David Pasquale Shawn Qu - Chairman, Chief Executive Officer and President Michael G. Potter - Chief Financial Officer, Senior Vice President and Director

Kelly A. Dougherty - Macquarie Research Jesse Pichel - Jefferies & Company, Inc., Research Division W.

Karen Tai - Piper Jaffray Companies, Research Division Colin W. Rusch - ThinkEquity LLC, Research Division Mark W.

Bachman - Avian Securities, LLC, Research Division Aaron Chew - Maxim Group LLC, Research Division Brandon Heiken - Crédit Suisse AG, Research Division

Thank you, operator. Welcome everyone to Canadian Solar's Second Quarter 2012 Earnings Conference Call.

With us today from the company are Dr. Shawn Qu, Chairman and Chief Executive Officer; Mr.

Michael G. Potter, Senior Vice President and Chief Financial Officer; and Mr.

Ed Job, Director of Investor Relations. Before we begin the call, please be advised that management's prepared remarks and responses to your questions during this call may contain forward-looking statements that involve a number of risks and uncertainties that could cause actual results to differ materially from expectations implied by these forward-looking statements.

These forward-looking statements are made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995.

You should not place undue reliance on forward-looking statements, and we encourage you to review a more detailed discussion of the risks and uncertainties contained in the earnings press release issued earlier today and in the company's annual report on Form 20-F filed with the Securities and Exchange Commission. All information provided on this call is as of today's date, unless otherwise stated, and Canadian Solar undertakes no duty to update such information except as required under applicable law.

At this time, I would like to now turn the call over to Dr. Shawn Qu.

Please go ahead, sir.

Thanks, David, and thank you, all, for joining us on today's call. With a backdrop of a challenging solar industry environment, we are pleased with our results for the quarter at 412 megawatts.

Our shipments came in close to our expectations, while gross margin on a GAAP basis came in above our guidance. Demand strength in Europe was offset by somehow slow sales in North America, while we are still waiting for the demand surge expected in other markets such as China and Japan.

The key theme for Canadian Solar in the second quarter remains a solid execution at all levels of our organization. We continued to execute on all the key components of our strategy.

Specifically, we are focused on increasing our market share and gaining scale, reducing our costs, expanding our higher-margin total solution business and enhancing our product offering by launching innovative, high-efficiency modules. In the second quarter, we believe we gained market share over other competitors while expanding our customer base and geographic footprint.

We are consolidating our position on our worldwide top 4 suppliers, making Canadian Solar the partner of choice across all key geographies. In addition, we are executing the -- we are exiting the second quarter with one of the strongest balance sheets in the solar industry, positioning Canadian Solar to benefit from the global flight to quality and bankability and to emerge from the current cycle as a stronger leader.

On the manufacturing front, we continued our relentless focus on the reduction of our all-in module manufacturing costs, which reached $0.67 per watt, down from $0.73 per watt in the first quarter. Progress of our cost roadmap was driven by continued improvement across all the staff in the production process.

The $0.06 per watt cost reduction from Q1 to Q2 is roughly equally shared by reduction in the cost of silicon wafer and the cost of cellular module processing in our own factory. We believe we are now among the lowest cost suppliers in the world, and we are within reach of our industry-leading OEM module manufacturing cost target below $0.60 per watt by the end of 2012.

The important point to note here is that we are doing all of this while maintaining the high quality, high performance and reliability, while -- which our customers around the world can rely on. Our achievement on cost reduction, together with our continued improvement in solar module efficiency, allows us to be competitive and gain more market share in a global solar module business.

We also reached several important milestones in the development of our total solution business. During the quarter, we completed the acquisition of 16 projects in Ontario, Canada, from SkyPower Limited.

These projects are expected to be built from now to the end of 2014. With this acquisition, our project pipeline in Canada with approved feed-in tariff exceeds 300 megawatts.

We also announced the acquisition of 11 late-stage development projects totaling 122 megawatts in the U.S. market.

Since this announcement, our U.S. project pipeline has expanded to approximately 140 megawatts.

And while there has been some market chatter about financing challenges in the industry, we believe that we continue to receive strong support from our financing partners. As the industry leader with strong and breakeven cash flow in the first half of this year, as well as our accumulated experience since we entered into the PV project business in 2009, Canadian Solar stands out when we enter discussions with banks.

Lenders want to partner with us and support our ongoing expansion, given our successful track record and strong financial position. As a result, we recently secured a CAD 120 million revolving credit facility from Bank of China to support the construction of our project in Canada.

We also secured a CAD 93 million of long term loan facility from China Development Bank to partially finance the SkyPower acquisition. This loan is noteworthy, not only because it demonstrates our bankability during the tough time for solar companies, but also because it is financing at the development stage, which is rare to be achieved.

Geographically, the majority of our current projects are in Canada and in U.S., but we also have projects in various development stages in China, Southeast Asia and Europe. In China, we have received approval for over 50 megawatts of golden sand [ph] projects, and we have closed 100 megawatts of growth market [ph] projects in various stages of approval process.

Like all of our projects, we are seeking committed end buyers before starting construction. While we are aware of the potential issue of great connection that are not unique in China but can be a concern in less developed areas and our project plans include staffs [ph] to mitigate this risk.

We are clearly excited about the continued progress in our total solution business. This is a major point of differentiation for Canadian Solar, and we believe it will drive both our long term success and improved profitability.

We remain on target to generate 25% of our revenue from this segment in 2012 and over 40% in 2013. Another core focus for us is our R&D front.

We are proud of Canadian Solar's rich history in innovation. We have led the market with numerous efficiency improvements and product introductions.

As an example, we continue to enhance our ELPS technology. And in the last, we have achieved sales conversion efficiency of up to 21.1% for monocrystalline solar cells.

This translates to solar modules' power output of up to 280 watts on a 6-inch 60-cell module, which is what we call CS6P module. We have been commercially producing and selling our ELPS high-efficiency PV module and have achieved and have received very favorable market feedback.

We have decided to convert some of our existing cell lines to ELPS and target to reach 120 megawatts for this high power and differentiating product by Q1 2013. We are also working very closely with our technology partners to design, test and optimize our new AC module, targeted at the residential market.

Our AC modules stand out because they combine module and microinverter under our industry-leading warranty, backed by an insurance policy and are written by investment-grade insurance companies from the U.S. and Europe.

We are in testing and certification stage and expect to do our full production launch shortly. Now, let me comment on our guidance for Q3 and the full year 2012.

We expect Q3 shipments will be in a range of approximately 390 megawatts to 420 megawatts. Gross margin is expected to be in the range of 2% to 5%, which takes into consideration the fact that we have controlled the production rate early in the third quarter, as well as the impact of higher cost inventory carried over from Q2.

We expect that we will continue to execute our cost [indiscernible] roadmap and bring our blended module costs to reach $0.55 to $0.60 per watt before the end of year. For the full year 2012, we reiterate our guidance for shipments of approximately 1.8 to 2 gigawatts.

While we see a reasonable strong shipment pipeline for both the third and the fourth quarters, we also recognize that the level of uncertainty in both the solar market and the macroeconomy has increased the risk to our annual guidance. We will monitor developments in the weeks ahead and update our guidance at a future time as developments warrant [ph].

This concludes my formal business update. And now, I will turn the call to Michael Potter, our CFO.

Michael, please go ahead.

Thank you, Shawn. I will review a few points before opening the call to Q&A.

Please refer to our press release for additional details. Net revenue for the second quarter of 2012 was $348.2 million, up 6.9% sequentially and down 27.7% compared to the year ago period.

Gross profit in Q2 was $43.2 million compared to $25.1 million in Q1 and $63.7 million in the comparable period of last year. Gross margin in Q2 was 12.4% compared to 7.7% in Q1 and 13% in the comparable period of last year.

The sequential increase in gross margin was driven by the increase in revenue as a result of higher shipment volume, as well as the positive impact of one-time items equivalent to approximately 4%, mainly due to one-time recognition of the benefit of our warranty insurance. The year-over-year decline in gross profit and margin was primarily due to the sustained decline in average selling prices over the past several quarters, which was only partially offset by lower manufacturing costs.

Operating expenses were $46.2 million in Q2 compared to $38.5 million in Q1 and $38.7 million in Q2 of 2011. The increase in operating expenses were primarily due -- driven by higher shipping costs on the back of increased shipping volume, as well as higher legal expenses.

In Q2, we recorded a loss on the change in fair value of derivatives of $1.1 million compared to a slight loss of $2 million in Q1 and a loss of $5.5 million in Q2 of 2011. Net foreign exchange loss in Q2 was $7.2 million compared to a net foreign exchange gain of $0.3 million in Q1 and a net loss of $1.2 million in Q2 2011.

In Q2, income tax expense was $2.1 million compared to a benefit of $2.5 million in Q1 and expense of $1.9 million in Q2 of 2011. The tax was driven mainly by transfer pricing and volumes over breakeven in our manufacturing locations.

Net loss attributable to Canadian Solar shareholders for Q2 2012 was $25.5 million or $0.59 per diluted share compared to a net loss of $21.3 million or $0.49 per diluted share in Q1 of 2012 and net income of $7.1 million or $0.16 per diluted share in Q2 of last year. Moving on to the balance sheet.

In Q2, cash and cash equivalents decreased to $330 million on June 30, 2012, from $393 million at the end of Q1. The restricted cash balance was $362 million at the end of Q2, up from $232 million at the end of Q1.

The increase primarily results from the cash collateral used for bank borrowings. Our accounts [ph] receivable balance net of allowance for doubtful accounts increased to $262 million at the end of Q2 from $251 million at the end of Q1, in line with the sequential increase in revenue.

Inventories decreased to $344 million at the end of Q2 compared to $390 million at the end of Q1. Inventories remain a focus area for the company, and we hope to continue to make good progress in this area.

Let me take a minute to update you on the progress on our projects business. Our EPC and solar systems kits business represented about 5% of total revenue in Q2 2012.

As Shawn noted earlier, we expect this to grow to 25% of revenue in 2012 and 40% in 2013. Let me discuss our shorter term Canadian pipeline in more detail.

We're currently constructing or start construction soon on 5 Canadian Solar-owned projects. One is the RESOP and 4 are FIT projects.

Each project is approximately 10 megawatts in size. The RESOP project will reach commercial operation in mid-August.

Additionally, we have pending REA for 4 FIT projects expected to be received in Q3 and Q4 of this year. Engineering is already underway and the construction is expected to begin in Q4.

The final FIT project that we sold to TransCanada is expected to receive the REA sometime in 2013. We have now submitted 5 of the former -- 5 of the 16 former SkyPower projects for REA approval.

The first REA approvals for this group of projects is expected sometime in Q1 of 2013. We expect to submit the remainder of the projects over the next several quarters.

For the owned projects I mentioned, we'll be using the completed contract methods to recognize revenue. Typical revenue recognition will be 2 to 3 quarters after we have started construction.

One of our owned projects I discussed is expected to be completed and paid for in Q3. Normally, we recognize revenue on projects that we do not own but are providing EPC services on, on a percentage-of-completion basis.

We have other projects in our Canadian pipeline. We will be closing shortly on an EPC contractor supply complete turnkey services for several ground mount [ph] solar farm projects, each approximately 10 megawatts in size for a leading Ontario developer.

Construction of these projects is set to begin in Q3 2012 and scheduled for completion mid-2013. We believe that we have a dominant position on Ontario, and each project that we complete builds on our lead as the most experienced and dependable developer in Ontario, dependable not only to take it from development stage to construction but to complete the construction and bring it to operation.

As Shawn mentioned, we have an even broader pipeline outside of Canada. I'm happy to report that we have started construction on our first U.S.A.-based project.

This 2.5-megawatt project started construction in July is expected to be fully completed and operational in Q4. We have several other U.S.A.

projects that are expected to start construction soon, and we expect to recognize approximately 10 megawatts from the U.S.A. projects in 2012.

Finally, as Shawn mentioned, our previously announced U.S.A. pipeline has expanded from 122 megawatts we previously announced to approximately 140 megawatts today.

We expect to construct more of these projects in 2013 with the remainder being completed in 2014. We remain actively expanding our project pipeline in the U.S.A.

In summary, Canadian Solar continues to successfully execute on our business strategy. We are fully committed to expanding our leadership position, enhancing our profitability and delivering meaningful value for our shareholders.

We believe we're in a great position to build on our momentum and our clearly differentiated business model. With that, I'd now like to open the call to your questions.

Operator?

I guess what I heard from the comments was that you weren’t terribly confident in the shipment guidance for the full year and even if you hit the high end in the third quarter, it still suggests 625-plus megawatts to get to the low-end, so it's clearly more than you've shipped in any other quarter. So just wondered if you can give us some kind of visibility into that and how confident you are that you'll be able to recognize the project revenue in the fourth quarter because it seems to be very back-end loaded.

This is Shawn. I would like to give you some of my observations.

Now, first of all, solar business is always back ended because many projects, many approvals for the year. So people always rush to finish projects before the year end and get things connected either by December 31 or early January.

So every year, we see a rush by end of year. So this year, there's no difference.

So if this year continues in the same pattern, then yes, Q4 shipment will be higher than Q2 and Q3. In our pipeline side, our projected demand pipeline in Q4 is higher and significantly higher than the number you mentioned, which is about 600, 650 megawatts.

Now, production-wise, Canadian Solar with a full capacity can produce roughly 170 to 180 megawatts with our module, the current module capacity. And we will end the Q3 with some inventories.

So number-wise, yes, with our Q4 production plus the inventory by the end of Q3 will allow us to deliver more than like 600 or 650 megawatts. That's why, we -- at this moment, we reiterate our guidance for the year.

However, as we mentioned in the call, we also see the uncertainties and these days, we have a lot of uncertainties in the macroeconomic conditions. There's also uncertainties in the solar industry, so we do want to be cautious.

And as I mentioned, we see that the increase of risk to our guidance and the management will update you after the investment -- the investors when we have more information.

And I just want to comment on the revenue recognition for the projects. We have 2 projects we expect to recognize in Q4.

There are 2 of the 9 that we've said would be above $450 million of revenue. So you can approximate about $50 million each from that announcement.

Obviously, under completed contract methods, the day you get paid and it's officially closed becomes important. It doesn't make a base difference from the grand scheme of things for cash flow as it happens on January 3 or if it happens on December 30, but it does make a difference for financial reporting.

So we're targeting it to happen in Q4, and that's what all of our plans are built around. But obviously, we can't guarantee that's going to happen, even though we're going to work our hardest to make sure it does.

And then maybe can you help us think about whether it's profitability of the projects or from an ASP standpoint, how they differ between, obviously, between Canada and the U.S. And then as you look into some other markets, I mean, you listen to many of your peers and everyone now wants to get into the downstream because that's where they see you can make money.

But it seems that what's happened everywhere else in the value chain could very easily be played out downstream if everybody really does pursue a similar strategy.

Well, again, this is Shawn, and I do echo your comments. I would like to draw you to the fact that Canadian Solar entered the project or the downstream total solution business since 2003.

For example, the current, over 300 megawatts of project pipeline in Canada, with SEC approval project submitted in 2009. In 2009, that's what in Ontario we call it FIT 1.0.

And those projects has a relatively higher feed-in tariff it because those projects are designed according to the solar module cost level and EPC cost level in 2008. And in the past 2 years, the costs have reduced a lot significantly.

And therefore, those projects -- Ontario projects, all in late stages, with very solid, good execution pipelines and with good profitability. And I do echo with you that not all the projects are strongly profitability -- profitable.

For example, a certain project in China, because of high competition, maybe the profitability are not so high. But for Canadian Solar, our major pipeline, for example, the project in Ontario, which will be built out and connected from now to end of 2014, do have a reasonably good profitability.

Okay, just one more question for me then. You talked about a $0.67 production cost and then you see a 2% to 5% gross margin in the third quarter.

Can you help us think about when the inventory overhang will be behind you or what you think ASP is? Give us a sense of what ASPs did in the quarter and how you're thinking about them for the back half of the year, just a little more of a factor into that guidance.

Yes, I don't want to give predictions for ASP for Q4 and next year. I will leave it to the next earnings call.

And for Q3, with newly product, our -- and the Q3 expected ASP, our gross margin will be similar to what expected back in Q2, like 7%, 8%, that kind of gross margin. And talking about inventory, it depends on the business.

If we do see a Q4 rush as usually happens by end of year, then we see a lot of inventory will be used in Q4. And that's also one of the reason we are maintaining some inventory because our customer do tell us that they have projects, which they have to finish before the end of year.

And this is Michael. Just to give a little bit of color, we did reduce inventory from Q1 to Q2.

But we're very conscious of our inventory levels, particularly with the fact that we have an aggressive roadmap to drive down costs. We slowed production in July in order not to build up the inventory in what's normally a slower part of the industry, which is July and the beginning of August.

And we're ramping up production later in the quarter. So that's going to give us a little bit of additional cost from underutilization.

Plus, we did exit the quarter like, I think we said in the said in the release, with a little bit more inventory than we have planned because we're a little bit lower than the sales revenue we are hoping for in Q2. So that higher cost inventory is carrying over into Q3.

In terms of when this overhang will end, as long as the costs are coming down significantly, this carryover of higher cost inventory for the next quarter is going to continue. But there is some sign that the stock prices are starting to stabilize.

So once that happens, there'll be less impact from that.

When you sell a solar project, what are the pretax IRR expectations and how has that trended? And do you think it ever makes sense to hold on to these projects rather than sell them?

So the IRR varies country by country, Jesse, and the base IRR is determined by whatever the cost of capital is in that country. So there's not a set IRR you can apply to every project everywhere in the world.

I would say that in almost every case, if we decide to the utility company, if we develop the projects ourselves in particular, the overall IRR would be better if we own the projects and ran it and generate electricity for the next 20 years. But that's not really the business model that we're following today.

And we think it's better for us to achieve the cash flow than the growth in business we need to build and sell the projects. Typically, in just about any country, a solar project has a high IRR than government bonds.

And in almost every single case, the TPAs to the FIT contracts are backed up by the government. So the investors in the different countries basically are getting a premium return for government backed assets essentially.

So it's they are in fairly high demand, and we are receiving pretty good prices for it.

Your margin guidance for Q3 is impacted by these inventory reserves. Can you give us some color around the size of this write-down and what gross margin would be without the charge?

Yes. So I don't know if I would call it really a write-down.

Every quarter, we do make some inventory adjustments based on the age of some inventory, based on the average cost compared to the market cost, returning it to an expected margin. So it would probably be without higher reserves a couple of percent higher.

The other part of it would be -- we slowed down the production at the beginning of this quarter, so we have a little bit of under absorption from the first month or so. And the rest of it, is just the timing and the reason to win some of the sales are happening in the quarter.

And of course, the euro is weaker than it was at the beginning part of the year, so it's a little bit harder to have higher margins when you sell into Europe because of that. So I think those are all the factors on it.

This is Karen calling on behalf of Ahmar. I have 2 questions.

One is regarding your SG&A increase in the quarter. I just want to get a sense of how you think this will trend going forward into 2013.

Well, we don't really give 2013 guidance in these calls. The SG&A is split off into 2 areas.

The G&A is almost all headcount based, and we try and control our expenses in our headcount there. The big variable spending there has been legal expenses.

Most recently, the legal expenses have revolved around the various antidumping cases that are happening. In particular, the most recent ones are the activity in the U.S.

In terms of selling expenses, which is the other part of the SG&A, selling expenses varies most with shipments volumes. Our cost of shipping products is expensed to selling.

So typically, the higher volume we ship, the higher the shipping cost -- the selling cost is. And then the opposite direction for the -- if you ship less, you have lower expenses there.

Okay. And then secondly, can you give us a demand update from the various geographies over the last couple of months?

In particular, what contributed to the slowdown in the Americas region and how do you think this will trend in the third quarter?

This is Shawn. In the Q2, Europe remains as the #1 geographic region, #1 market.

And for U.S., there are significant customer demand and -- however, there seems to be some waiting. We believe the waiting is what is due to sometimes, the customer require more time to get permitting or financing, but also because of the uncertainty caused by the antidumping [indiscernible] petitions raised by a couple of U.S.-based manufacturer, which seems to cause some uncertainties and waiting pattern in the U.S.

market.

Okay. And to follow-up on that, do you expect to diversify into some of the other emerging markets that you mentioned, like China and other Southeast Asia or Australia either this year or next year?

Yes, we do. We have actually, we have already seen increased shipment to Japan, for example, since July.

Because the new Japan feed-in tariff kicked in July. And in July and August, we have already seen significant increase of shipment into Japan.

And for China, we started to deliver to some of China projects in this quarter. And the patent in China is that most of the project application start early in this year and get order approval around this time or in the next 2 months, then the project will be built out in the last 4, 5 months of the year, so -- and we have also seen good indications from Southeastern Asia, in particularly Thailand and India.

Also, early in the first half of this year, Canadian Solar have achieved the groundbreaking sales into Indonesia and the Philippines. So we are opening up those markets too.

I think -- this is Michael. The last thing I would add is that although we always talk a lot about the projects we acquired in Canada, we also formed a joint venture with the former SkyPower people to form CSI SkyPower.

And we are expanding globally to do development through that joint venture in Africa, South America and the Middle East. So we are approaching a lot of new markets and getting in the ground for in a lot of cases as the developer.

Can you talk about the mezzanine equity that you've got on the balance sheet now and then what the terms are on that and how we should think about that in a go-forward basis?

It's just the remaining payments that are supposed to go to the SkyPower seller group when a certain milestone is hit.

And so how should we think about that coming off with the milestones? Is it something that's going to be there for 18 months?

Or are you going to be able to claim that up in the next couple of quarters?

It depends on when the products reach the REAs, the projects reach the REA stage.

Okay, great. And then thinking about Central and South America, can you talk about what your expectations are for sales there over the next several quarters into 2013 and 2014?

For Central and Southern America, we are investigating those markets. I don't have a sales forecast for those particularly those 2 regions yet.

Great. And then the final question, on the AC models.

How should we think about the warranty expense and your evaluation of those products? Certainly, there's a certain amount of debate around component life times for some of the microinverters.

How are you guys dealing with that and what kind of insurance do you think you're going to really need to take those products to market?

Yes, that's why we had been cautious. We were now the first mover because we have been watching, we have been accumulating the information.

And with that, we will be with our warranty reserves and get our insurance policies. It will be a while.

It would take me a little while to give you a full answer to this question.

I can't tell you the vendors we picked, I mean, the warranty they offer for lines up with the same length of time as our module warranty. So they're not constructed, so that you have to take the panels off your roof and take [ph] the microinverter off every 10 years or something like that.

The plan is that this should last as long as the panels do.

Shawn, just very plainly. Why even reiterate your 2012 guidance today?

I didn't hear any confidence in your voice that you could actually reach 600 megawatts in Q4 and that assumes that you can make a high end of your range at Q3 here, and much less even try and ship 800 megawatts in Q4. So why even reiterate that guidance today?

Don't you think you're just setting up investors for more bad news to come?

Well, I guess I have to change my voice then. And I did discuss our consideration when I answered the first question.

I have discussed the demand pipeline for Q4, which is higher than 600 megawatts. We have also discussed our monthly production capacity, which allow us to deliver more than 600 megawatts with the expected inventory by end of Q4.

And as a matter fact, usually, the year end rush, it happens in September. But because of the shipping, shipping time, sometimes even if we ship out products in September, the sales recognition may be in October or November, so it become a Q4 sales.

Because of all these reasons, we give you the -- our current observation. But yes indeed, I do want to mention that there are uncertainties to the economy and also uncertainties to the industry, which indeed increase the risk of annual guidance.

Okay. Michael, just one quick question here for you.

Gross margin looks to be -- gross margin degradation in Q3 isn't admirable here. You said that there's only a couple of percentage points that's related to inventory reserves.

So why don't you help us out here and talk about what the cost reduction efforts are? Where does $0.67 in Q2 go to in Q3?

And then I know that you kind of sidestepped the question already or Shawn did on ASP declines. But give us some reasons here.

If you look at your cost structure versus ASP declines, why do you have more gross margin degradation here in Q3?

I think I talked about the main factors when I answered the question a little bit earlier, but I'll kind of go over a few of the points on that. So we exited Q2 with -- although with decreased inventory, which I think is good compared to some of the things I've heard about some of my peers out there, we didn't bring it down as much as we hoped we would.

We did achieve our cost down goals for Q2, and we believe that in Q3, we'll continue to reduce our cost and we're on track to get our $0.55 to $0.60 by the end of the year. So even though our cost reduction was decent in Q2 compared to what the Q3 market's going to be, it's going to be at higher cost inventory and we have more of it than we would've liked at the end of Q2.

We would have preferred to have less inventory and find [ph] our factories more full in Q3. However, when we saw what the condition was to the end of Q2 and we know that July orders were almost always low, we slowed down production in July and into the beginning of August, and that's causing us some under absorption which is pushing up the cost for us the beginning part of the quarter.

And finally, the euro has come down a lot from Q1 to Q2 into Q3, and that's certainly impacting our profitability, particularly since Europe is still a strong market for solar. So I think those are the main factors for it.

I think I gave you a range of a couple of percentage points just because of the higher cost inventory going from Q2 into Q3.

This is Shawn. I want to add a few more comments.

As I said early in the call, if I take my Q3 newly productive products compared with our Q3 expected ASP, then our gross margin will still be at 7% or 8%, just like we are previously guided for Q2, so we are maintaining the same pace. But there are some of the factors, as Michael discussed, which caused us to reduce the gross margin guidance for Q3.

Now I also want to mention that with the current uncertain market conditions, the management have 2 goals. One is, of course, to maintain and increase the market share and the response of the customer demand, yes, we will do that.

But meanwhile, we're also very cautious of the cash flow balance, and the management had a target to maintain at least a breakeven cash flow, which is -- which gave us a very strong position in the industry and which make -- by doing that, we make sure that we are a survivor in the current consolidation, and also we make our banking partners comfortable. So the management has been balancing these 2 objectives.

And the final point I would make is we move into the end of the year projects for total solutions revenue started to become a higher percentage of our revenue, and that enjoys better margins and module sales, and that will start pulling up our overall gross margin as well.

Wondering -- 2 if I may. First, wondering if you guys can comment just on your latest insights on the poly market.

I know most media reports out there are highlighting a low 20s number. But been hearing some scattered chatter just about secondary market sales, I guess maybe stemming from just under utilization and lower demand in 3Q being in the mid to high teens and wondering if you guys are seeing any of that or any color you can offer there.

Yes, this is Michael. We get asked questions about poly pretty often, and we're really one of -- not the best solar company to ask that question.

We have a fairly small wafer [indiscernible] in operation, so we do not buy a lot of poly from the market. And we know that the spot [ph] market is at secondary prices.

It really depends on individual's producer's desire to sell inventory at any one point in time. So we tend to be very opportunistic, and we don't need to buy it on a regular quantities with any sort of a fixed contract.

So our observation to what that pricing can be like is may not be indicative of the market at all.

But are you seeing any of that or hearing it, Michael?

I hear it from analysts who ask me questions. But they [indiscernible] as they heard the prices are at a certain point.

But no, we don't hear that from our suppliers, and that's not the general tone in the market now.

All right, excellent, helpful. One other one, if I may.

With regard to China, I understand that it's been a little slow in the first half awaiting approvals and what-not. But aside from the, I guess, permitting approvals that Shawn spoke of, just also been hearing there are some hang-ups regarding financing.

And wondering if you could offer any clarity on how you think -- how the banks will open up and ultimately finance the 5 gigawatt plus number that they are hoping for in the back half?

Yes, this is Shawn. The bank in China, just like the bank everywhere, they are always cautious.

So when they see the uncertainties, they become even more cautious. In case of Canadian Solar, as I mentioned, we do received strong support from banks.

They supported our project activities in Canada, for example. So when they see group projects and bankable partners, yes, they go ahead.

They support. Now for China, the large project in China have also amusing in China, and banks also takes time to approve.

So because of that reason, Canadian Solar has been very cautious, and we only mentioned our -- in this call, we only mentioned our golden sand [ph] project, about 50, 60 megawatts, which we think is very solid. And also, for all other products and for all other projects, we have been -- we are taking a cautious policy.

Like we mentioned and Shawn mentioned, we don't have any different roles in China for China projects than we do anywhere else in the world. Before we commit significant capital to start constructing something, you need a committed end buyer.

And there's not as much difference in the banking system in China than anywhere else. They need to understand how the loan is going to get paid back and who's going to be -- successfully own and operate the project.

We also are very conscious of issues you can have in connecting or utilizing the full power output of your projects depending on the local grid. There's always a lot of articles being written about that about China, but it's actually an issue in a lot of different countries where solar is relatively new and where the grid is not very well developed.

So we're cautious about where we do the project and who our partners are when we exit it's time to go ahead. And it's really no different for us in China than anywhere else.

This is from Pranav [ph] from Daiwa Capital Markets. I have 2 questions.

First one is on product ASP. Could you give some color on model ASP for third quarter and fourth quarter, how you're visioning that?

Well, for the third quarter, we already made a comment that we see the module ASP continue to come down. It's partially because the German has -- the German market passed one airline [ph] in -- at end of June.

So now, we enter a monthly reduction, and also because summer months are usually the slow months. So we do see the ASP in Q3 going down.

For Q4, we are still watching. On one hand, there might be a rush towards the end of year, which will help to stabilize the marketplace.

However, with the current economic uncertainty that I mentioned, we are cautious. So I'm going to wait until the Q4 earnings call to give you my observation on the Q4 pricing.

And for your AC module, what type of price premium you do expect for one basis compared to normal modules whenever -- effectively coming later part of the year, but...

Yes, again, it's too early for me to answer this question. And we are developing and we are getting feedback from market on the pricing for this product.

So let me update you once we do the full launching of this product.

Just to give you a little bit of color around that. Our goal is to be less expensive for those panels than it would be to use a traditional system buildout.

So instead of having a separate inverter and the wiring and all the cost of installation related to that, we are expecting to drive the cost a lot lower by what we're doing. Obviously, the panel costs we expect to get more forward because of the microinverter on the back of it.

Okay, got you. And my last question is on the cost reduction side.

For module cost reduction, how much you can go further from here? Like I'm only talking about module cost reductions, not cell, which is particularly $0.30 -- $0.25 per -- probably currently per watt, how much it can go down there?

Yes, this is Shawn. When we talk about the $0.55 to $0.60 per watt cost target by the end of the year, we mean the all-in module cost, which included the wafer cost and the solar cell cost and also the solar module cost.

At this moment, I mean, the breakdown for that, if that wafer cost will be somewhere around $0.20 to $0.25 per watt, and the still [ph] processing cost will be $0.10 to like $0.15 per watt. And then the module processing cost will add another $0.20 or so.

And then you'll get a roughly $0.60. So that's how the module all-in cost will reach $0.55 to $0.60, which only require the incremental cost reduction.

Now meanwhile, we are also working on some technologies which we hope to bring breakthrough. And if we in fact [ph] succeed in those breakthrough technologies, we can see the all-in module costs reduce even more.

And I would say, if we're talking about under absorption, which I did for Q3, the cell factory has higher depreciation in the module factory. So if you don't run your cell factory completely full, you'll have higher self costs even if your wafers are cheaper.

This is Brandon Heiken speaking on behalf of Satya Kumar. I noticed the 2Q geographical mix changed quite a bit with the higher mix to Europe.

I was wondering how you think that might trend in the third quarter and the fourth quarter?

This is Shawn. For the third quarter or fourth quarter, I still see Europe as a leading geographic area.

But meanwhile, we see Asia-Pacific to grow quite significantly, probably in Q4, and the growth will come from Japan, China. We also see some strong growth potential in other demand coming from Thailand and India moving into Q4 and Q1 next year.

And our Canadian pipeline, project pipeline will move into very strong, probably move into a strong construction phase next year once those projects reach the final notice to proceed. And also, I expect our U.S.

many [ph] projects complete the permitting process. So I think that we will see the demand come back and come strong in both Asia-Pacific and from North America.

And can you comment, I know you said you're converting about 120 megawatts to ELPS and you're still -- the last we heard was that you're considering a new factory of 700 megawatts. Are there any new considerations in developing that new capacity?

We have pretty much made the decision to convert some of the existing lines to ELPS, so that we have 120 megawatts of ELPS capacity by the end of this year ready for Q1. For the new facility, we are still considering.

On the technology side, we think we are ready, and -- however, given today's -- the uncertainty in the marketplace, the management has been very cautious. As I mentioned, also one of the early questions, Canadian Solar is known for its conservative approach and even back 2, 3 years ago, everybody moved into polysilicon and the ongoing vertical integration, Canadian Solar said no.

And Canadian Solar said that we want to focus on downstream, on the solar cell, which is technology process and also the downstream module process. So in the current uncertain industry environment, the management is going to be even more cautious, so we are still considering.

Thank you, operator. Thank you, everyone, for joining the call today.

And thank you for your continued support. If you have any follow-up questions after today's call, please contact us, and have a great day.