliant on export markets, particularly Europe, where government support from Germany and Spain has encouraged the growth of solar energy.
Thanks to that support, Germany now contributes about 50-60% of revenues for downstream Chinese solar companies. Mid-to-upstream players’ dependence on downstream markets means that they also rely indirectly on strong European demand.
"China can make 4,000 megawatts (MW) of solar power a year, but domestic consumption is only about 130 MW. This means that about 95% of PV cells and modules are exported overseas," said Cui Rongqiang, a professor at Shanghai Jiao Tong University’s Solar Energy Research Office. "The cut in subsidies will definitely have an impact."
At the end of the storm
Germany’s feed-in tariffs, which make up the cost difference between producing solar power and traditional sources of power, were introduced under the country’s Renewable Energy Sources Act in 2000. According to Shi Jun, director of silicon producer ProPower Renewable Energy (Shanghai), the subsidy dropped to €0.33 (US$0.40) per kilowatt-hour (kWh) in 2009 from €0.57 (US$0.69) per kWh in 2005.
Although Germany accounts for between a third and a half of most Chinese solar firms’ sales, the forecast is not as gloomy as some had initially anticipated. As subsidies subside and a falling euro dissolves profit margins, PV cell and module makers have been looking to other markets and are adapting to the changing environment.
"To address the problem of lower feed-in tariffs, Chinese solar companies are diversifying [their] customer mix, expanding to new solar markets and improving their cost structure to maintain current profit margins," Nomura’s Lee said.
He added that Italy, France, the Czech Republic and the US all hold great potential to maintain global demand for solar power. Demand from China could also be strong if Beijing makes solar energy development a policy priority.
Lee’s top picks in the sector include downstream players with low cost structures, such as Yingli and Trina. Trina is in the process of ramping up ex-Germany sales with an agreement to supply Southern California Edison, a unit of Edison International (EIX.NYSE) with PV modules with a capacity of 45 MW.
With the drop in subsidies, Chinese module makers are under pressure to cut their average selling prices to help German solar project developers maintain their rates of return. However, this could also prove a boon as European solar energy suppliers look to cut costs further. With outsourcing a likely result of cost cutting, Chinese midstream players such as JA Solar could see a big increase in orders.
Like Lee, Jiao Tong University’s Cui sees potential in what could be the next high-growth market for Chinese PV cell makers: China. Cui says that local PV cell and module makers have been pressing Beijing to develop the domestic solar industry.
"It is very important that the Chinese government also subsidizes Chinese companies involved in the solar industry in order to further develop the PV market and improve PV technology faster," said Cui. "It would help domestic companies climb up the high-tech chain and become more competitive not just on pricing, but on technology as well."
Zhao Chunjiang, director of solar research at the Shanghai University of Electric Power, agrees. He believes that Beijing’s laggardly approach to the solar sector means that Chinese firms will be forced to export the majority of their products in an environment that is showing increased signs of volatility.
"Because the government hasn’t promoted any significant subsidy policy, Chinese solar manufacturers will continue to rely on overseas markets," said Zhao. "When the government does come up with wide-reaching subsidies, the domestic market will take off."
With several solar firms such as Suntech, the world’s biggest PV cell maker, struggling to keep up with current demand, fears of a supply glut based on the expected slowdown in European sales seem a little overplayed. Still, conscious of the threat of oversupply as offshore sales dry up, the Ministry of Finance last year said it would subsidize 50% of investment in solar power projects as part of its "Golden Sun" project.
"It doesn’t matter what area of the industry – the government won’t offer subsidies to domestic solar companies in the same way that other countries do," said Zhao. "This means that only the companies who get to participate in the Golden Sun project can receive any subsidies."
Ultimately those firms with high quality, low costs and good management will be the ones who will rise to the top of what is set to become an aggressively competitive market. Yet there is a growing belief that as some domestic firms move up the value chain while trying to keep costs low, government subsidies in the solar industry are imperative for more rapid development of the industry both at home and away.
"Given that the cost of solar power is four to five times higher than conventional sources of power, we believe that government support is very important for the growth of the global solar industry," said Nomura’s Lee.