China’s Decision To Limit New PV Factories Is Positive For Its Solar Industry

The Chinese government will limit the construction of new photovoltaic (PV) manufacturing facilities as it moves to cut down excess capacity within the country’s ailing solar industry. According to the Ministry of Industry and Information Technology, new solar manufacturing plants that are intended to “purely” expand capacity will not be permitted. ^[1] We see the move as a positive for the Chinese solar sector as a whole given that it could bring about industry consolidation, encouraging healthier companies to absorb assets from distressed firms rather than building out new capacity.

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Overcapacity In The Chinese Market

China is home to the world’s largest solar industry which accounts for nearly 70% of the panels manufactured worldwide. ^[1] The industry added manufacturing capacity at a breakneck pace funded by cheap debt from state-backed banks – and this ultimately led to massive overcapacity. This excess capacity brought about intense competition among manufacturers and caused panel prices to fall by more than 50% over the last two years. While things have been improving slightly this year, a complete turnaround may not be possible without consolidation. Global demand for solar panels in 2013 is estimated to be under 35 gigawatts (GW), while China alone is capable of manufacturing close to 50 GW of solar panels per year. We believe that consolidation should help to alleviate the overcapacity situation within the industry and result in improving pricing power.

Some Companies Are Seeing Improvements, May Need To Expand Capacity

At the moment, the Chinese solar industry is a story of two extremes. While most companies continue to struggle with excess capacity and negative gross margins, there are a handful of tier-1 manufacturers that have been doing quite well operating at near or above full manufacturing capacity. Companies like Yingli Green Energy (NYSE:YGE) and Trina Solar (NYSE:TSL) have been seeing strong demand from both the domestic market and overseas, thanks to their diversified products and strong marketing. Yingli, for instance, expects to sell between 3.2 GW and 3.3 GW of panels this year, exceeding its in-house nameplate manufacturing capacity of 2.45 GW. While the company intends to operate its factories at above capacity and outsource its remaining cells from third-parties in the near term, it may eventually need to add more capacity to meet demand. Given the new rules, companies like Yingli may have to absorb capacity from struggling manufacturers, rather than building out new capacity.  While this will save them the time and effort of building out new plants, there could be some challenges.

Government Support And Quality Of Manufacturing Facilities

The Chinese government will have to play an active role in facilitating consolidation. While the government has been pushing for consolidation within the industry, progress has been quite slow. Many struggling tier-2 and some tier-1 manufacturers continue to operate despite massive losses and large debt loads, and the government may first have to allow some of these firms to fail in order to bring about more mergers and acquisitions within the sector.

Secondly, the manufacturing facilities held by failing companies are likely to be less sophisticated and may not be ideal for manufacturing high quality cells and panels. This could be an issue, since many of China’s top solar firms have been increasingly focusing on high value markets like Japan, Australia and the United States, where the quality and efficiency of panels are paramount. This would potentially require solar firms to invest in further developing the faculties that they acquire.

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1. Bloomberg [↩] [↩]