Note: This article covers a micro-cap stock. Please be aware of the risks associated with these stocks.
Tri-Tech Holding (TRIT) is currently trading as a nano-tech stock with a market capitalization of approximately 12 million dollars and a share price of $1.44. Its primary place of operations is in the People's Republic of China, and has reported an operating loss for the past several quarters. This is an extremely volatile stock that is very thinly traded, averaging around 35,000 shares per day. Extreme caution and due diligence should be undertaken before deciding to invest.
Tri-Tech Holding provides consulting, engineering, procurement, construction and technical services. Its primary place of operations is in China, but also has subsidiaries in India and the United States. The company operates in three segments: (I) Water, Wastewater Treatment and Municipal Infrastructure, (II) Water Resource Management Systems and Engineering Services, and (III) Industrial Pollution Control and Safety.
IPO and Secondary Offering
Tri-Tech began trading on the NASDAQ on September 10, 2009 after offering 1.7 million shares for $6.75 per share. After the IPO (it was NOT a reverse merger), the company had 5,525,500 shares outstanding, giving it a market capitalization of approximately $37 million. After "China-Mania" took over the US markets following the Great Recession, the stock price rocketed from $6.75 to $25 a share in December 2009. Following the sharp rise in stock price, the company announced a secondary public offering in April 2010 at a price of $14 per share, raising approximately $27.5 million.
Ordos Water Treatment Plant
After the successful IPO and secondary offering, Tri-Tech used its newfound financial strength to win a joint bid for a major drinking water treatment plant with a daily capacity of 96,000 cubic meters for the city of Ordos in the Inner Mongolia Autonomous Region. The contract was setup as a Build Transfer (BT) project and Tri-Tech's value of the contract was $32 million. BT contracts place significant capital constraints on the contractor since the contractor fully funds the project until completion, with varying payment terms after transfer to the owner. In June 2011, the joint venture was awarded a $20 million expansion phase to the treatment plant, expanding the combined output of the treatment plant to 200,000 cubic meters. This project was transformational for the company as it significantly increased revenue and growth opportunities, but also ended up contributing to many of the difficulties that I will present later.
Ambitious Growth Plans
As the company saw significant revenue and profit growth from the Ordos BT project, it also embarked upon an ambitious growth plan that saw it start construction on a R&D facility (Baoding), acquire J&Y International, which is a water treatment company located in Wisconsin, United States, and won a $42 million EPC contract for three sewerage treatment plants and collection systems in India. In addition to multiple other projects of smaller value, the company also won contracts for a $7.9 million BT wastewater pipeline and treatment plant in Hebei Province of China, and for projects in Canada, Mexico, and the Middle East.
Cash Flow Pressures
As the Ordos project neared completion and revenues started declining, the company was hit with a triple whammy of difficulties: slowing project awards as cash flow pressures prevented the company from bidding on new large BT projects, rising expenses, and slowdown in general macroeconomic conditions in China as local municipalities are cash strapped. These difficulties, along with project delays, led the company to report an operating loss of $0.28 per share for FY 2012, loss of $0.13 per share for Q1 2013, and loss of $0.07 per share for Q2 2013. To try and ease cash flow pressures, the company was able to secure a $9.3 million line of credit from China CITIC bank in August 2011, issue $7.89 million in corporate bonds in October 2012, and entered into a $3.5 million revolving credit facility with BMO Harris Bank in Chicago, Illinois.
The rising expenses were primarily seen in General & Administration, which amounted to 16.2% of revenue in Q2 2013, although Selling & Marketing expenses piled up too, accounting for 5.22% of Q2 2013 revenue. Gross margin remained relatively stable at 22.3%, indicating that the company has just plain been mismanaged administratively. The company has tried to address these issues by making changes to senior management. Until the company can prove that these changes will make a difference to the top and bottom line at Tri-Tech, will there be any value left for company shareholders?
Since many of the company's largest projects are Build-Transfer and have very slow payment terms, the Q2 2013 Earnings Release shows that the Account Receivables and Unbilled Revenue have ballooned to $31,841,682 and $23,978,677 respectively. The company has repeatedly stated that they expect to be able to collect on Account Receivables. From the Q2 2013 press release:
"We may focus on improving our collection of accounts receivable. Most of our clients are central, provincial and local governments. We believe that our clients are in good financial conditions. Therefore, we expect good collectability from relatively high quality accounts receivables. The accounts receivable collection should catch up with our rapid growth in the near future. Given the high contractual interest rate on unpaid amounts for long-term projects, we expect that some clients may choose to pay before such interest starts to accrue."
If Tri-Tech is able to collect on Account Receivables and eventually on unbilled revenue without adding to doubtful accounts, Tri-Tech is seriously undervalued. As of June 30, 2013, the company had almost $22 million of working capital, with current assets totaling $106,325,297 and current liabilities totaling $84,369,884. The company also reported that it plans to sell its Baoding R&D facility for approximately $18 million by the end of the year, and use the cash to repay the corporate bonds and support operating cash flow. This is all for a company with a current market capitalization of only $12 million. It should also be noted that the company's auditor is Marcum Bernstein & Pinchuk, which may help alleviate some concerns about accounting/fraud issues that have occurred with many US listed Chinese stocks.
As of June 30, 2013, Tri-Tech reported a total backlog of $55.2 million and a total project pipeline of $69.1 million. If the company is able to convert backlog into revenue at a slightly faster pace than the $16.3 million in the last quarter and to make good on its commitment to reduce operating expenses, the company should be able to at least break even in Q3 2013. If successful in winning project bids to convert the pipeline into backlog as cash flow pressures start to ease, Tri-Tech should be able to maintain backlog, which decreased $5.0 million from Dec. 31, 2012 to Jun. 30, 2013. Management also stated that they plan to be very selective in the projects they bid on, particularly focusing on quicker payment terms. This should stabilize the business and provide investors much better clarity in Tri-Tech's recovery back to profitability. My estimation of fair value for the company is a bare minimum of $22 million or approximately $2.67 per share.
If the company is able to convince investors that management has a better grasp of its business model and ability to control expenses, manage cash flow, and win and execute new contracts, the shares should at least be able to reach its initial IPO price of $6.75 within the next year. This would require diluted earnings per share of $0.675 (profit of $5.57 million with 8.25 million shares outstanding) and assuming a conservative forward P/E ratio of 10. I feel that this is an attainable goal as the company would only need to achieve a 10% net profit margin on its existing backlog to meet this number. Given the dire need for clean water and industrial pollution controls in two of the company's main markets, China and India, I am willing to give Tri-Tech management a mea culpa and hope that this marks a bottom in the stock.