FIRST SOLAR, INC. quarterly report, Q1 FY2014

First Solar, Inc. — Q1 2014 Form 10-Q

Reporting period: Three months ended March 31, 2014; unaudited. Comparisons are with the three months ended March 31, 2013, unless otherwise noted. First Solar designs and manufactures solar modules and develops, builds, sells, and operates solar power systems.

Financial performance

Metric	Q1 2014	Q1 2013	Change
Net sales	$950.2 million	$755.2 million	+26%
Gross profit / margin	$236.7 million / 24.9%	$169.3 million / 22.4%	Margin +2.5 percentage points
Operating income / margin	$139.3 million / 14.7%	$61.2 million / 8.1%	Operating income +128%
Net income	$112.0 million	$59.1 million	+89%
Diluted EPS	$1.10	$0.66	—
Operating cash flow	$(318.2) million	$66.5 million	Decrease
Capital expenditures	$50.8 million	$71.7 million	Decrease

Revenue mix: Solar power system revenue was $909.2 million, up 62%; third-party solar module revenue was $41.0 million, down 79%. Systems represented 96% of sales, versus 74% a year earlier.
Segment results: Systems segment sales rose 59% to $633.3 million and pretax income rose to $170.3 million. Components sales fell 11% to $316.9 million; the segment recorded a $29.4 million pretax loss, improved from a $49.5 million loss.
Margins and expenses: Higher-margin project mix, improved factory utilization and throughput, and lower manufacturing and raw-material costs lifted gross margin. Lower module selling prices partly offset those benefits. R&D expense rose 30% to $38.8 million; SG&A fell 21% to $58.7 million. No production start-up or restructuring and impairment expense was recorded in Q1 2014.
Taxes: Income tax expense was $28.9 million and the effective tax rate was 20.5%, versus 10.6% in Q1 2013. Management attributed the higher rate primarily to a greater share of profits in higher-tax jurisdictions and losses in jurisdictions where no tax benefit was recognized.

Balance sheet, cash flow, and liquidity

At March 31, 2014, cash and cash equivalents were $975.2 million; marketable securities were $404.0 million; and restricted cash and investments were $304.8 million. Cash, cash equivalents, and marketable securities totaled $1.379 billion, down from $1.764 billion at December 31, 2013.
Total debt, including current maturities and unamortized discount, was $198.9 million, down from $223.3 million at year-end. The company had no revolving-credit borrowings; $441.2 million remained available under its $600 million facility after letters of credit. It reported compliance with debt covenants.
Current assets were $3.036 billion and current liabilities were $997.9 million. Accounts receivable, unbilled and retainage totaled $532.2 million, including $460.2 million of retainage.
Operating cash use reflected lower customer receipts and working-capital movements, notably a $448.9 million decrease in accrued expenses and other liabilities and a $108.2 million increase in receivables, unbilled amounts, and retainage. The Campo Verde transaction’s revenue recognition also reduced deferred project costs and customer-payment liabilities; substantially all sale proceeds had been collected in 2013.
Cash used in investing activities was $20.4 million; cash used in financing activities was $13.9 million, including $25.1 million of debt repayments. Cash and cash equivalents declined by $349.9 million during the quarter.
Management said available liquidity, expected operating cash flows, the contracted project pipeline, and credit-facility availability were sufficient for working-capital and capital-expenditure needs for at least the next 12 months.

Material changes, outlook, and risks

Systems revenue growth was driven chiefly by recognition of substantially all revenue on the 139 MW Campo Verde project after it reached commercial operation and the sale criteria were met. The company also recognized construction progress on projects including Desert Sunlight and AGL Nyngan.
Management reported 0.3 GW of module shipments and 0.4 GW of new bookings from January 1 through May 6, 2014. The advanced-stage systems pipeline was approximately 3.5 GW as of May 6; sold or contracted projects represented approximately 2.3 GW. About $3.4 billion of revenue remained to be recognized on sold or contracted projects, with timing dependent on project completion and closing.
First Solar expected to produce approximately 1.9 GW of modules in 2014, versus 0.4 GW produced in Q1. It reported 82% factory utilization in Q1 and average module conversion efficiency of 13.5%, up 60 basis points year over year. Management also reported certified CdTe module efficiency of 17.0% at research scale/production-scale processes.
For the remainder of 2014, management expected $250 million to $300 million in capital expenditures. The filing does not provide a specific full-year revenue or earnings guidance figure.
Management emphasized intense industry pricing competition and manufacturing capacity exceeding global demand, which could pressure module prices and margins. It also cited project execution and revenue-recognition timing, construction funding needs, and the possibility of temporarily owning projects or investing in joint ventures as liquidity and performance considerations.
Contract-estimate revisions reduced gross profit by a net $9.7 million across eight projects in Q1 2014; the comparable reduction was $13.0 million across four projects. Management noted that percentage-of-completion estimates can change and may materially affect results.
Warranty liability was $208.3 million. A 1 percentage-point change in the estimated warranty return rate would change the liability by approximately $57.6 million. The separate module collection and recycling liability was $241.4 million; a 1% increase in the assumed annual inflation rate would increase that liability by $62.4 million.
A securities class action and related derivative litigation remained pending. The company said it could not estimate potential losses; the class action had been certified and merits discovery was ongoing. Management stated it could not determine whether a loss was probable or estimate a range.
Management described its 2014 results as not necessarily indicative of full-year results. It also noted that the Malaysian tax holiday, generally providing a 100% exemption, is conditional on meeting specified requirements and expires in 2027.

Important facts for investors to verify

Whether the contracted pipeline converts to project closings, revenue, and cash collections on schedule, particularly given the concentration of Q1 growth in systems projects.
Whether operating cash flow improves as retainage and unbilled receivables are collected and project-related customer billings and liabilities normalize.
Whether module pricing, manufacturing costs, utilization, and system project mix sustain the Q1 gross-margin improvement.
Whether 2014 production of approximately 1.9 GW and capital spending of $250–$300 million remain consistent with demand and liquidity needs.
How warranty, recycling, performance-guarantee, project-rescission, and litigation exposures evolve, including the sensitivity of recorded liabilities to estimates.