Canadian Solar (CSIQ) Earnings Report: Q2 2015 Conference Transcript The following Canadian Solar conference call took place on August 18, 2015, 05:00 PM ET. This is a transcript of that earnings call: Company Participants David Pasquale; Global IR Partners; IR Shawn Q u; Canadian Solar Inc.; Chairman & CEO Michael Potter; Canadian Solar Inc.; SVP & CFO Other Participants Mark Strouse; JPMorgan; Analyst Phil Shen; RO TH Capital Partners; Analyst MANAGEMENT DISCUSSIO N SECTIO N Ladies and gentlemen, thank you for standing by. Welcome to the Canadian Solar second-quarter 2015 earnings conference call. My name is [Whitley], and I'll be your operator for today. (O perator Instructions) As a reminder this, conference is being recorded for replay purposes. I would now like to turn this call over to David Pasquale, Global IR Partners. Please go ahead. David Pasquale (IR): Thank you, operator, and welcome, everyone to Canadian Solar's second-quarter 2015 earnings conference call. Joining us on the call today are Dr. Shawn Q u, our Chairman and Chief Executive O fficer; Mr. Michael G. Potter, Senior Vice President and Chief Financial O fficer; and Mr. Ed Job, Director of Investor Relations. Before we begin, may I remind our listeners that in today's call, Management's prepared remarks will contain forward-looking statements, which are subject to risks and uncertainties. Management may make additional forward-looking statements in response to your questions. Therefore, the Company claims the protection of the Safe Harbor for forward-looking statements that is contain in the Private Securities Litigation Reform Act of 1995. Actual results may differ from Management's current expectations, and therefore, we refer you to a more detailed discussion of the risks and uncertainties in the Company's annual report on Form 20-F filed with the Securities and Exchange Commission. In addition, any projections as to the Company's future performance represents Management's estimates as of today, August 18, 2015. Canadian Solar assumes no obligation to update these projections in the future, unless otherwise required by applicable law. At this time, I'd like to now turn the call over to Dr. Shawn Q u. Please go ahead, sir. Shawn Qu (Chairman & CEO): Thank you, David, and thank you for joining us for the call today. We are pleased with our results and 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 1 of 7
with the progress we have made in execution of our strategy. O ur results continue to reflect our leadership in both solar module and the downstream solar energy. In Q 2, our revenue and gross margin exceeded our guidance, despite the shift of our revenue mix towards module sales compared to the last few quarters. The shift reflects the change of our downstream energy business strategy from built-to-sell to build-tohold and the potential launch of our renewable energy YieldCo. O ur module sales were led by several key markets, such as Japan, US, India, and China, with each of these markets contributing at least 100 megawatts of shipments respectively. The shipments to Japan, however, exceeded 200 megawatts in the quarter. China has contributed significantly in Q 2, although we have continued its premium pricing and conservative product control [policy]. This reflects the increased recognition of our product quality and the [bright] value in this market. In Q 2, our energy business developed and delivered solid results. In Canada, we reached substantial completion on 134-megawatts Samsung phase I project, which is the largest solar power plant in operation in the country. In addition, we closed the sale of LunarLight solar power plant for CAD65 million and made good progress on the 141-megawatt Samsung phase II project, which we expect to complete in Q 3. In US, we started the construction of four solar power plants, totaling 653 megawatts. In Japan, we connected to the grid five solar power plants totaling 5.2 megawatts and expanded our late stage project pipelines to 670 megawatts, of which 336 megawatts have secured [grid] capacity. Even after accounting for significant project deliveries in Canada, we were able to replenish our pipeline of late-stage development opportunities, which stands at 4.4 gigawatts. This includes about 1.2 gigawatts [DC] in US, 338 megawatts in China, 617 megawatt in Japan and 56 megawatt in the United Kingdom and 140 megawatts in Brazil. Now, let me comment on our guidance for Q 3 and our business strategy moving forward. We currently expect total Q 3 shipments to be in the range of approximately 970 to 1,020 megawatts, including 70 megawatts of shipments to our own utility-scale solar projects. Revenue for the third quarter is expected to be in a range of $570 million to $620 million, with gross margin expected to be between 12% to 14%. We are on track for the launch of our renewable energy YieldCo. We expect to make a confidential filing to the US SEC very soon and will make announcements once we do file. We continue to target being ready for the YieldCo launch at the end of this year or early next year. YieldCo continues to be the preferred way to securitize our utility-scale solar portfolio in low-risk O ECD countries, such as US, Canada, Japan, and UK. Meanwhile, our conservative growth strategy and strong cash position also allow us to hold our highquality solar project assets on our balance sheet if necessary, for the right window to launch such a YieldCo. We have carefully examined our existing project pipeline recently, applying a back-to-basics methodology. We believe that our projects allow us to realize our reasonable development margin, even if we sell these projects to our traditional customer base. We have always been more conservative for projects in emerging markets and will continue to do so. For example, we have developed funding partnerships in China and will use these vehicles to support our project development there. O ur conservative growth strategy in a downstream energy business will allow us to stay on course for profitable growth in both good and bad market environments. Let me now turn the call over to our CFO, Michael Potter, for a more detailed review of our results for the second quarter. Michael, please go ahead. 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 2 of 7
Thank you, Shawn. Net revenue for the second quarter of 2015 was $636.7 million, down 26% sequentially, and up 2.1% compared to the year-ago period. Q 2 revenue came in above our guidance range of $570 million to $620 million. Gross profit in Q 2 was $96.5 million compared to $153 million in Q 1, and $118.2 million in the comparable period last year. Gross margin in Q2 was 15.2% compared to 17.8% in Q1 and 19% in the second quarter of 2014. This was above our Q 2 guidance of 13% to 15%. The sequential decrease in gross margin was primarily due to a one-time catch up of additional countervailing and anti-dumping costs due to the new US Department of Commerce ruling, and lower margin from the Company's total solution business in Canada due to fewer solar power projects being sold in the quarter. Income from operations was $32.5 million in the second quarter of 2015 compared to $78.7 million in the first quarter of 2015 and $67.7 million in the second quarter of 2014. O perating margin was 5.1% in the second quarter of 2015 compared to 9.1% in the first quarter of 2015 and 10.9% in the second quarter of 2014. Net foreign exchange loss in Q 2 was $2.8 million compared to net foreign exchange gain of $6.8 million in Q1, and net foreign exchange gain of $4.4 million in Q2 of last year. Income tax expense in Q 2 of 2015 was $2.7 million compared to income tax expense of $19.7 million in Q 1, and income tax expense of $8.3 million in Q 2 of last year. Net income attributable to Canadian Solar shareholders for Q 2 2015 was $17.9 million, or $0.31 per diluted share, compared to net income of $61.3 million, or $1.04 per diluted share, in Q 1, and net income of $55.8 million, or $0.95 per diluted share in Q 2 of last year. Moving on to the balance sheet. In Q 2, cash and cash equivalents was $403.3 million compared to $407 million at the end of Q1. The restricted cash balance was $641.2 million at the end of Q2 compared to $630.1 million at the end of Q 1. O ur trade accounts receivable balance net of allowance for doubtful accounts decreased to $303.8 million at the end of Q2, down from $327.8 million at the end of Q1. Inventories increased to $521.1 million at the end of Q 2, compared to $400.1 million at the end of Q 1. As noted in my press release comment, the increase is in preparation for an expected year-end demand rush. We are in the advantageous position of having the balance sheet and bankability of our Tier 1 brand to allow us to build and stage adequate inventory to capture this higher expected demand. Short-term borrowings at the end of Q 2 totaled $940.1 million, compared to $885.6 million at the end of Q1. Long term debt at the end of Q2 was $353.2 million compared to $125.9 million at the end of Q1. Senior convertible notes outstanding totaled $150 million. Short-term borrowings and long-term debt directly related to utility scale power projects totaled $181 million at the end of Q 2. In summary, we are pleased with our results for the second quarter, and our strong business fundamentals, growth prospects, and financial position. We continue to make good progress towards our business model transformation into a build, own, and operate model, and remain on track with our plans to launch a YieldCo. With that said, we recognize that the market has recently experienced volatility around YieldCo valuations. We are committed to maximizing the valuation of our asset portfolio for the Company and shareholders. As such, we have alternative plans in place to a YieldCo, if needed, to monetize our utility-scale solar power plant assets. The bottom line is our integrated model continues to win out. O ur brand and balance sheet are strong and resonate with financial partners and end buyers worldwide. We expect a robust demand environment in the second half of the year and will aggressively work to capture the profitable opportunities our Tier 1 position allows us to. O ur focus on profitability and strong 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 3 of 7
cash flow, instead of aggressive and overly leveraged growth, has resulted in a strong Company able to take advantage of opportunities when the industry experiences volatility. We're on track to our internal schedule for our preparation to launch a YieldCo, and we expect to announce more news on this soon. We're also closing several large construction facilities for our solar power plants that are in construction and we'll be making announcements on these soon, as well, including a strategic partner. Finally, as there's now more clarity on what to expect from US tariffs, we will be implementing our plans to ensure that we'll have tariff-free modules for this important market. As a note, it costs us approximately 500 basis points of margin compared to no tariffs in expectations for Q 3 because of a higher mix shift towards module shipments into the US in Q3. With that I'd like to open the call to your questions. Operator? Q UESTIO NS & ANSWERS (O perator Instructions) Your first question comes from the line of Paul Coster with JPMorgan. Please proceed. Mark Strouse (Analyst - JPMorgan): Hello. This is Mark Strouse on for Paul. Thanks for taking our questions. A couple quick ones regarding the YieldCo if I can. I understand what you say about having -- everything being on track, but then having several alternatives if needed. But in order to proceed as planned, do the current yields that you're seeing in the market for the other YieldCos, are they still value accretive? O r is launching a YieldCo dependent upon the yields getting better by the time you launch? This is Michael. I don't want to get into a long description of where yields need to be, particularly since they've been quite volatile in the last month. At the yields of the YieldCos that serve O ECD countries, and have strong projects, today's yields are still value accretive; however they are not in a range that you would hope to have a robust YieldCo launched in it. If they remain elevated for long periods of time, we do have alternatives. We believe that they are going to return to more of a lower level and a more normal level within the next six months or so and that lines up with our timing. However, we do have good projects that are in high demand and we do have alternative plans should that be necessary. Mark Strouse (Analyst - JPMorgan): Okay. Just a quick follow-up on that then. If push comes to shove and you decide that the best thing to do is sell the projects, can you talk in very general terms, if needed, just what the -- you talked about the revenue impact from your hold backs, but what the EPS impact might be or even the operating income might be from those particular projects? I don't have the revenue impact for the entire period. It's about $1 billion, we estimate, for this year, if we 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 4 of 7
had been selling projects instead of building and holding the projects. That assumed that we would be selling the recurrent projects at NTP and using percentage of completion accounting, which is usual for US projects. We have got a back of the envelope estimate, that additional gross margin could be anywhere in the range of approximately $500 million to $700 million to $800 million depending on the assumptions you use for the projects that would go into the launch of the YieldCo if they were sold. We believe that we would still achieve close to that even with today's market conditions because the purchase price from assets from long-term holders such as life insurance and pension funds have not changed very much. It has the advantage of monetizing the projects quickly and returning your capital and the profit quickly but it does reduce your long-term return for the shareholder, and it does remove that stable partner and ability to time your sales into a YieldCo. So at present time, the YieldCo is still our main plan and we still continue to be working hard on it. But we're certainly not, as I said, overly aggressive and believe in being overly leveraged. If necessary, we'll switch to a different plan, if the first one doesn't work. Mark Strouse (Analyst - JPMorgan): All right. Makes sense. O kay. Thank you very much. (O perator Instructions) Your next question comes from the line of Phil Shen is with RO TH Capital Partners. Please proceed. Phil Shen (Analyst - ROTH Capital Partners): Hey, guys. Thanks for taking my questions. In terms of your tariff compliance capacity, I believe you're launching 700 megawatts in 2016. Can you update us, in general, on your latest review of capacity expansion? Can you see CSIQ expanding beyond the 700 megawatts already discussed? And if so, where could it be located and over what time frame? Shawn Qu (Chairman & CEO): So you're talking about US tariff and the strategy to deal with US tariff. We are carefully looking into it. As you know, there are several ways to deal with the US tariff. O n one hand, it is always a possibility that the industry from the two countries and the government and two governments discuss and find a solution or settlement. Meanwhile, another parallel strategy is to establish facilities in the non-tariff regions. We are carefully examining both situations. Unfortunately, there's not much I can say or I can disclose at this moment. However, I believe being a little bit conservative and a little bit slow-moving on this front will prove to be prudent in long term because whatever decision, if you make that decision and the decision will have a long-term impact. So although on one hand, we have seen some significant impacts from the US tariff duties on Q3, and actually those are on Q2. However, I still think that we want to think through and watch the situation and think through before we make the move. Phil, we already have, by the end of the year, announced between O EM partners and our own capacity, 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 5 of 7
we're putting in Southeast Asia close to 600 megawatts of capacity, maybe 700 megawatts of capacity. That's module capacity, so we would be missing cell capacity. The two alternatives that we would do is either partner with somebody else who has cell capacity outside of the tariff countries, which is Taiwan and China, or to do our cell factory in a non-tariff country. But now that we know what the tariff determination is, we're much more clear in what we need to do in terms of the cell capacity, so we can come on line with tariff remodule. O bviously, those will also help in other places with tariff barriers, such as the EU, but the primary initial focus would be the US market. Phil Shen (Analyst - ROTH Capital Partners): Great, thanks. Between Q 1 and Q 2, we saw on your balance sheet, a drop in current project assets from about $400 million down to $65 million in Q 2. Longer term PP&E, however, increased to $1.2 billion from about $600 million. Can you talk about why current project assets have been what appears to be reclassified as non-current? Thanks. Yes, Phil, that's just a straight accounting change. When you move away from your plan to sell the projects to hold and operate the projects, they become CapEx versus inventory. So that you need to reclassify them and put any new projects into PP&E. Phil Shen (Analyst - ROTH Capital Partners): O kay, great, thanks. I'll jump back in the queue. There are no further questions in queue. I'll now turn the call back to CEO, Dr. Shawn Qu. Shawn Qu (Chairman & CEO): All right. It looks like the summer earnings call has more [width] than a normal earning call but still, I appreciate all of the people who joined us on the earning call during the August month. Also I appreciate the continuous support from you. If you have any further follow-up questions after today's call, please contact us and have a great day. Ladies and gentlemen, that concludes today's conference. Thank you for participation. You may now disconnect. Have a great day. All rights reserved (c) 2014 TheStreet, Inc. Please feel free to quote up to 200 words per transcript. Any quote should be accompanied by "Provided by TheStreet" and a link to the complete transcript and www.thestreet.com. Any other use or method of distribution is strictly prohibited. THE INFORMATION CONTAINED IN EACH WRITTEN OR AUDIO TRANSCRIPT (the "TRANSCRIPT") IS A REPRO DUCTIO N O F A PARTICULAR CO MPANY'S CO NFERENCE CALL, CO NFERENCE PRESENTATIO N O R O THER AUDIO PRESENTATIO N. THE TRANSCRIPTS ARE PRO VIDED "AS IS" AND "AS AVAILABLE" AND THESTREET IS NOT RESPONSIBLE IN ANY WAY NOR DOES IT MAKE ANY REPRESENTATION OR WARRANTY REGARDING THE ACCURACY O R CO MPLETENESS O F THE TRANSCRIPTS AS PRO DUCED, NO R THE 2014 TheStr eet, Inc. Al l R i ghts R eser ved Page 6 of 7
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