SHANGHAI ( TheStreet) -- Only one solar firm is down on Friday, and it is Solarfun Power Holdings ( SOLF), down big after reporting gross-margin erosion in the fourth quarter.

Shares of Solarfun Power were down by 9% at the midday mark on Friday, and the Chinese solar player had doubled its average daily volume of shares traded.

While Solarfun profits were up and earnings were in line , analysts were falling out of line with the company during the Solarfun morning conference call.

The solar earnings season has been highlighted by some record gross margin outperformance, and a heightened sensitivity by investors to any shortfall in gross margin. Solarfun's gross margin drop during a solid quarter was the starkest example of the toll that gross margin underperformance is exerting come earnings time.

Notable on the Solarfun conference call with analysts was the number of follow-up questions asked by analysts -- many more questions than has been typical in solar earnings call.

The general level of disconnect between the Street models for Solarfun and Solarfun management was summed up by a comment during the call from Barclays analyst Vishal Shah, who asked at one point, "What am I missing here?"

A second solar analyst who was on the Solarfun call summed it up by saying, "it did not go well. Analysts were trying to get at an actual cost structure and the management answers were muddled. Some metrics suggested a good cost structure which should have resulted in higher margins."

It may not be time to panic, however, even with Solarfun shares down close to double digits during a day when solar and technology are both rallying. First, investors need to keep in mind that Solarfun has increased its share price by 200% in the past year, the most of any solar company other than Trina Solar ( TSL).

Solarfun stock ripped over the past year -- even though it has come down from a mid-January high of over $10 per share. With its 9% decline at midday Friday, Solarfun shares were trading at $6.88. It is all too common in the solar sector for a stock to soar on a general tide of enthusiasm, and then plummet when any bad news surfaces.

The gross margin deterioration in the fourth quarter was that bad news for Solarfun, and the fact that its gross margin outlook for 2010 was not appreciably better added to the investor retreat from Solarfun shares.

What's more, the fact that analysts were confused over Solarfun's cost structure in relation to the gross margin dip may be an indication that the solar company is simply more complicated than previous modeling indicates.

Solarfun has a private-label business for which it creates modules using third-party cells shipped to it from companies including German solar leader Q-Cells, a business distinct from its proprietary modules sales. Both the private label business and vertically integrated proprietary sales module business are still evolving.

Solarfun also has two types of solar modules -- its monocrystalline and multicrystalline lines -- with different cost structures.

Solarfun has been increasing its share of business in China, where the margins that are available are a relative unknown to the street. What's more, Solarfun is doing a portion of the lower margin project work in China also -- though it made clear on the call that it has no immediate plans to go to the First Solar ( FSLR) model of embracing lower margin systems-based work for the long term in China.

At the same time, Solarfun has internal capacities to make wafers and cells, while it also continues to buy wafers and cells from third parties at a different cost structure.

As Solarfun becomes more vertically integrated in its business, it becomes more difficult to understand the notion of the model breaking out the private-label business from Solarfun's own module sales, and breaking out the internal wafer and cell capacity versus external purchases.

For example, Solarfun's internal capacity estimates led some analysts to conclude it would have no need to buy third-party wafers and cells in 2010, and yet, Solarfun has long-term contracts that require it to buy third-party product even as its internal capacity expands.

Lastly, while Solarfun is buying polysilicon at $53 per kilogram, it is still using a weighted historical average that is between $65-$67 -- and coming down to $60 in 2010 -- for its polysilicon pricing in module production.

One analyst questioned how Solarfun could still have high priced polysilicon in its inventory with the high level of shipments. It was just one more point of confusion in a call that did not seem to end with analysts having a firm grasp of the Solarfun model.

The preface to many an analyst question on the Solarfun call was, "I'm just trying to get at..." or "I'm just trying to understand..."

Analysts indicated that Solarfun may, in fact, be a stronger company now than it was a year ago, even if the gross-margin deterioration suggested otherwise. What's more, Solarfun's evolving business model should become clearer over time. Friday just was not that day. Solar investors are a fickle lot, and gross margin underperformance has been the fickle investor's indication to sell.

Solar analysts said in the short-term there are significant headwinds for Solarfun, with the German feed-in tariff reductions, and the euro devaluation that can continue to erode earnings and gross margins for solar companies.

Solarfun management said on the call that they believe demand "push out" from other European countries, like Italy, and from the U.S. and China, will make up for the decline in Germany. What's more, Solarfun management indicated that they expect the euro to remain at a value of $1.35 in 2010.

Both of these Solarfun assumptions are debatable. However, it seemed there was a much larger unresolved question on Friday, not related specific 2010 headwinds: A disconnect between the street and Solarfun management over a cost structure that, on the surface, should result in higher gross margins, seemed to be a headwind trumping all.

-- Reported by Eric Rosenbaum in New York.


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