Wednesday, November 9, 2011

An Update on Solar Industry Dynamics

When I wrote about what trends in the industry killed Solyndra (that is, barring outright fraud), I covered the aspects of the business that are driving lower profit margins and consolidation. In light of that, I thought I'd share two recent news items that confirm that picture of the industry.

In brief, global overcapacity of the primary raw material for solar panel manufacturers, polysilicon, has caused prices to fall precipitously. Several years ago, a massive increase in solar manufacturing, driven by German and then American subsidies, strained the global supply of refined silicon, which was used to serving only the semiconductor industry. It drove the prices of electronic up, relatively speaking, as well. In response to this, a lot of new capacity entered the market, causing a slump in prices. In the news, more evidence for this has emerged as Chinese polysilicon manufacturers are mulling a shutdown, citing low profitability and endangering local supply to the burgeoning Chinese solar PV manufacturing industry. As in most other industries, consolidation is the only way to maintain profitability on very low margins, and that is what we are currently seeing with polysilicon manufacturers.

The other aspect is the fall in demand from 2008-2009 for solar PV has put a strain on the other side of the business, straight solar manufacturing and marketing. Cheaper polysilicon and overcapacity has now driven prices and profit margins down, and the only defense against that kind of situation is usually scale.

A major Chinese solar PV company's CEO emphasized this dynamic, a common one in the petrochemical industry where products are largely commoditized, in noting that in the three segments of the solar PV supply chain - that is, polysilicon manufacture, wafer production, and panel production - she expects most independent players will have merged into about 5 majors in each sector. She leaves off the alternative PV technologies, such as thin film, but the general picture remains the same.

It is essential in the highly politicized environment surrounding alternative energy that people understand that the failure, bankruptcy, merger and acquisition of companies in solar PV is not a sign of an ailing industry but one in rude health. Let's face it: barring outright fraud, Solyndra died because the solar industry has been relentlessly driving down prices and margins, so that its disadvantaged feedstock position made it uncompetitive. But that's an excellent story for consumers, who will continue to reap the benefits. In places like California or New York, where systems benefits and transmissions costs make up more than half of a homeowner's electricity bill, it is now already economical to lease distributed home solar generation. A leasing model involves paying the installer a flat rate per kWh of electricity generated, generally lower than the cost of a kWh from the utility, until the installation is paid off (this mitigates the high capital cost of an initial investment). As solar panel manufacturers consolidate, the economics will only get better.

That being said, it is incorrect to talk about a "Moore's Law" of solar PV, like Paul Krugman alludes to, since what we are talking about here is a rapidly maturing industry and not a product driven by research and development. The dominant dynamic in the solar PV industry is not efficiency gains or product miniaturization, but commoditization. The falls in price and increasing returns to scale mirror those of the global polyolefins industry following the development of highly efficient processes to make polyethylene, polypropylene, and PET. Eventually, there will be a floor in price that tracks the fundamental underlying materials and energy inputs, and PV panels will be just another commodity with correspondingly high returns to low-cost innovation. And that will be good.

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