At first glance, the recent price action of Midwest Energy Emissions Corp (OTCQB:MEEC) seems unorthodox. The stock has been trading sideways on minimal volume for months, before rapidly picking up in volume and price, appreciating more than 220% year to date.
But after digging a little deeper, I believe this green tech company's compelling product offering, strong exposure to a new market, and recent contract win warrant last week's price action and signal a turning point. Here's why I have a close (and eager) eye on Midwest Energy Emissions Corp (referred to as MEEC).
The Company and Management
MEEC is an environmental services company that focuses on providing power plants solutions to reduce their mercury emissions. The company primarily targets coal and oil-fired electric utility plants with their best-in-class, patented technology that gives the competition more than a run for its money.
The company has global exclusive licensing for more than 23 patents in the U.S., Canada, China, and Europe, which required more than $60 million in government and private funding, and was developed by the Energy and Environmental Research Center (EERC). The EERC was designated by the EPA as the Center for Air Toxic Metal in 1993, and is considered one of the world's leading developers of cleaner, more efficient energy and environmental technologies. The EERC is located at the University of North Dakota.
MEEC's partnership with the EERC has led to the development and commercialization of the patented SEA Technology, which captures more than 90% of the mercury emissions from power plants, and allows the company to quickly install the technology without disrupting the operations of the power plant. This is a cost effective solution for power plants, and offers a recurring revenue model for MEEC.
MEEC's strong patent licensing portfolio protects the company's proprietary technology through 2025. The company has exclusive worldwide rights to the technology.
The management behind MEEC has extensive experience in the power sector. Because of previous tenures, MEEC's management team understands the requirements of the EPA, and the important wants and needs of a power plant owner.
John Norris is the Chairman of MEEC since 2011. Norris has extensive experience in the power generation industry, having held senior executive roles at Fuel Tech Inc, American Electric Power, and Duke Energy. Prior to becoming the President and CEO of MEEC, Alan Kelley held multiple positions at Ameren for ten years, including President, Chairman, and CEO of Ameren Energy Resources, and Senior Vice President of Ameren's fossil and hydro generation division. Kelley has also served as the President and CEO at Grand Bahama Power Company, and President and CEO at Electric Energy. Marc Sylvester is the Vice President of Sales at MEEC, and has been in the air pollution and control industry for more than two decades. Sylvester served as a regional sales manager for Fuel Tech, where he was responsible for developing, selling, and implementing control programs at coal-fired power plants. Prior to Fuel Tech, Sylvester worked at Nalco Chemical Company and Johnson Controls.
The management team at MEEC understands the ins and outs of power plants after working in the industry for decades, and this knowledge and key relationships that have been developed over the years should help MEEC gain a competitive advantage when tackling the mercury emissions market that will commence in 2015.
The Value Proposition
There are more than 1,400 coal and oil-fired electric generating units (EGUs) at more than 600 power plants in the US, and all of these EGUs emit toxic pollutants into the air including mercury, acid gases, and a boatload of other chemicals. These chemicals are harmful air pollutants that have extensive impact on the surrounding environment and its inhabitants. As of 2013, these plants generated 37% of America's electricity.
Regulation to reign in these toxic pollutants went into effect after congress passed the 1990 Clean Air Act Amendments. After more than 20 years of implementing several environmental safe guards, there are still some regulations waiting to go in effect. One of the last safeguards waiting to be implemented is the Mercury and Air Toxics Standards (MATS), which will be implemented in April of 2015. Currently only 17 states have mercury reduction rules.
The MATS rule requires all US coal and oil-fired electric power plants that are generating more than 25MW to reduce their mercury emissions by approximately 90%. The EPA estimates that this rule will apply to 1,400 plants, and generate $9.6 billion in annual costs. This is a large market opportunity, and MEEC is a small company with big technology that is finally ready to take the bull by the horns and be a major player in this new market after years of developing their product solutions.
The market opportunity is even larger when you consider the possible expansion into Europe, China, and Canada. Canada currently requires 70% in reductions.
MEEC offers the SEA product line, or Sorbent Enhancing Additive Technology. A sorbent is a material used to absorb or adsorb liquids or gases. MEEC's unique methodology is centered around one proprietary compound injected into the boiler of the plant on a continuous basis, while another sorbent compound is injected after the boiler has emitted, which captures the mercury before being emitted through the smoke stacks. This environmentally friendly process tends to exceed the mercury capture requirements set by the EPA and is cost efficient when compared to the technology being offered by the competition.
MEEC's technology also allows fly ash (flue-ash from stack) to be marked for re-sale or beneficial use. This is important to power plant owners because fly ash represents recurring revenue for the plant. Fly ash is sold to cement manufactures and represents an industry revenue source that generates $450 million per year. Many mercury capture solutions being implemented by the competition utilize carbon-based sorbents, which render the fly ash unsellable. The ability for plant owners to maintain the fly-ash recurring revenue while still meeting the requirements of the EPA is a big selling point for MEEC.
MEEC offers year round, 24-hour support and service for its clients by maintaining a service facility near customer's plants. MEEC continuously manages and monitors these plants to ensure that their customers are meeting the EPA guidelines. MEEC utilizes a mobile laboratory trailer when conducting a field analysis of the plants its services, rather than collecting samples and sending them off to a lab. MEEC determines the optimal design for the sorbent injection scheme for each individual power plant, and then installs the equipment. This service and implementation is not a disruptive process and not capital intensive for the power plant.
The most common technology being used for mercury reduction is Powdered Activated Carbon (PAC) or Brominated Activated Carbon (BAC). These carbon based solutions are able to reduce mercury emission levels of 70% or less with minimal materials required, but reduction levels above 80% require a substantial increase in injection rates which render the fly ash unsellable, cost a significant amount of money, and can cause costly disruptions to the plant operations. Costs for power plants can range from $5 million to $20 million per year at mercury reduction levels required by the EPA. The images below clearly illustrate the advantages of MEEC's patented technology, when compared to the competing technology.
Recent Contract Win and a Conservative Valuation
MEEC's recent contract win announced last week, which helped propel volume and the share price, acts as a confirmation to the value proposition and product offering being provided by MEEC. The company received firm commitments from a major U.S. power producer for multi-year, mercury pollution control. The commitments are for a fleet of 9 generating units. MEEC believes that revenues from this single relationship will grow to approximately $30 million per year by 2016, with initial revenues beginning in 2014. MEEC is beginning to capitalize off of the emerging mercury pollution control market, and their proprietary technology should propel them to being a market leader during the early stages of this market.
Shareholders of MEEC have a lot to gain in the coming years if management continues to execute its business plan. The company has approximately 35.2 million shares outstanding, and has a current market valuation of $71 million. Let's assume, because of the company's small amount of cash, MEEC solely relies on issuing equity to finance future growth and fund the company's recent contract win, despite intentions to rely on a mix of debt and equity.
A recent 8-K detailed management receiving options to stock at a strike price of $1.20. If we assume that MEEC needs $9 million in funding each year, for the next three years, and manages to raise equity at a strike price of $1.20, then MEEC would have approximately 58 million shares outstanding, which is utilized in the below valuation.
Solely based off of the industry average P/S ratio of 2.6, MEEC's recent contract win should value the company at approximately $1.34, representing a downside of 34% from Wednesday's close. If we consider the share price drifitng down to the hypothetical $1.20 equity raise, shares have a downside risk of 41%.
But if we take a step back and look at the overall market opportunity, MEEC's shares provide plenty of upside potential. For this valuation, let's assume MEEC requires an additional $50 million in financing to grow into a true market leader, and therefore, has approximately 100 million shares outstanding. MEEC expects to generate annual revenues of $2 to $4 million per power plant. If MEEC can win over just 2.5% of the estimated 1,400 coal-fired power plants, shares of MEEC would be valued at $2.73 assuming the industry average P/S ratio and average annual revenue generation of $3 million per power plant, representing a 33% increase in share price.
Because MEEC's technology is compelling, and should be an easy sell to power plant owners, let's assume the company wins over at least 10% of the coal EGUs. At a P/S ratio of 1, shares would be valued at $4.20, and north of $10 at the industry average P/S ratio, representing a price increase of 143% and more than 380%, respectively.
With the mercury pollution control market set to become robust and expansive come 2015 when the EPA's regulations go into effect, MEEC's and its shareholders should see more upside. The current $71 million valuation is misguided for a company with such strong growth prospects.
MEEC is a micro-cap stock that is subject to intense volatility. Shares of the company have recently had price swings of 50%+, so this is a highly speculative investment that is only suitable for those who have an appetite for risk. As of September 30th, 2013, the company had an accumulated deficit of $16.7 million, current liabilities of $1.8 million, and only $300,000 in cash and cash equivalents. Therefore, prospective investors should expect a secondary offering in the imminent future.
If this secondary offering occurs at the assumed strike price of $1.20, expect a possible drop of more than 40% from Wednesday's close. However, with more than triple digit upside potential by the time all power plants are required to follow the MATS rule in 2016 (for those granted delays), shares have a compelling risk/reward profile and should be closely watched for a potential buying opportunity.
The company has yet to turn a profit in its more than six years of operation, but since the company only needs to record $12 million in annual revenue to breakeven, I believe profitability is not far off now that they have signed a multi-site contract.
Here are some excerpts from the company's most recent 10-Q that investors wanting to jump in should keep in mind:
The company intends to raise near term financing to fund future operations through a restricted stock or convertible debt-to-equity offering.
The company intends to raise additional equity or debt financing to fund future operations.
Some plants are requesting and receiving a one-year delay in the requirement to meet the MATS 2015 deadline.
EGUs typically are not operated due to maintenance reasons or when the price of power in the market is less than their cost to produce that power. Thus, our revenues from EGU clients will not typically be a consistent stream but will fluctuate, especially seasonally as the market demand for power fluctuates.
MEEC's revenue stream will be subject to seasonality, and many EGUs will obtain a one year delay for the MATS rule, meaning that MEEC will be missing out on potential customers and revenue until April of 2016. I believe there will be plenty of EGUs delaying the requirement to avoid additional costs, but plenty of EGUs will tackle the standards head on and purchase a solution, as shown by last week's contract win. The number of EGUs that do obtain a one year delay should not be large enough to adversely affect MEEC's revenue stream in 2015, and will merely serve as an opportunity come 2016 when the one year delay is up.
MEEC is in a unique position to capitalize off a brand new market with a superior technology. Investors of MEEC are also in a unique position to be holding an undiscovered gem with such strong growth prospects. The company only has 38 followers on SeekingAlpha, and there hasn't been one focus article on the company to date. As the company begins to sign more contracts with customers, increase revenues, and turn profitable, more attention will follow and more investors will pick up on the promising opportunity and future value MEEC has to offer to its shareholders.
Additional information and pictures were sourced from investor presentation