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L & L International Holdings (OTC:LLFH)

Price (5/22/09) = $2.10

Company Description: The Company holds and operates profitable coal mines and wholesale facilities in China.

L & L Intl Holdings is the newest addition to the GeoBargain® List as it meets nine out of the ten GeoBargain® criteria and is taking the necessary steps to propel its growth to the next level.

Requirement
NO Recent 52-week High
YES 30% EPS Growth Rate
YES 10% Revenue Growth
YES Strong Balance Sheet
Positive Cash Flow
Debt to Equity Ratio less than 20%
Current Ratio is at least 2:1
YES Return on Equity is at least 15%
YES Minimum Pre-tax Operating Margins of 8%
YES Preferably Under 50 Million Shares
YES High Insider Ownership (generally greater than 15%)
YES Limited Institutional Ownership
YES P/E Divided by Growth Rate (PEG Ratio) is Less Than 1.

Understanding L & L Intl Holdings

L & L Intl Holdings is not your typical U.S. Listed Chinese firm. The company has United States head quarters with an American influenced management team and has been in operation for 13 years. The Company recruits bilingual professional accountants, engineers, advisors and assigns them to China to improve operations and impart American management philosophy.

L & L Intl Holdings participates in the coal related business. The company's mining and distribution operations are in Yunnan, a coal rich province of China. Prior to coal mining operations the company was engaged in the business of selling air compressors to coal mines to pump air into mines. However, through this venture the company recognized a greater opportunity to directly participate in coal mining operations . Thus, to focus on this opportunity, L&L recently spun off its air compressor operation. The company's current strategy relies on three modes of revenue.

  1. Wholesale Revenue. In 2006, L & L Intl entered into the coal aggregation market as a Wholesaler. The company gathers coal from entities that operate mines which, it then re-sells to its customers. The majority of coal mining operations in china are comprised of small "mom and pop" ventures. The players tend to be inefficient and unsophisticated and not large enough to supply the needs of large end user customers. Customers would prefer to purchase their coal needs from a few reliable source. This need has created a market for well organized firms such as L & L Intl.
  2. Direct Mining Revenue. In 2008 the company made a decision to vertically integrate its operations and actually take ownership in coal mines. Doing so would help them meet the increasing demand for coal in china that far outweighs supply. This also makes strategic sense in that they have an existing loyal customer base who they can sell their coal to. Furthermore, direct ownership should result in higher margins compared to wholesale operations. The company executed this strategy in May 2008 when it acquired a 60% interest in two income producing coal mines located in the Yunnan coal rich region of China. Acquiring an income producing mine is significant as it generally takes 3 to 5 years for a new mining venture to become income producing. The GeoTeam® found it interesting that customers actually pick up the coal from L & L Intl's mine locations, limiting transportation costs.

    Benefits to direct ownership of coal mines:

    • Direct mining business has significantly higher margins than the Wholesale business.
    • Will enable the company to increase its coal capacity, thereby attracting more customers and enabling it to meet the greater demand for coal in China.
    • Could make the company a viable acquisition target.
  3. Coal Washing Revenue. Building on its vertical integration strategy the company just announced its entry into to the coal washing market. What is coal washing and its significance? Coal washing is a process that separates coal into "quality tranches." The coal is crushed and then doused with water. The washed coal is then separated by weight into categories of poor, medium and high quality. The higher quality tranche commands a higher price. When coal is sold unwashed it will thus command a lower price. Entering this market is a logical step as the company can now offer a complete product to its customers at higher prices. Customers also become more satisfied by knowing what they are buying and not having to outsource the washing process.

Reasons L & L Intl Holdings Has Piqued The GeoTeam's® Interest

  1. Poised For Major Revenue Gains. The Company's coal capacity is increasing:
    • The company plans to increase the capacity of its current two mines by 88% to 450k tons annually.
    • L&L owns an 85% interest in a third mine which is expected to receive an official license, becoming operational by the end of 2009, with an estimated 200,000 tons of annual coal capacity.
    • L&L owns a 65% interest in a fourth mine slated for operation in 2011.
    • At full capacity the new coal washing facility can process 300 million tons and can produce annual revenues of $30 million.
    • The company's vertical integration should enable it to gain more customers as a one stop shop source for coal.
  2. Industry Dynamics Are Favorable
    • Coal represented over 70% of China energy source in 2008.
    • China's Stimulus Plan is already giving a boost to its economy.
    • L&L's operations are located in the Yunnan Province whose infrastructure demands require large quantities of steel, coke, and coal.
  3. Margins to Remain Healthy
    • Vertical integration into direct mining activities should increase overall margins.
    • Coal prices should increase which becomes more advantageous as the company strengthens its direct mining endeavors.
    • Vertical integration into coal washing should create greater pricing power.
  4. Competitive Advantage
    • Vertical integration should enable it to retain and attract new business as a one stop shop.
    • The Company's American management philosophy and organization make it more attractive than inefficient fragmented competitors.
  5. Focus on Enhancing Shareholder Value
    • The company is communicative with Wall Street.
    • The company recently reduced its shares outstanding to approximately 20.5 million shares from 22.5 million shares, which may help to drive EPS growth.
  6. Favorable 2009 Guidance

    On April 28, 2009 L&L issued revenue guidance of $95 million. The company reported revenues of $30 million for the nine months ended December 2008. Furthermore, this guidance does not include the revenue contribution from its new coal washing endeavor.

Tying It All Together

L&L's favorable revenue guidance along with industry trends have prompted the GeoTeam® to follow the LLFH story. At a quick glance the the stock is selling at at P/E of just 5 times the fully taxed adjusted 2010 analyst EPS estimate of $0.39 (Analyst estimate is $0.47) Furthermore, this estimate is likely conservative for three reasons:

  1. The estimate is based on revenue of $55.1 million which is below the company's recently stated guidance of $95 million.
  2. The estimate is based on 22.49 million diluted shares outstanding. The company currently has 20.5 million diluted shares outstanding.
  3. The estimate does not include the revenue contribution from its new coal washing endeavor.

It should be safe to assume that analyst EPS estimates will be substantially raised. A quick rudimentary analysis implies 2010 EPS potential of $0.74 fully taxed. The company should be reporting 2009 year end results shortly, which will shed further light on the future, at which time the The GeoTeam® will create detailed potential valuation scenarios.

It's also interesting to note that currently L & L owns 60% of its recently acquired mines. The company has commented, in its SEC filings, that it would like to pursue a 100% ownership. Depending on how such a deal would be structured it could add another element to EPS upside.

Disclosure: Long LLFH.

Source: L & L International Holdings: Capitalizing on Coal Demand in China