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LIWA Global Hunter Jan 31 2011 Report
LIWA Global Hunter Jan 31 2011 Report
LIWA Global Hunter Jan 31 2011 Report
03- 2010
04- 2010
05- 2010
06- 2010
07- 2010
08- 2010
09- 2010
10- 2010
11- 2010
12- 2010
Pr Vol
ESTIMATES $ (MMs except multiples & EPS) Having reviewed and conducted site diligence on over 100 of the existing US listed Chinese
2009 2010 2011 companies, we feel that LIWA presents one of, if not the most, compelling investment
Revenue opportunity in this entire universe of companies. The company has ~$100MM in cash, $42MM
Q1 (Mar) $20.6A $63.2A $106.1E in current year net income, growing to $60MM in 2011, practically $0 debt and currently trades
Q2 (Jun) $48.8A $75.5A $117.6E with a fully diluted market cap of only $290MM. Our view is that this valuation is the result of a
Q3 (Sep) $40.9A $96.3A $110.8E
combination of factors: a limited public company reporting history, minimal sell-side coverage,
Q4 (Dec) $51.3A $117.6E $202.7E
FY $161.5A $352.7E $537.2E
minimal institutional sponsorship, a lack of understanding or belief in the current earnings
EV/Sales 1.4x 0.6x 0.4x
power of the company and the growth projections which are largely predicated on in process,
fully funded, capex projects. The intention of this piece is to present the company objectively, in
EPS (ProForma) a way that both focuses on the underlying fundamentals of the company and also addresses and
Q1 (Mar) $0.19A $0.28A $0.41E intends to disarm the assertions that have been leveled against the company. We have published
Q2 (Jun) $0.32A $0.32A $0.44E extensively on the company over the past nine months. As such we will not reiterate the entirety
Q3 (Sep) $0.39A $0.33A $0.41E of our previous reports; rather we will highlight the recent diligence efforts and channel checks
Q4 (Dec) $0.30A $0.43E $0.68E
as well as to directly address the two principle arguments that shorts have presented: first, that
FY $1.34A $1.36E $1.93E
the SAIC/SAT documents the company has made publicly available on its website are not valid
P/E 8.0x 7.8x 5.5x
and, second, the gross margins of the business are "too high" to be real. We have maintained
EBITDAS our Buy rating on LIWA over the past nine months, during which time we have watched the
Q1 (Mar) $5.2A $10.6A $16.9E stock achieve minimal gains while revenues have doubled and earnings have outgrown the Y/
Q2 (Jun) $8.4A $13.0A $18.0E Y dilution from the capital raise that has positioned the company for 50% 2011 EPS growth. We
Q3 (Sep) $8.5A $14.2A $17.2E believe there are several meaningful catalysts in the near term that should lead to LIWA being a
Q4 (Dec) $9.9A $17.7E $27.8E top performing stock during calendar 2011 and our top pick in the US listed China universe.
FY $32.0A $55.4E $79.9E
EV/EBITDAS 7.1x 4.1x 2.9x
Company Description:
Lihua International, Inc., designs, manufactures and sells low cost / high quality alternatives to pure
copper products, including refined copper products like superfine and magnet wire, rod and anode, as
well bimetallic copper clad aluminum wire in the PRC.
SEE ANALYST CERTIFICATION AND OTHER IMPORTANT DISCLOSURES AT THE END OF THIS REPORT
Lihua International, Inc. (LIWA) Company Update January 31, 2011
Conservative, fully funded capex plans double production in 2010 and will do so again in 2011
Lihua’s recently acquired land is adjacent to the existing facilities; this plot is nearly double the size (180Mu) of the existing plot of land (100Mu).
While we were on site we discussed with management the potential blueprint for the expanded construction and facility layout. The company
anticipates the new plant to be operational and contributing to revenues in the second half of FY 2011. Judging by the size of the new plot of
land, we believe the company will be able to install more than two smelters there (our estimates are that it could easily fit six smelters if that were
the primary expansion vertical going forward). As a result, we believe that the company’s current guidance, which has it doubling smelting
capacity to 100,000 tons Y/Y appears conservative and likely to be ratcheted up over the balance of the first half of 2011. Lihua will also be
creating an R&D center in the new facility to investigate potential expansion into other, related products.
Commodity risk – the ability to pass through raw material costs shields LIWA from commodity fluctuations
It is important to note that LIWA sells its products on a tolling (or cost plus) basis. As a result, the company has been protected from volatile
movements in commodity copper prices. This also results in rapid inventory turns and thus very little working capital requirements for inventory.
The company only purchases copper (or CCA rods) after receiving an order from the client. Additionally, LIWA charges mark up on a dollar basis,
rather than a percentage mark-up, for processing across all of its products; this accounts for the stable historic growth in gross profit dollars in
both a rising and falling copper price environment. This structure is the rationale behind management's typical guidance format in which it
provides gross profit guidance, based on anticipated tonnage processing, rather than revenue guidance; this allows investors to benefit from
higher levels of profit visibility and EPS growth.
Following Lihua’s entry into the refined copper industry and its expansion of product lines into more commodity-like products (copper rod and
copper anode), Lihua’s margins have actually decreased. We believe that management has done a more than adequate job with disclosure in
presenting its revenue and margin opportunities on a product by product basis. When you rebuild the revenue and gross profit margins on a
product basis one can see that margins for copper rod have remained in the 8%-10.5% range; refined copper wire in the 14%-28% range
(significant fluctuation comes from varying wire thickness requested by customers); CCA wire in the 28%-40% range (again, depending on the
thickness of the wire per each order); and copper anode with an ~8% margin in Q3, which is expected to increase to the low teens beginning in
Q4 2010 as the company ramps utilization to full capacity (please see the table below for more details). Management has made a commitment to
expanding its capacity in these lower margin businesses because of the demand stability provided by the large addressable market and the cash
flow opportunity arising from materially shorter inventory turn. Lihua's recycled copper products can be substituted for virgin copper across the
majority of copper usage and the ~20%-30% discount that recycled copper is sold for relative to virgin copper positions it as a value proposition
to manufacturers, which has supported demand in periods of both declining and rising copper prices.
Comfort in cash flows - strong cash flow generation as a result of quick turnover and favorable payment terms
As a result of rapid sell through and relatively low working capital requirements, Lihua has been able to generate positive operating cash flows
every year since 2006. LIWA generated $5.6MM in operating cash flow in 2006, $3MM in 2007, $15.8MM in 2008, $8.4MM in 2009 and
$27.3MM in the first nine months of 2010. For its commodity products (copper anode and rod), the company can process and complete each
order in approximately seven to ten days after receiving the order, while copper and CCA wire contract turnaround can range from 15 to 45 days
to complete. Additionally, the majority of customers pay in full upon delivery of copper rod and anode products, while Lihua sometimes extends
credit terms of 15 to 30 days for its CCA and copper wire products. As a result, the company’s DSO’s have averaged approximately 30 days
(actually declining since 2009 following the introduction of commodity copper products), while its cash conversion cycle has ranged from 30 to 40
days. There was a slight increase in accounts receivable in Q3 2010, attributable to the new anode product introduced in that quarter and slight
delay in payments as a result of additional quality testing performed by customers of anodes. We expect to see accounts receivable and DSO
return to historic levels in Q4 and should continue to trend down going forward as a larger percentage of revenues will come from copper anode
products.
LIWA’s Turnover and Margin by Segment
CCA Wire Copper Wire Copper Rod Copper Anode
Gross Margin High Medium Low Low
Turnover 30 - 45 days 15 - 30 days 7 - 10 days 7 - 10 days
Payment terms 15 - 30 days credit 15 - 30 days credit On delivery On delivery
ROIC Slower Slower Fast Fast
Market Size Small but growing Very large Very large Very large
Commodity Risk No No No No
Source: Company data, GHS Research
No dilutive equity offerings - solid balance sheet and cash generation mitigates dilution risk
As of the end of Q3 FY2010, Lihua had $93MM in cash and only $2.2MM of short-term debt, which translates to ~$3.00 per share in net cash.
The company’s announced capex plans are expected to cost ~$40MM, which leaves more than $50MM for working capital requirements and
other potential expansion projects. In addition, at current capacity the company generates approximately $9MM in operating cash flow per
quarter. As a result, we do not expect the company to require additional financing in any foreseeable future. Given the skeptical environment that
we are currently operating in and accusations we have heard that call the validity of the cash balances into question; we have independently
verified LIWA’s cash on hand with its commercial banks, including ICBC Bank, Agriculture Bank, Construction Bank and others (please see
LIWA’s bank statements below as Exhibit 1). Finally, Lihua has a very clean balance sheet, with minimal accounts receivables and inventories
and no “paper assets” (in the form of uncompleted contracts or unbilled revenues), which tend to reduce operating transparency and could
present an opportunity for a company to manipulate or misrepresent its operating results.
No insider selling
Since the company’s IPO in September 2009, Mr. Zhu has not sold any of his shares, even though his lock-up period has already expired. Mr.
Zhu currently owns 13.75MM shares, or 55.3% of the company, down marginally from 13.86MM shares as of December 2008, when the
company filed its S-1. These 112.5K shares were transferred to Roy Yu (the company’s CFO) as part of his contractual arrangement in which Mr.
Yu’s equity compensation is derived from the Chairman's holdings rather than newly issued shares. Mr. Zhu owns all of his shares through
Magnify Wealth, of which he is a sole shareholder.
SOX404 internal control audit – In Q3 FY2009, LIWA appointed Deloitte & Touche as a SOX404 consultant in order to improve its internal
controls and corporate governance. The audit is currently in the final testing phase and the company believes that it should be completed
relatively soon.
Expect the company to upgrade to a Big 4 auditor in 2011 – We have spoken positively regarding LIWA's decision to upgrade its auditor to
Crowe Horwath in 2010; given the increasing skeptical investment environment we would like to see the company upgrade to a Tier 1 auditor (big
4). We believe that our encouragement and management's frustration with its current valuation will very likely result in the company upgrading to
a Big 4 auditor soon after filing their 2010 10-K, with the intention of having the auditor engaged and able to sign off on Q1 or Q2 results.
In addition to that customer, we spoke to six other customers of LIWA, on both copper and CCA sides. All of them stated that they have done
their own batch testing of the products to ensure copper purity is as good as advertised. All of the customers we spoke to were happy with the
quality of Lihua’s products, as well as their services and timely delivery. The fact that LIWA is a public company was very important for most of
the customers we talked to, as it provides additional credibility to the company and ensures that they will have enough capital on hand to meet
their demands in a timely manner. We estimate that these customer surveys reached approximately 35%-45% of revenue and more importantly
touches upon one of the largest potential avenues for growth in the anode space.
CMHJ (CMHJ is one of the top 50 Venture Capital Funds in China; it was founded in 1999 in HK by China Merchant Group) talks about LIWA
being one of its investments and gives a brief background and overview of the company. As of April 2010, they held approximately 7.6% of all
outstanding shares of LIWA.
http://www.cmtech.net/?key=news&chk=0&id=42
http://www.cmhjpartners.com/capital2.html
This press release is from the Zhenjiang government, stating that LIWA is one of the top twelve important companies in Zhenjiang City. The local
government plans to support these companies to help them achieve sales target of RMB10 billion, which, according to the government’s
estimates, should happen within the next few years in Lihua’s case. The press release also mentions Lihua’s efforts in building an R&D team and
recruiting talent.
http://hrss.zhenjiang.gov.cn/xxgk/dcyj/201003/t20100326_295003.htm
Danyang local government provided an update on the top 100 industrial companies in the city. The press release mentioned that Lihua is one of
the top companies in the region and was one of the six companies responsible for Danyang municipal’s growth.
http://www.jiangsu.gov.cn/shouye/rdgz/jjrd/201007/t20100730_479973.html
Shang’hang local government (Shang’hang is located in Fujian, a large copper production area) posted a press release about the copper anode
orders. The press release stated that Lihua signed a new order with a large copper company to deliver 1,000-2,000MT of copper anode monthly.
According to the press release, by year-end 2010, Lihua sold 11,000MT of copper anode, while the 2011 contract totaled 122K-134K MT copper
anode.
http://shanghang.gov.cn/dzsw/tcy/tcyfxyc/201012/t20101215_75712.htm
Our $17 price target is predicated on 8.8x FY2011 P/E and 5.2x EV/EBITDA multiples. In our opinion a target price of $17 is justified by Lihua’s
impressive margins and profitability, strong operating cash flows, positive demand trends for copper consumption and pricing and the robust
capital expenditure plans that are expected to double existing capacity by the end of 2011 Lihua also has a solid balance s heet with a net cash
level of over $90MM, a current ratio of 4.4x, a cash conversion cycle of only 30 days and has generated ttm ROE and ROA of 32.6% and 25.7%
Name Ticker Rating Price Market Value EV Net Debt/Total Cap P/E P/E P/E PEG EV/EBITDA EV/EBITDA EV/EBITDA
2009 2010 2011 '08 - '11 2009 2010 2011
SmartHeat Inc. HEAT Not Rated $4.91 $185.7 $176.5 -4.8% 7.6 7.3 6.5 0.5 8.4 5.9 4.6
Suntech Pow er Holdings Co. Ltd. STP Not Rated $8.30 $1,487.7 $2,268.9 24.3% 25.0 20.1 7.1 0.5 11.3 7.3 5.1
Yingli Green Energy Holding Co. Ltd. YGE Not Rated $11.27 $1,753.9 $2,331.7 19.5% NA 8.7 7.7 0.6 14.9 5.3 4.7
Trina Solar Ltd. TSL Not Rated $25.73 $2,031.3 $1,923.9 -4.0% 18.0 7.6 7.2 0.5 12.2 4.6 4.4
Duoyuan Global Water Inc. DGW Not Rated $10.81 $266.0 $113.5 -57.3% 6.4 7.2 6.5 1.0 2.6 2.2 1.9
JA Solar Holdings Co., Ltd. JASO Not Rated $6.81 $1,107.8 $1,198.8 6.0% NA 4.8 5.2 0.4 29.0 3.5 3.3
Highpow er International, Inc. HPJ Not Rated $3.48 $47.3 $63.6 23.7% 9.4 7.9 5.7 0.3 8.4 7.8 5.4
China Fire & Security Group, Inc. CFSG Not Rated $6.06 $167.2 $137.6 -17.7% 6.9 7.2 4.1 NA 4.8 4.8 4.1
Harbin Electric, Inc. HRBN Buy $18.83 $588.5 $589.8 0.2% 12.3 7.1 6.5 0.3 9.8 5.1 4.7
A-Pow er Energy Generation Systems, APWR
Ltd. Not Rated $5.95 $275.9 $172.6 -30.3% 10.4 5.6 9.5 1.2 5.6 7.2 3.0
Solarfun Pow er Holdings Co. Ltd. SOLF Not Rated $8.54 $715.7 $853.9 13.2% NA 4.6 4.9 NA 23.4 4.2 3.2
China XD Plastics Company Ltd. CXDC Not Rated $6.59 $313.9 $319.3 1.6% 14.6 7.7 6.5 NA 13.9 7.1 5.1
Jinpan International Ltd. JST Not Rated $10.10 $165.9 $159.0 -3.9% 5.8 5.4 4.8 0.4 4.6 8.7 5.7
China BAK Battery, Inc. CBAK Not Rated $2.01 $127.9 $281.0 50.1% NA NA NA NA NA 395.7 12.3
Fushi Copperw eld, Inc. FSIN Buy $9.72 $367.4 $271.2 -24.7% 10.6 7.6 6.6 0.8 4.8 3.8 3.1
China Valves Technology, Inc. CVVT Buy $7.32 $253.6 $247.4 -2.4% 9.6 5.4 4.7 NA 8.6 3.9 3.2
China Wind Systems, Inc. CWS Not Rated $3.92 $72.7 $72.3 -0.6% 12.3 7.8 NA 0.4 5.8 3.7 NA
China Sunergy Co. Ltd. CSUN Not Rated $4.37 $194.7 $196.0 0.4% NA 3.7 6.0 NA NA 2.4 3.2
China Ritar Pow er Corp. CRTP Buy $2.53 $55.3 $49.2 -10.1% 6.7 5.7 5.6 0.3 4.1 4.0 3.2
China Average $535.7 $601.4 -0.9% 11.1 7.3 6.2 0.6 10.1 5.1 4.5
Coleman Cable, Inc. CCIX Not Rated $6.30 $109.3 $372.5 69.1% NA 9.6 7.2 NA 7.9 5.7 5.2
Encore Wire Corp. WIRE Not Rated $22.40 $519.9 $429.5 -17.4% 75.9 32.2 19.5 NA 17.4 11.4 7.2
General Cable Corp. BGC Not Rated $36.84 $1,919.8 $2,529.5 20.9% 13.0 18.3 13.6 NA 6.9 7.9 6.4
Metalico Inc. MEA Not Rated $5.37 $249.4 $371.3 32.4% 1074.0 15.1 10.3 NA 12.8 7.6 6.0
US and International AVERAGE $699.6 $925.7 26.3% 13.0 14.3 12.7 0.6 11.3 8.2 6.2
Combined AVERAGE $617.7 $763.5 12.7% 12.0 10.8 9.4 0.6 10.7 6.6 5.3
Lihua International, Inc. LIWA Buy $10.66 $319.5 $228.7 -28.2% 8.0 7.8 5.5 0.4 7.1 4.1 2.9
Multiples w ith Price Target $17.00 509.5 418.7 12.7 12.5 8.8 0.6 13.1 7.6 5.2
Income Statement
Non-GAAP Adjustments - - - 0.1 0.2 8.0 3.5 11.9 (1.5) (0.5) 0.1 - (1.9) - - - - -
Net Income - non-GAAP 4.5 7.7 10.7 4.1 6.9 6.7 7.7 25.6 7.4 9.4 10.0 12.8 39.5 12.2 13.1 12.4 20.4 58.0
% of Revenue 28.6% 23.6% 21.4% 20.0% 14.2% 16.4% 15.1% 15.9% 11.7% 12.4% 10.4% 10.9% 11.2% 11.6% 11.2% 11.3% 10.1% 10.9%
% growth year-to-year 71.7% 38.5% 74.1% 97.7% 74.5% 669.9% 139.4% 79.9% 35.1% 49.0% 65.2% 54.1% 65.2% 39.6% 24.3% 59.5% 686.5%
EPS - fd - non-GAAP 0.32 0.55 0.70 0.19 0.32 0.39 0.30 1.34 0.28 0.32 0.33 0.43 1.36 0.41 0.44 0.41 0.68 1.94
% growth year-to-year 71.7% 26.8% 11.9% 27.1% 43.3% 364.2% 91.8% 49.2% 0.5% -15.0% 40.1% 1.4% 45.0% 36.6% 24.3% 59.5% 42.5%
adjusted EBITDA 4.9 9.4 15.0 5.2 8.4 8.5 9.9 32.0 10.6 13.0 14.2 17.7 55.4 16.9 18.1 17.2 27.8 79.9
% of Revenue 30.9% 28.8% 30.0% 25.4% 17.2% 20.7% 19.3% 19.8% 16.7% 17.2% 14.8% 15.2% 15.8% 16.1% 15.5% 15.7% 13.8% 15.0%
% growth year-to-year 93.4% 59.5% 78.0% 94.2% 78.3% 230.9% 113.3% 102.7% 54.4% 67.6% 78.4% 73.2% 59.8% 39.3% 20.9% 57.2% 44.2%
Depreciation & Amortization & Others 0.3 0.5 0.8 0.3 0.3 0.4 0.7 1.7 0.5 0.5 0.7 0.7 2.4 0.7 0.7 0.7 0.7 2.8
% of Revenue 2.1% 1.6% 1.6% 1.3% 0.7% 0.9% 1.3% 1.0% 0.8% 0.7% 0.7% 0.6% 0.7% 0.7% 0.6% 0.6% 0.3% 0.5%
% growth year-to-year 56.2% 56.5% 65.8% 81.5% 65.4% 179.7% 103.5% 88.8% 50.3% 95.4% 5.7% 48.1% 41.8% 35.8% -2.7% -2.7% 14.4%
Exhibit 3. Lihua’s 2009 SAIC Filings provided by Jiangsu Provincial SAIC Bureau
FY2009.
FY2009.
Explanation of Ratings
Buy - The stock should be purchased aggressively at current prices. The stock is expected to trade higher on an absolute basis and be a top performer relative to
peer stocks over the next 12 months.
Accumulate - The stock should be purchased at current prices. The stock has an attractive risk/reward and is expected to outperform peer stocks over the next
12 months.
Neutral - The stock has average risk/reward and is expected to perform in line with peer stocks over the next 12 months.
Reduce - The stock should be sold at current prices. The risk/reward has become less attractive and is expected to underperform peer stocks over the next 12 months.
Sell - The stock should be sold aggressively at current prices. The stock is expected to trade lower on an absolute basis and be a top underperformer relative to
peer stocks over the next 12 months.
Ratings Distribution
Research Coverage Investment Banking Clients*
Rating Count % of Total Count % of Total % of Rating Category
Buy 71 59.2% 10 55.6% 14.1%
Accumulate 21 17.5% 1 5.6% 4.8%
Neutral 28 23.3% 7 38.9% 25.0%
Reduce 0 0.0% 0 0.0% 0.0%
Sell 0 0% 0 0.0% 0.0%
Total 120 100% 18 100% 15.0%
*Investment banking clients are companies from whom GHS or an affiliate received compensation from investment banking
services provided in the last 12 months.
Note: Ratings Distribution as of December 31, 2010
This material has been prepared by Global Hunter Securities, LLC ("Global Hunter") a registered broker-dealer, employing appropriate expertise, and in the belief that it
is fair and not misleading. Information, opinions or recommendations contained in the reports and updates are submitted solely for advisory and information purposes.
The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore except for
any obligations under law, we do not guarantee its accuracy. Additional and supporting information is available upon request. This is not an offer or solicitation of an
offer to buy or sell any security or investment. Any opinion or estimates constitute our best judgment as of this date, and is subject to change without notice. Global
Hunter and our affiliates and their respective directors, officers and employees may buy or sell securities mentioned herein as agent or principal for their own account.
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