CHINA ENVIRONMENT shares shot up by 4.5 cents, or 22.5%, to close at 24.5 cents yesterday. Volume traded was a massive 29.9 million shares. The Singapore-listed company, as several fund managers and I learnt on a recent visit, is benefiting from a massive cleanup campaign underway in China.
Chairman and CEO Huang Min has given a vote of confidence to the future prospects of China Environment by way of his recent share-buying activities through a vehicle, Prosper Big International. Over the past three months, Prosper has been buying the stock on the way down.
THE MASSIVE cleanup campaign underway in the world's most populous country is giving China Environment Ltd (SGX: CENV) plenty of reason to smile.
Already, some 1.4 trln yuan has been earmarked for investment in China's environmental protection program during the 11th Five Year Plan ending December 2010, up 60% from the original plan.
And the manufacturer and installer of waste gas treatment systems is getting a larger share of the 30 bln yuan market for such products in China, with the Singapore-listed firm's first quarter revenue rising 22.3% year-on-year to 130.4 mln yuan.
However, due to recent volatility in steel prices – which constitute over 70% of the firm's total costs – corresponding net profit was 22.1 mln yuan versus 24.6 mln a year earlier.
To this end, management is committed to adjusting its steel procurement regime, which is currently a mix of both spot and contract orders.
However, with gross margins in the most recent quarter still very high by industry standards at over 30%, China Environment is very sanguine on its performance going forward.
"Our order book is pretty much full until September of this year," said Mr. Wu Jida, CEO of wholly-owned subsidiary Fujian Dongyuan Environmental Protection Co Ltd.
He recently met with a group of several Greater China fund managers on a trip to Fujian-based listed companies organized by Aries Consulting and Financial PR.
It was clear to our group that the company's fortunes were closely tied to steel prices, as the equipment that wrapped around the nearby cement plants along our tour were seemingly made of little else but steel.
“Our net profit fell in the first quarter due to a higher gross profit margin of 35.0% in the first quarter of 2009 against 30.1% for the most recent quarter as steel prices were then lower, resulting in lower steel purchase prices than those quoted in the second quarter of 2008 tender projects,” the company said.
Therefore, Mr. Wu said it was critical for the company to fine tune its steel purchasing strategy to keep margins as healthy as possible.
And upper management was very upbeat on margin health going forward.
Cleaning up with the Cleanup
Prior to January 2004, the maximum allowable per company in the PRC was 200-300 mg/cubic meter of particulates in factory emissions, which was then lowered to 50 at the time.
It is anticipated that in the near future, the PRC government emissions standard maximum will be further reduced to 30 mg/cubic meter, which the company says will force potentially thousands of companies to come knocking on its doors (and the gates of its competitors) for the best products at the best price.
The stricter emissions regulations which might probably be laid down this year by the PRC government will mean that a majority of emitters in the country will soon be noncompliant, and they can either hope for friendly inspectors to grace their premises, or invest in better emissions control systems in the short term.
China Environment is more than happy to help them if they decide on the latter strategy, and help them meet the tougher requirements.
“Indeed, coal-fired power plants and cement plants constitute our two biggest customers,” Mr. Wu said.
And this made perfect sense given that the two industries were two of the country’s most egregious air polluters.
Of the nearly 500 mln yuan in orders the company realized last year, 72% came from power plants and another 16% from cement factories.
Chemical plants, paper mills and mining operations rounded out the list of revenue contributors for last year.
China will build 315 power plants with capacity between 200-600MW this year, and will have over 3,000 such plants by 2015, according to Finansa.
This translates into a potential windfall for China Environment as between 2009 and 2015, the market size for the firm’s electrostatic precipitator products is expected to grow at a CAGR of 19% to 38 bln yuan.
China Environment had no plan to aggressively seek other industry clients as power plants were proving to be very reliable partners.
As proof of this trend, within a short span in April, the company locked in three new contracts amounting to 76.2 mln yuan to design, construct and install waste gas treatment systems for thermal power projects in the northern Chinese provinces of Hebei and Jilin, as well as one in Mongolia.
“Our production is order based, so if there are no pending orders, then there is no production underway. That means we have basically zero inventory costs,” Mr. Wu added.
And the relative quiet at the company’s core development and corporate facilities in the city of Longyan in central Fujian province was understandably quiet that day we toured the plant with the group of fund managers.
“We almost always erect temporary ‘plants’ at installation sites be they power stations or cement companies, then we install the equipment and then take everything down again after the project is completed. That’s another reason why you won’t see much in the way of dormitories here, because our workers are all temporarily housed on-site.
“And our average time from order contract signing to completion is 6-9 months,” he said.
China Environment also counted among many of it clients state-owned enterprises, who were less likely to default on a payment or cancel a project mid-stream do to a potentially bearish earnings season.
“Also, whether public or private, SOEs or otherwise, there are few polluting firms if any that are big and broad enough to have their own in-house capability to install, let alone produce, their own compliant waste gas control systems, so all industries are potential clients of ours.”
Commercial Carousel
China Environment produced several types of emissions control systems including static electricity dust removal, bag-style dust removal, combined static-bag dust removal, ash pneumatic conveyance systems, desulphurization systems and denitration systems.
In addition to dust removal, it is making inroads into desulphurization and removal of nitrogen oxides (De-Nox).
It sees tremendous order potential for its flagship products – the Electrostatic Precipitator (ESP) and its self-developed Electrostatic Lentoid Precipitator (ESLP), the intellectual rights to which it owns.
Of these, all required regular maintenance and replacement, but none more so than the top-selling bag-style systems, which had a lifespan of some 2-3 year before replacement was not only advisable, but state-mandated.
And how did the company’s equipment stack up when it came to using less electricity nationwide and correspondingly, cutting emissions and helping clean up China’s skies?
“Actually, our static electricity dust removal systems themselves don’t use a lot of electricity,” Mr. Wu said.
It has established sales and marketing networks in major cities across the PRC, including Beijing, Nanjing, Nanning, Wuhan and Zhengzhou, and intends to recruit additional personnel to expand the domestic network.
See also recent story on company chairman's big share purchases: INSIDER BUYING