On June 16, Bill Simpson wrote an analysis of Duoyuan Global Water (DGW). In its market debut Wednesday, June 24, Duoyuan priced its ADRs for $16 and sold 5.5 million of them, raising $88 million. In a recent regulatory filing, Duoyuan had estimated it would price 5 million ADRs for between $13 and $15.
The text of Mr. Simpson's original writeup follows:
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Duoyuan Global Water plans on offering 5 million ADS at a range of $13-$15. The offering will be 5.75 million ADS if the over-allotment is exercised. Piper Jaffray is leading the deal, Oppenhemier and Janney Montgomery co-managing. Post-ipo, DGW will have 21.3 million ADS equivalent shares outstanding for a market cap of $298.2 million on a pricing of $14. IPO proceeds will be used to build and upgrade manufacturing facilities and production lines as well as R&D.
Director, Chairman and CEO Wenhua Guo will own 58% of DGW post-ipo.
From the prospectus:
'We are a leading China-based domestic water treatment equipment supplier. Our product offerings focus on addressing the key steps in the water treatment process, such as filtration, water softening, water-sediment separation, aeration, disinfection and reverse osmosis.'
DGW deals in water treatment products in China. Customers include wastewater treatment plants, water works facilities, manufacturing plants, commercial businesses, residential communities and individual customers. DGW offers 80 products in three categories. 35 of these products were introduced in 2008.
Circulating Water Treatment Equipment - Electronic water conditioners, fully automatic filters, circulating water central processors, cyclone filters and water softeners, used in the process of treating water and removing buildup in circulating water systems. DGW derived 41% of their 2008 revenues from this segment.
Water Purification Equipment - Products for residential and commercial end-users utilizing ultraviolet, ozone, membrane-based and electrodeionization, or EDI, technologies. 21% of 2008 revenues were derived from this segment.
Wastewater Treatment Equipment - Products to treat municipal sewage and industrial and agricultural wastewater. DGW derived 38% of their 2008 revenues from this segment.
As with most companies in China selling a product, DGW utilizes distributors and not a direct sales staff. DGW's distribution network consists of over 80 distributors in 28 Chinese provinces.
Sector - As China becomes more industrial and urban, clean non-polluted water has become a precious commodity. China's government has promoted and invested in water treatment projects, turning the sector into a growth industry in the country. The demand for water treatment products in China is estimated to increase nearly 15.5% annually through 2012. Growth drivers are rapid population growth, industrialization and urbanization, and more recently, the economic stimulus plan being implemented by the Chinese government.
Seasonality - DGW derives lower revenues in the winter months due to slowdown in construction as well as the Chinese New Year. The 3rd quarter of the year tends to be the strongest, with the first quarter the weakest.
$4 per share in cash post-ipo. Note that DGW plans on spending a significant chunk of this cash on capacity expansion, including building new manufacturing facilities and production lines. In addition DGW plans on spending $10 million on a new R&D facility.
DGW has been profitable since at least 2005.
Taxes - DGW will be taxed at a 25% rate beginning 2009.
Gross margins were 45% in 2008, a strong improvement over 2007's 37%. The increase was due to the sharp drop in commodity prices in the back half of 2008. DGW expects favorable pricing on their commodity purchases in 2009 due to long term supply agreements. Expect 2009 gross margins to remain in the 45% ballpark.
2008 - Revenues grew 40% in '08 to $86.8 million. As noted above, gross margins were 45%. Operating expense ratio was 15%, putting operating margins at 30%. Plugging in the 25% post-ipo tax rate, net margins were 22.5%. Earnings per share were $0.91. On a pricing of $14, DGW would trade 15 X's 2008 earnings.
First quarter is DGW's slowest annually. However DGW grew revenues by approximately 38% year over year in the 3/09 quarter, keeping pace with 2008 growth rates. With continued strong gross margins due to supply agreements in place through '09, DGW is off to a solid start for 2009. DGW has also done a nice job keeping expenses in line the past two years, allowing for economies of scale. They appear to be selling more with roughly the same expense outlays.
Revenues for 2009 should be in the $110 million range, a 26% increase over 2008. I was conservative here in estimating as DGW had a huge 3rd quarter of 2008 that may be difficult to duplicate. If the third quarter improves year over year on the '08 Q, the $110 million estimates will be a little low.
Gross margins should be 45%. Operating expense ratio should dip to 13%, putting operating margins at 32%. Plugging in a 25% tax rate, net margins should improve to 24%. Earnings per share should be $1.25. On a pricing of $14, DGW would trade 11 X's 2009 earnings. Note too that these are 25% taxed earnings and not the usual China ipo low-to-no taxed earnings per share.
Conclusion - Nothing real proprietary here it appears, although DGW does devote substantial resources to R&D to stay current with worldwide water treatment technologies. I have seen this compared to Energy Recovery (ERII), but not quite. ERII is a water tech company that is involved in large water projects worldwide. DGW is a pure play on Chinese population, infrastructure and urbanization growth which brings about a greater demand for clean water. Growth here has been very strong and the multiple does not look extreme at all. Good growth, low multiple, wind at back due to China internals, plus factor in the huge recent China stimulus package. DGW should not be a high multiple stock due to it 'nuts and bolts' type business. However the multiple here with the strong growth makes for an easy recommend in range. Good growth and low multiple = strong recommend in range.