Is This Solar Play as Cheap as it Seems?

Steve is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

As a starting point in my continuous search for new ideas, I often look for companies with high earnings yields and great returns on invested capital.  Why?  Companies with high returns on invested capital generally possess durable competitive advantages and demonstrate a knack for creating shareholder value. When these companies also sport high earnings yields, they represent great potential opportunities for investors to beat the market.  

Skeptical?  You don't have to take my word for it; I'm certainly not the only one who believes in the merits of using this methodology.

The Stock

This in mind, GT Advanced Technologies (NASDAQ: GTAT) has finally piqued my interest following its encouraging third quarter earnings report last month.  Of course, GTAT isn't exactly a new idea; the volatile solar equipment specialist has occupied a spot in my screens for the last six months and its perennially-low valuation has frustrated other Foolish investors for the better part of the last two years.

Before we dig further, let's take a look at some of GTAT's key metrics to see how it stacks up:

<table> <tbody> <tr> <td> </td> <td><strong>GT Advanced Technologies</strong></td> </tr> <tr> <td><strong> Market Capitalization </strong></td> <td>$411 million</td> </tr> <tr> <td><strong> Debt-to-Equity Ratio </strong></td> <td> 0.74</td> </tr> <tr> <td><strong> Current Ratio</strong></td> <td> 2.10</td> </tr> <tr> <td><strong> Current P/E Ratio</strong></td> <td> 3.80</td> </tr> <tr> <td><strong> Gross Margin</strong></td> <td> 42.5%</td> </tr> <tr> <td><strong> Net Margin</strong></td> <td> 14.2%</td> </tr> <tr> <td><strong> Return on Invested Capital</strong></td> <td> 16.2%  </td> </tr> </tbody> </table>

Though GTAT holds $298 million in total debt, the company still sports a relatively-healthy balance sheet with $479 million in cash, cash equivalents and short-term investments, giving it a current ratio of 2.10 and showing it should have little trouble handling its near-term obligations.  In addition, GTAT manages healthy gross margins of 42.5% and net margins of 14.2%.  While it doesn't pay a dividend, the company's ROIC of 16.2% shows a respectable ability to create value for shareholders by reinvesting capital in its business. Finally, and perhaps most intriguing, GTAT's current P/E ratio sits at an astoundingly-low 3.80, giving it an enviable earnings yield of 26.3%.

So What Gives?

Why, then, should investors shun a company with an exceptional earnings yield, strong returns on invested capital, plenty of cash, and reasonable debt levels?

In short, after riding high on a series of strong earnings reports in 2011, GTAT experienced a spectacular collapse in revenue in its primary photovoltaic (PV) segment as a result of this year's severe downturn in solar.  In the words of GTAT CEO Thomas Gutierrez, "The financial performance of many Asian solar companies, some of them our customers, has continued to deteriorate as evidenced by the increasing reports of turmoil in the industry."  

While it's important to note GTAT's current ROIC of 16.4% seems healthy, the recent number is substantially lower than its 5 year average ROIC of 53.80%, and the company's fortunes have suffered as the financial condition of its customers continues to worsen.  These customers include LDK Solar (NYSE: LDK), Trina Solar (NYSE: TSL), and Yingli Green Energy (NYSE: YGE) - companies whose stocks have posted year-to-date declines of 71%, 41%, and 39%, respectively.  

As of today's writing, with GTAT itself down nearly 53% year-to-date, many investors are left wondering whether the punishment fits the crime.

The Bright Side

Unfortunately for GT, management has repeatedly stated investors shouldn't expect a turnaround in its primary solar segments until at least late 2013 or early 2014.  When that happens, though, expect GTAT to be there to pick up the pieces with its new HiCz technology which, if it lives up to expectations, should serve to decrease the cost and increase overall efficiency of solar cells going forward.

When solar eventually rebounds, then, GT should be well-positioned to benefit from the next round of capital expenditures from customers eager to maintain a competitive edge in the industry. 

That said, despite GT Advanced Technologies' undeniable reliance on solar, the company isn't just a solar play.  In fact, GT spotted the negative solar trends well in advance and made early efforts to diversify its revenue sources away from the ailing solar industry.  Most notably, these efforts began with the company's July 2010 acquisition of Crystal Systems, whose products include advanced sapphire furnaces (ASFs) used to crystallize sapphire boules for the creation of substrates primarily utilized in the manufacturing of LED devices.

Perhaps the most significant opportunity for GT's sapphire products, however, involves the potential use of the product as a strong protective cover for touchscreen devices.  Indeed, in late September GT announced a follow-on order of $29 million for ASFs to an existing Chinese customer for use in the mobile market, with expectations of a "significant inflow of ASF orders in the second half of CY13."  If sapphire can compete in the mobile market, then, with an already-pervasive product such as Corning's (NYSE: GLW) Gorilla Glass, it could represent a massive windfall for the company.  

However, as I mentioned in another post earlier this month, the ever-innovative Corning is not likely to let its Gorilla Glass business go quietly.  In addition, even if rigid sapphire is able to gain market share from other current competing products, it could be too late to the game given the imminent arrival of coming flexible displays from Samsung as enabled by OLED technologist Universal Display Corporation (NASDAQ: OLED).  Additionally, a similar sentiment was echoed by Canaccord's Jonathan Dorsheimer, who downgraded shares of GTAT in September from "Buy" to "Hold," saying his meetings suggested the sapphire opportunity might not be as large as GT management has indicated.

On that note, GT also raised $220 million in capital just two months ago in an effort to build a "war chest" to help pursue further diversification efforts and wasted no time putting some of the new cash to use with its $10 million November acquisition of Twin Creeks Technologies' ion implanter technology.  This technology "enables the production of lower cost thin substrates with minimal material (kerf) loss," and, according to the press release, will enable the company "to pursue the development of thin sapphire laminates for use in applications such as cover and touch screen devices."

In essence, GT acquired the Twin Creeks technology in an effort to further reduce the cost and increase the feasibility of sapphire as a viable alternative to current protective mobile display covers, potentially removing yet another barrier to the wide adoption of sapphire as a legitimate protective device cover.

Foolish Bottom Line

Though GT Advanced Technologies has been hit hard by the downturn in solar, the company remains nicely positioned to benefit when the industry eventually rebounds.  In the meantime, GTAT boasts a strong balance sheet with plenty of cash to help it weather this storm, and its recent efforts to diversify could result in significant additional long-term revenue streams.  

Given these challenges, GT Advanced Technologies has still managed to maintain a respectable return on invested capital and seems incredibly-cheap given its superior earnings yield of 26.3%.  In the end, I'm cautiously-optimistic shares of GTAT offer significant upside from current levels for long-term investors who are willing to wait for its catalysts to materialize.


Steve Symington owns shares of Universal Display. The Motley Fool owns shares of Corning and Universal Display. Motley Fool newsletter services recommend Corning and Universal Display . Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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