Have investors been too hard on Suntech Power (STP) ?

The stock was branded one of the hottest IPOs of 2005 when it wentpublic at $15 a share last December, adding fuel to what was then analready-hot market for solar panels and technologies that deliveredalternative energies.

Once public, the stock of the Wuxi, China-based maker ofphotovoltaic cells and modules then shattered all expectations, morethan tripling to $45.95 in a little more than a month.

Suntech was riding two speculative waves -- the appetite fornonpetroleum sources of energy, which got an added push after PresidentBush declared the U.S. to be "addicted to oil"; and the growing desirefor Chinese-based companies listing on American exchanges. The companywas

Evergreen Solar

(ESLR)

meets

Baidu.com

(BIDU) - Get Report

, and investors snapped up an offering of what seemed like two hot stocks rolled into one.

Since then, the stock has steadily given up more than half thevalue it had in January. On the one hand, prices for solar cells andpanels were dropping as competition was increasing in the industry. Onthe other, demand for the silicon that Suntech used in its panels waspushing up prices.

Suntech was trading recently on Wednesday at $23.88. Since hitting its lowest post-IPO level of $21.40 a week before (still 43% above its offering price), the stock has seemed to stabilize between $22 and $25.

That pause to catch its breath presents investors an opportunity toassess whether Suntech, having squeezed out a lot of air that wasin the stock, is ready to head higher or whether it's going to sinkfurther toward the price that underwriters valued the stock at when itwent public.

Suntech is still pricey according to trailing 12-monthEPS: It's trading at a multiple of 77. But it's only 21 times the EPSthat analysts expect for 2007, a relatively low ratio, given thatanalysts are calling for Suntech's revenue to grow 126% this year and72% the following year.

Those analysts also expect Suntech, which posted 26 cents a share in 2005, to weigh in with 65 cents a share in 2006 and $1.10 ashare in 2007. If those estimates are not too wild, that will meanSuntech will have seen profit rise by more than a factor of fourover two years.

Sounds great, so why would investors abandon a stock with suchpromising numbers? Probably because they've done their homework and duga little deeper into Suntech's numbers. The company's operating margin fell to 18.9% last year from 23.5% in 2004.

In 2005, Suntech's R&D spending was 1.5% of its revenue, up from0.5% the year before. That's expected from a company in an industryin which a strong technological edge is essential. But couple that with arise in general and administrative expenses -- 8.4% of revenue in 2005,vs. 3.4% in 2004 -- and it raises questions about how well the companycan hold costs down going forward.

Operating costs may become a thornier issue if the prices of rawmaterials that Suntech uses become unwieldy. Suntech's cost of saleswas steady at 69.5% of revenue last year, a slight improvement over the70.6% in the previous year.

How Suntech handles material prices has been a prime concern amonginvestors. In a conference call last month, an analyst from PiperJaffray raised the issue, noting that "on the Street there is a lot ofconcern" about Suntech's ability to meet its needs as it expandsproduction capacity.

And rising prices could harm the industry as a whole over the longterm. It's not enough for solar panels to simply be an alternative toelectricity, which is generated by cheap forms of energy such as coaland hydroelectric and nuclear power. Solar panels must continue to beseen as a cost-efficient means of producing energy in homes and officebuildings. If not, their adoption rate will slow dramatically.

CEO Zhengrong Shi, acknowledging that "silicon supply remains anissue that all solar companies must grapple with," assured analysts andinvestors on the call that "this is a short-term situation" and that"more supply comes on line in the months and in the years ahead."

In the meantime, Suntech already has taken steps to ensure itcontinues to provide high-efficiency, low-cost solar panels. With itsmanufacturing base in China, where labor and other costs are relativelylow, it can afford to pass on some of the silicon price increases. Itsexpanded production capacity -- 15 times larger today than it was in 2002-- also brings in economies of scale.

In addition, Suntech has signed long-term supplier contracts withdomestic and international companies that Shi says allows the company tobuy silicon below spot market prices. And many of its customers havebeen buying their own silicon supplies that Suntech turns intophotovoltaic cells, allowing it to skirt the silicon-price issue in manycases.

All fine and good, but if what Shi was saying is true, it should becoming through in its 2006 numbers. And if the first quarter is anyindication, he's right. First-quarter gross margin was 34.7%, up from26.5% in the previous quarter and 30% in the year-ago quarter.

Operating margin widened just as impressively: 29.5% in the firstquarter, up from 14.1% in the previous quarter and 22.3% in the year-agoquarter.

Suntech's stock popped when it announced first-quarter results lastmonth, but it's since fallen below the level at which the stock was beforethose results were announced.

That feels like the market has turned a little too bearish on thisstock. Sure, there are a lot of uncertainties that all solar-panelmakers are facing. But Suntech has proven in its short history that itcan pump out innovative products while growing profit. But thespotlight has moved elsewhere, so Suntech Power continues to sink.

That's OK, because the less-alluring Suntech appears as aspeculative play, the more attractive it becomes from the perspective ofgood old-fashioned financial analysis. Paying 21 times forward earningsfor a stock that saw profit double in the most recent quarter

and

a big increase in margins is a good opportunity to enter a long-terminvestment.

And paying 20 times or less? That's even better.