The last two weeks have been choppy for the markets and my screening did not uncover any potential superstocks. This week, I am back in acti...

Weekly Superstock Scan 19 Sep 2016 - 23 Sep 2016: GURE

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The last two weeks have been choppy for the markets and my screening did not uncover any potential superstocks. This week, I am back in action with a write-up of a potential superstock. The company is Gulf Resources, Inc (GURE).


Despite its name, the company has nothing to do with the gulf region. GURE is actually a company located in the Shandong, China. It is a producer of bromine and specialty chemical products in China through its four wholly owned subsidies.

It operates in 4 segments:
  • Bromine 
  • Crude Salt
  • Chemical Products
  • Natural Gas: In Jan 2015, GURE discovered natural gas under its bromine well in Sichuan Province. GURE form a partnership with Daying County and the first well will be in operation by end 2016

    Technical




    Since last August, GURE has been trading in a (wide) box between $1.40 and $1.80. Last week, price surged 25% from $1.72 to close at $2.20. The weekly volume was slightly more than twice the average weekly trading volume.

    A quick check reveal that there was no news released by the company last week. Therefore, at the time of post, the reason for the sudden surge in price is unknown. Since GURE has been engaging in natural gas exploration in the past months, my guess will be positive news in that area but we will have to wait for confirmation.

    Fundamentals


    Including the most recent quarter, GURE has reported 6 consecutive quarters of year-on-year (yoy) revenue growth.



    However, the weight of products sold fell year-on-year for all segments. The only reason for the yoy increase in income was because of a large increase in the average selling price of bromine, which more than offset the fall in revenue for all products.

    Undervalued in All Aspects

    As at the end of the most recent quarter, GURE has cash of approximately $146.3 million, which equals to around $3.16 per share. Net, net cash, which is cash minus all liabilities, it was around approximately $131.3 million or $2.84 per share. Even with the surge in stock price last week, the amount of cash GURE is holding is higher than the market capitalisation of the stock.

    With a trailing 12 months earnings per share of $0.82, GURE is trading at just under 2.7 times its earnings.

    Venturing into Natural Gas

    In January 2015, GURE discovered natural gas at their bromine mine in Daying County. This discovery is adjacent to Sinopec’s discovery of 440 billion cubic meters of gas, the largest discovery in Chinese history.

    GURE hired Sinopec to assess this well. In May, it concluded there was a significant amount of natural gas at this location that could be profitably developed. GURE formed Haoyuan Chemical Company (DCHC) to explore for natural gas and brine resources in Sichuan Province. 

    By the end of 2016, GURE should be able to evaluate the profitability of the first well and the potential for future wells. If the well performs as expected, GURE should be able to apply permission for drilling additional wells by year end. 

    Acquisition and Consolidation of Subsidies

    In February 2015, GURE acquired Shouguang City Rongyuan Chemical Co., Ltd to increase profit margin and to reduce reliance on bromine. 

    In August 2016, GURE announced the merger of its two chemical divisions, Yuxin Chemical and Rongyuan Chemical. This should result in cost savings as GURE will be able to eliminate the substantial cost duplication between the two divisions. The bigger combined division will also give GURE greater bargaining power in both procurement and sales. This could help to further increase GURE's profit margin.

    PRC Government Clamping on Smaller Bromine Producers

    The Chinese government is trying to put more stricter environment policy or regulation to protect the environment. GURE's smaller competitors may not have good environment protection policies in place and may not have the finances to upgrade their equipment. This will create significant opportunities for Gulf Resources to acquire non-operating production assets.

    Matrices
    - High float of 26 million shares, 230 times its average trading volume
    + Low valuation of 2.7 times TTM EPS

    Risk Factors/ Things I do not like

    • Risk of Fraud - Chinese small cap reverse mergers have terrible reputations for being fraud. GURE being one of them automatically puts it at higher risk of being fraud. Making things worse is that it does not pay dividend for various reasons, making investors doubt whether the company does have the large amount of cash that it claims it has. 
    • Poor PR - GURE took a long time to rebuild their website this year and apologized for not keeping their website up to date. The company has not been going to enough conference and has not been getting good results on those conferences that it attended. While GURE believes that the stock is undervalued, the steps that it took are not helping to the cause.
    • Over-aggressive management - The CEO speaks of the stock reaching $30 or more in the next few years when it is trading just above $2 now. He too speaks on his low salary with substantial amount of option. The motivations are aligned but will the desperation affects his decisions?
    • Slowdown of China economy - Revenue has fallen in the last quarter due to slowing down of China economy, if things does not improve we should see falling year-on-year income.
     


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