USITC Determines US Solar Module Manufacturing Industry Seriously Injured by Imports: Why the Worst Case Impact May be Better Than Investors and the Industry Realize

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Eric Selmon Hugh Wynne

Office: +1-646-843-7200 Office: +1-917-999-8556

Email: eselmon@ssrllc.com Email: hwynne@ssrllc.com

SEE LAST PAGE OF THIS REPORT FOR IMPORTANT DISCLOSURES

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September 25, 2017

USITC Determines US Solar Module Manufacturing Industry Seriously Injured by Imports: Why the Worst Case Impact May be Better Than Investors and the Industry Realize

On Friday, the U.S. International Trade Commission (USITC) determined in a 4-0 vote that the U.S. crystalline silicon photovoltaic (CSPV) cell and module manufacturing industry has been seriously injured by imports. A written decision will not be publicly available until the ITC sends its findings and remedy recommendations to the president on November 13. Nonetheless, the ITC’s vote sets in motion a process that leaves the decision on what steps to take, if any, in the hands of President Trump.

In our notes from June 27 (What Is the Risk of Tariffs on Solar Panels? A Legal Analysis of Potential Outcomes of Suniva’s Section 201 Petition) and August 15 (Why the USITC Could Find that Imports Were Not a Substantial Cause of Serious Injury to the US Solar Industry – Data from the Staff Pre-Hearing Report), we discuss the background and legal framework of the case. In this note we examine the potential outcomes now that an injury determination has been made.

The ITC’s decision allows the president to impose tariffs, quotas or import licenses on imported cells and modules. However, the president is not allowed to institute a tariff greater than 50% of the value of the imported items, the term of the import restrictions is initially limited to a maximum of 4 years, and the restrictions must be stepped down at regular intervals while they are in effect. These restrictions should limit the impact from the imposition of tariffs or other quantitative restrictions.

U.S. solar developers and installers, including SunRun (RUN) and SunPower (SPWR), as well as foreign manufacturers, including JA Solar (JASO) and Jinko Solar (JKS), would be harmed by import restrictions. The biggest beneficiary of any restrictions would be First Solar (FSLR), as its cadmium-telluride (CdTe) modules would be exempt. Canadian Solar (CSIQ) will also likely benefit, as it has solar manufacturing capacity in Canada, which should be exempt from any restrictions due to NAFTA. So, too, may Tesla’s SolarCity subsidiary, which has just opened a module manufacturing plant in Buffalo, NY.

Portfolio Manager’s Summary

  • Friday’s unanimous vote by the U.S. International Trade Commission (USITC), finding that increased imports of crystalline silicon photovoltaic (CSPV) cells and modules have caused serious injury to the U.S. CSPV cell and module manufacturing industry, significantly increases the probability that import restrictions will be imposed.
  • After Friday’s determination, there will be a hearing on remedies on October 3, followed by a vote on remedies on October 22 and a report to the president by November 13. Following receipt of the USITC’s findings and recommendations, the President will have 60 days, or until January 12, 2018, to make a determination as to which remedies to implement, if any. The remedies are to take effect within 15 days of the President’s decision, or by January 27.
  • Although the USITC will make a remedy recommendation to President Trump, the president has complete discretion as to which legally authorized trade restrictions to impose, if any. The trade restrictions that are available to the president under the Trade Act of 1974 are tariffs, quotas, tariff-rate quotas[1] or auctions of import licenses.
    • If the president does not follow the USITC’s recommendations, Congress can overturn the president’s actions and put in place the USITC’s recommendations, by passing a joint resolution within 90 days of the president taking action. Given the glacial pace of legislation in a politically polarized Congress, we put a low probability on this outcome.
  • Various political considerations could shape President Trump’s response to the ITC’s finding of harm. Among the issues the administration must weigh are:
    • Trump’s desire to take punitive action against foreign competitors whose unfair trade practices have undermined domestic manufacturers. The USITC’s unanimous finding of harm only increases the pressure on Trump to act. News reports suggest that President Trump has been asking his advisors for an opportunity to impose tariffs and this would be the first opportunity to do so.
    • The effectiveness of such punitive action on foreign competitors. Among the three forms of trade restrictions available under law to the president – tariffs, quotas and import licenses – tariffs clearly achieve the objective of punishing foreign competitors by imposing a tax on their exports to the U.S. From the perspective of “America first,” quotas and import licenses may be less attractive to Trump; they would also raise domestic prices, by restricting the quantity of imports allowed to the U.S., but unlike tariffs they allow foreign suppliers to charge higher prices for their now limited exports to the United States.
    • The potential benefit to U.S. energy suppliers outside the solar industry. President Trump has been a strong advocate of the U.S. coal industry and domestic hydrocarbon production in general. To the extent the growth of solar is perceived as a threat to coal and gas fired power generation, higher costs for solar cells and modules could be viewed positively by the president and his supporters.
    • The negative impact of trade restrictions on domestic employment. U.S. employment in the manufacture of solar panels and modules is estimated at only 2,500 jobs; by contrast, domestic employment in the solar energy industry as a whole, including downstream jobs in the development and construction of solar generation facilities, is estimated at 250,000. Were a material increase in the cost of solar panels and modules to cause a drop in U.S. demand for solar generation, triggering a reduction of 1% or more in industry employment, job losses in downstream industries could exceed those potentially saved in manufacturing.
    • The risk of international retaliation. The risk of employment losses would not be limited to the solar energy industry; retaliatory actions by exporters of solar modules to the United Stated could target other politically sensitive industries, including those championed by the president, such as coal and steel.
    • In the face of a rising nuclear threat from North Korea, the need to maintain a cooperative relationship with China. If the administration is to avoid a military response to North Korea’s development of nuclear missiles, economic sanctions must be made to work. China is not only North Korea’s primary trading partner, but is North Korea’s primary supplier of oil and gas. The success of economic sanctions thus depends critically on China’s cooperation, militating against highly aggressive action by the administration in a trade dispute of a very limited importance by comparison.
  • In addition to these political considerations, the president’s economic advisors will likely urge him to consider the different economic impacts of the options available to him. As noted above, the trade restrictions available to the president under the Trade Act of 1974 are tariffs, quotas, tariff-rate quotas[2] or auctions of import licenses. We expect the likely effect of these potential restrictions, ranked from least to greatest impact, to be the following:
      • Tariffs on imports of modules but not cells. Module assembly is the lowest cost link in the module manufacturing value chain. Foreign module manufacturers could rapidly build module assembly plants in the U.S.,[3] bypassing tariffs and increasing U.S. solar panel prices only moderately. The impact on costs would be limited to the difference between module assembly cost in the U.S. and abroad.
      • This solution also offers the likely benefit of immediate announcements of new module assembly plants opening in the U.S., apparently validating the president’s decision by creating domestic manufacturing jobs.
    • Tariff-rate quotas. The impact of tariff-rate quotas depends on how low the quota is and how high the tariff is set. A quota sufficient to meet the import needs of the solar industry would cause little harm, while a high tariff might produce attractive headlines.
    • Tariffs on modules and cells. The impact of tariffs of course depends on their level. As discussed below, however, the law limits any tariff imposed to 50% of the price of the import.
    • Quotas or import licenses. In theory, a sufficiently restrictive cap on imports, whether imposed by a quota or system of import licenses, could produce a domestic price increase in excess of 50%. Certain features of quotas and licenses, moreover, render them more punitive to consumers and taxpayers than tariffs. Particularly important in the context of solar PV cells, tariffs allow U.S. prices to decline with international prices, but quotas and licenses do not. A further difference is that while tariffs, and the auction of licenses, generate revenue for the federal government, quotas do not. Indeed, the economic benefit of quotas would accrue in large part to foreign manufacturers, who can raise their prices to reflect the constrained supply of solar PV cells in the United States.
  • We believe that some form of tariff or, possibly tariff-rate quotas, would be the most likely action by President Trump for three reasons:
      • As noted above, President Trump has expressed a desire to impose tariffs.
      • A tariff ensures a predictable increase in the price of imports that would likely capture more headlines than quotas.
      • The revenue from tariffs goes to the U.S. government, as opposed to the benefits of quotas that accrue in part to the foreign manufacturers.
  • Subject to the law’s limits on legal challenges of the president’s decision, which we discuss below, the constraints which the Trade Act of 1974 places on the president ability to impose trade restrictions could limit their impact on the domestic solar energy industry.
    • Minimum import prices, the remedy requested by Suniva in its petition and the remedy used by the European Union in a similar case, do not appear to be authorized under the law. They are definitely not one of the options that the USITC is allowed to recommend to the president.
    • Imports from countries with which the U.S. has free trade agreements, including Canada and Mexico, should be exempt from any restrictions. Any administration action to impose such limits, moreover, would be challenged by affected parties under the provisions of these treaties.
      • The exception is South Korea because the USITC found that imports from South Korea are substantial contributors to the injury to the U.S. CSPV manufacturing industry.
    • If the president imposes a tariff on the import of CSPV modules and/or cells, which are currently imported duty free, the tariff may not exceed 50% of the value of the imported items. Suniva argued in its Section 201 filing that this provision does not apply to duties expressed in dollar rather than percentage terms; however, based on our reading of the statute, we disagree with that interpretation.
  • If the law’s 50% limit on any tariff imposed were respected by the administration, the imposition of a tariff may only have a limited effect on the domestic solar industry.
    • Currently modules are selling for $0.40-0.45/W. A 50% tariff would raise domestic prices to $0.60-0.68/W, similar to the prices of modules in 2014-15, when solar installations were still strong.
    • Moreover, manufacturers were selling modules for as little as $0.30-0.35/W before the section 201 petition was filed. The post-tariff price of modules could thus be as low as $0.45-0.53, not much higher than the current market price of modules.
    • It is possible, therefore, that the imposition of tariffs would have only limited impact on the growth of solar installations in the U.S.
  • A significant caveat, however, is that the Trade Act of 1974, while imposing restrictions on the actions the president can take under safeguard proceedings, also limits the right to challenge the president’s decisions (and the ITC’s) in court. This provision limits the efficacy of the law’s constraints on the president’s actions, and may permit experimentation by the Trump administration in the design of trade restrictions.
    • Courts have stated, “For a court to interpose, there has to be a clear misconstruction of the governing statute, a significant procedural violation, or action outside delegated authority.” This is a very narrow window for judicial review and has resulted in few, if any, cases of the judiciary overturning decisions in safeguard proceedings.
    • Furthermore, even if the president’s decision was to be overturned, by the time the final appeals court decision was issued it would likely be a year or more that trade restrictions would have been in effect. `
  • The World Trade Organization (WTO) has the authority to reject as invalid any trade restrictions imposed by the U.S. that are appealed by other member states. We believe it is highly likely the WTO will reject the trade restrictions on appeal, a process that will take about two years. Rejection by the WTO does not end the trade restrictions, however, but rather allows other countries to take “compensatory” (i.e. retaliatory) trade measures against the U.S. In the past, the U.S. has usually ended trade restrictions in response to WTO rejection, although usually citing other reasons as to why the restrictions were no longer necessary.
  • Winners and Losers
    • Solar module and cell import volumes and pricing have increased in anticipation of tariffs and the will remain higher until a remedy is put into effect. While only temporary, this is boosting near term results for foreign solar manufacturers including JASO and JKS, as well as for First Solar (FSLR).
    • Once remedies are in place, foreign manufacturers will be hurt, as will U.S. solar developers and installers. As explained above, however, we believe the actual impact of trade restrictions could be limited if the law’s 50% cap on any tariffs imposed is respected by the Trump administration.
      • Utility-scale solar required to meet state RPS targets are less likely to be impacted, because either the utilities will pass through higher purchased power costs to ratepayers or solar credit prices will rise to compensate developers.
      • Utility-scale solar supplied to corporate customers, or to utilities in excess of stat RPS targets, will probably be most impacted as these are the most price-sensitive transactions. SunPower (SPWR) should be the most impacted publicly traded developer.
      • Margins for roof-top solar developers such as SunRun (RUN) and Vivint Solar (VSLR) would also be hurt, although the attractive economics of state net energy metering policies will likely limit the impact on the volume of installations. Moreover, the small share of solar modules as a percentage of total installation cost means there is likely room for roof-top developers to offset the impact over time by reducing balance-of-system costs.
    • FirstSolar (FSLR) and, to a lesser extent, Canadian Solar (CSIQ) will benefit from trade restrictions.
      • FSLR is the biggest beneficiary as their solar modules are not CSPV and thus are exempt from any import restrictions. Any import restrictions should increase FSLR’s sales and margins in the U.S. and support FSLR’s earnings as they transition to their Series 6 modules.
      • CSIQ should also benefit to the extent that they can meet their needs with modules manufactured at their Canadian module assembly plants, which should be exempt from any restrictions.
      • Tesla’s (TSLA) SolarCity subsidiary would also benefit as it just opened a module manufacturing plant in Buffalo, NY, although the potential impact is small in the context of TSLA’s overall finances.

Exhibit 1: Heat Map: Preferences Among Utilities, IPP and Clean Technology


Source: SSR analysis

©2017, SSR LLC, 225 High Ridge Road, Stamford, CT 06905. All rights reserved. The information contained in this report has been obtained from sources believed to be reliable, and its accuracy and completeness is not guaranteed. No representation or warranty, express or implied, is made as to the fairness, accuracy, completeness or correctness of the information and opinions contained herein.  The views and other information provided are subject to change without notice.  This report is issued without regard to the specific investment objectives, financial situation or particular needs of any specific recipient and is not construed as a solicitation or an offer to buy or sell any securities or related financial instruments. Past performance is not necessarily a guide to future results.

  1. A tariff-rate quota establishes an import quota that is tariff-free and then one or more levels of tariffs for imports above specified levels. For example, the first 10 million modules could be imported without quotas, the next five million modules could be imported with a quota of 30%, and a 50% tariff would be imposed on all further imports.
  2. A tariff-rate quota establishes an import quota that is tariff-free and then one or more levels of tariffs for imports above specified levels. For example, the first 10 million modules could be imported without quotas, the next five million modules could be imported with a quota of 30%, and a 50% tariff would be imposed on all further imports.
  3. The capital cost to construct module assembly plants is <$0.10/W of production capacity and takes only three to six months to complete.
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