DQ is interesting. It's a pure upstream solar play for now, but they want to go vertical (like all the others) and sell more modules.
Here is a recent (Nov 17) note from Auriga that gives some more detail.
We reiterate our Buy rating and $20 price target. Daqo New Energy (DQ, Buy) reported a solid quarter with upside to both revenue and EPS. On a pro forma basis, Daqo reported $0.64 in EPS, which considerably exceeded our $0.57 estimate, but headlines read $0.13 as the company reported results using ordinary shares given that the IPO did not close until the first week of October. This headline distraction will not occur in Q4 because the EPS calculation will be based on diluted ADS going forward. Guidance was solid and both revenue and EPS should show growth in Q4 despite a two-week factory shutdown at the end of Q4. Our Q4 revenue estimate declines only because we overestimated Q4 module shipments at 8MW while management guided to production of 4 to5 MW. There are no changes to our 850MT poly shipment forecast or our $68/kg poly ASP. Our 2011 estimates are altered because of a small adjustment to share count only.
Poly production was solid. Q3 production of 973MT exceeded our 950MT estimate. The messaging was very consistent with the IPO roadshow in that the plant would be taken offline for two weeks for scheduled maintenance and debottlenecking procedures. The result is decreased production of 850MT in Q4, which is consistent with our model and should not be a surprise to the Street. We expect management to meet its Q4 production target of 850MT before taking the plant offline. Starting in 1Q2011, poly production should reach 1075MT per quarter. During the Q&A portion of the conference call, management expressed a high degree of confidence in meeting this run-rate following the shutdown.
Module production is gross margin neutral. In our view, there is not much upside to producing modules without being able to use internally produced polysilicon. Current module production is being achieved by procuring 3rd party cells at a cost of ~$1.40/W while adding another $0.40/w in module processing. With current module ASPs of ~$1.80/w, gross margin is not enhanced by increasing module sales. This dynamic will change when DQ can use its internally sourced wafers and module cost will drop to roughly $1.20/w ($0.20/w for the wafer, $0.30/w wafer processing, $0.37/w cell tolling, and $0.33/w for module processing); we model this to occur in 2Q2011. Module shipments were just 4MW in Q3 and guidance is for 4 to 5MW in Q4 while capacity is at roughly 12.5MW per quarter. While we are currently modeling module production of 10MW starting in 1Q2011, we would not be surprised if management chooses to curtail modules sales again until internally produced wafer are available in 2Q2011. For now our forecast is unchanged and we need to keep a close eye on cell prices; if cell prices remain high, and still result in a neutral gross margin profile, we will likely pullback in our schedule of module shipments at the beginning of 2011.
Estimate changes are essentially noise. Q3 delivered about $4mn in revenue upside given the higher poly production result. We gave up $5mn in revenue in Q4 due to module shipments being guided to just 4 to 5MWs. Most importantly, our poly production forecast is unchanged at 850MT, and we maintained our $68/kg ASP; we have got some cushion built into our model given that management embedded an ASP of $70/kg in its guidance. Our 2011 EPS estimate nudged up slightly by $0.02 as we adjusted the share count marginally lower.
Dilution from IPO occurs in Q4. Investors should note the 35% increase in the diluted share count in Q4. While EPS appears to decline sequentially, we note that net income actually increases sequentially, and that the appearance of declining EPS occurs as a result of the 35% dilution.
Price target remains $20. There is no change to our valuation methodology and we still assign a 10x multiple to our new 2011 EPS of $2.02.
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