LDK Solar (LDK) – Part 1 - Introduction

LDK Solar (LDK) a manufacturer of multi-crystalline solar wafers had its Initial Public Offering (IPO) on May 31, 2007 and 17.384M shares were offered at $27 per share. In the subsequent months the price elevated to peak at $73.95 on September 27, 2007 until allegations of an inventory discrepancy surfaced. Ever since then, the stock has experienced high volatility along with a seesaw ride.

The inventory allegation stems from the fact that the company considers scrap silicon lacking immediate use as part of its inventory. LDK’s contention is that the expectation is for the company to use its entire inventory, and deferred use as such does not call for a write off.

An independent audit cleared LDK off the allegations, but the issue resurfaced after LDK introduced a new classification for “inventory to be processed beyond one year” in its 4th quarter report. Several analysts sounded skeptical about this transformation in reporting during the conference call following the 4th quarter report.

LDK’s operating niche is right at the beginning of the photo-voltaic (PV) module supply chain. Currently, the company manufactures wafers from a raw material mix of virgin and recycled polysilicon. This setup is expected to switch to a structure where polysilicon is also manufactured internally. Gross margins are expected to soar as the production ramp-up bears fruition. Operating in the polysilicon and wafer production areas in the photo voltaic (PV) module supply chain translates to a higher margin and is a coveted position when compared to PV manufacturers operating in the cell and module businesses.

Despite the negative attention associated with the inventory issue, LDK has managed to snag numerous large long-term wafer supply contracts. LDK was able to include favorable terms as ‘10% prepayment’ and ‘fixed pricing’ in some of these contracts. Below is a summary of LDK Solar’s recently announced wafer supply contracts:

Announcement Date	Company	Term	Initial Shipment	Comments
02/22/2008	Hyundai	8 years	Late 2008	More than 450MW total with prepayment for a portion of contract value.
01/17/2008	Neo Solar Power (NSP)	10 years	2009	More than 500MW total with 10% contract value prepayment and fixed pricing.
12/10/2007	Q.Cells	10 years	NR	More than 6GW. 10% prepayment.
10/22/2007	Canadian Solar	3 years	50MW in 2008	Total Value of about $540M
10/16/2007	Solarfun	3 years	NR	Fixed pricing with a total value of about $270M
10/10/2007	ChinaLight	3 years	NR	Fixed pricing with a total value of about $135M

LDK has indicated that 80% of polysilicon requirements for 2008 have been secured. This projection includes 5% in-house production, which takes the output assumption to be around 175MT, and inline with its 2008 guidance of polysilicon production of 100MT-350MT. This is another area that has left various analysts unconvinced. Their argument is that buildup for polysilicon production has historically taken much longer and that these projections are overly optimistic.

To compensate for about 880MT of polysilicon, LDK’s plan is to employ framework contracts with fixed quantities, but at a discount to market prices. The company hopes to supplement this with spot market, auction, and recycled silicon purchases on an as-needed basis.

LDK Analysis:

1. LDK Solar (LDK) - Part 1 - Introduction.
2. LDK Solar (LDK) - Part 2 - Business Issues.
3. LDK Solar (LDK) - Part 3 - Outlook.

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