In this article, we discuss a valuable data point that reinforces our belief that Gulf Resources is materially smaller than what is indicated by its SEC financial statements. As part of our diligence, we contacted CCM International Ltd., an independent Chinese chemicals consulting firm, for their 2010 report on the Chinese bromine industry. CCM is a research firm that specializes in conducting primary research on the chemicals industry in China and compiles 100-page reports on specific chemicals subsectors. In December 2010, the firm published "Production and Market of Bromine and Bromides in China." This 134-page document discusses China's bromine sector at length and includes information on China's top producers and these producers' estimated capacity and production levels.
The CCM report provides substantial evidence that Gulf's purported production levels are vastly overstated. From reading the CCM report, we see evidence that:
- Gulf Resources is not among the top 30 bromine producers in China, as determined by CCM International, an independent third party Chinese chemicals consulting firm.
- Gulf Resources' claimed production appears highly unlikely when examining the production levels of the industry leaders in the Chinese bromine market. Gulf's alleged 2009 production was nearly double the production of the top bromine producer in China, as estimated by CCM, and nearly equivalent to the combined estimated production of China's top three producers.
- Gulf Resources' claimed 2010 production would be more than 40% of China's total bromine production if it were accurate, based on 2010 bromine output forecasts provided by CCM. This is unlikely given the general view that China's bromine market is fragmented.
A redacted sample of CCM's bromine report can be found here on CCM's website. The report is available for purchase from the consulting firm by any member of the investing public. We purchased a full copy of that report. Although we cannot release the report in our article per CCM's standard license contract, we can discuss excerpts and data from the report. We have also shared a copy of the report with Seeking Alpha editors, after receiving consent from CCM, to allow the editors to verify our claims. We firmly believe that CCM is an independent third party consulting firm with extensive experience in China's chemicals industry. According to their brochure, their clients have included Blackstone (NYSE:BX), Cargill, Credit Suisse (NYSE:CS), McKinsey, etc. Note that we have not independently commissioned the report from CCM, but have merely purchased an off-the-shelf report on China's bromine industry completed in late 2010, prior to any allegations of fraud at GURE.
GURE's Claimed Manufacturing Capacity
Gulf Resources promotes itself as one of the largest manufacturers of bromine in China. These are excerpts from Gulf Resource's 2010 10K:
"We manufacture and distribute bromine through our wholly-owned subsidiary, Shouguang City Haoyuan Chemical Company Limited, or SCHC… According to figures published by the China Crude Salt Association, we are one of the largest manufacturers of bromine in China, as measured by production output."
"Through our wholly-owned subsidiary, SCHC, we produce and trade bromine and crude salt. We are one of the largest producers of bromine in China, as measured by production output." (Source)
On this page, we can see that Gulf Resources claimed to produce 34,672 tonnes of bromine in 2010 and on this page, we can see that Gulf Resources claimed to have 46,300 tonnes of bromine manufacturing capacity as of fiscal year-end 2010.
Based on our research, these claims are not believable.
We were unable to locate the aforementioned China Crude Salt Association. Gulf Resources claims that this organization publishes figures on the production capabilities of bromine manufacturers. We did find an organization called the China Salt Association. However the China Salt Association's focus is salt-related enterprises and there is no information on bromine production available on their website. Our email to Gulf Resources asking for information on the purported China Crude Salt Assocation received no response.
Scope and Methodology of CCM Report
The CCM report discussed the following topics, as stated in its introduction:
- Supply and demand for bromine in China (storage and distribution of bromine resources, capacity, output, demand, price, technology, major producers and consumers).
- Current production and market situation by specific bromides in China (capacity, output, price, producers, consumption structure, end users).
- Introduction to and analysis on foreign-owned producers and joint ventures.
- Trade situation of bromine and bromides in China.
- Analysis on influencing factors for China's bromine and bromides industry.
- Forecast on future production and market of bromine and bromides in China.
- Commercial opportunities in China's bromine and bromides market.
The report was drafted in October 2010 and data was compiled based on:
- Desk research, including information from published magazines, journals, government statistics, industrial statistics, association seminars, etc.
- Telephone interviews with bromine and bromides manufacturers (more than 250 enterprises), data suppliers, researchers, associations and governments.
- Site visits and attendance at industry conferences.
- CCM's internal database and professional databases from other sources.
China's Top 30 Bromine Producers - Gulf doesn't make the List
CCM's report features a multi-page section entitled "Producers," where the consulting firm lists the country's top bromine producers, based on CCM's in-depth investigation of the bromine industry. According to their research, "there are around 100 producers of bromine [in China]" and "30 have bromine output of over 300 tonnes in 2009" (pages 6 and 13). CCM then lists the country's top 30 producers, based on its investigations (page 14-15).
We have included below the list of top 30 producers, as compiled by CCM. For each producer, CCM provides 2010 estimated capacity and 2009 output, in annual tonnes. We have provided links to the producers' websites, where available.
|1||Shandong Haihua Group Co. Ltd.||Shandong||20,000||15,000|
|2||Shouguang Fukang Pharmaceutical Co. Ltd.||Shandong||20,000||12,000|
|3||Shandong Yuyuan Group Co. Ltd.||Shandong||15,000||10,000|
|4||Weifang Longwei Industrial Co. Ltd.||Shandong||15,000||10,000|
|5||Shandong Futong Chemical Co. Ltd.||Shandong||10,000||9,000|
|6||Laizhou Chengyuan Salt Chemical Co. Ltd.||Shandong||8,000||6,000|
|7||Shandong Lubei Enterprise Group Co. Ltd.||Shandong||10,000||5,000|
|8||Tianjin Changlu Haijing Group Co. Ltd.||Tianjin||5,000||4,815|
|9||Changyi Changyi Zaohu Salinization Co. Ltd.||Shandong||4,000||4,000|
|10||CSI Changlu Cangzhou Salt Industry Group||Hebei||4,800||3,200|
|11||Shandong Zhanhua Ruite Chemical Co. Ltd.||Shandong||5,000||3,000|
|12||Changyi Xinchang Salt Chemical Co. Ltd.||Shandong||4,000||3,000|
|13||Shandong Caiyangzi Salt Farm||Shandong||5,000||2,500|
|14||Changyi Aoli Salt Chemical Co. Ltd.||Shandong||5,000||2,500|
|15||Tianjin Changlu Hangu Saltern Co. Ltd.||Tianjin||2,500||2,000|
|16||Shandong Chengkou Salt Chemical Co. Ltd.||Shandong||2,000||2,000|
|17||Shouguang Weidong Chemical Co. Ltd.||Shandong||1,500||1,500|
|18||Changyi Aofeng Salt Chemical Co. Ltd.||Shandong||3,000||1,500|
|19||Dalian Yanhua Group Co. Ltd.||Liaoning||3,000||1,500|
|20||Shouguang Luyuan Salt Chemical. Co. Ltd.||Shandong||2,000||1,500|
|21||Shandong Dongxin Chemical Industrial Co.||Shandong||1,500||1,500|
|22||Changyi Liyuan Bromine Plant||Shandong||1,500||1,000|
|23||Changyi Liyu Salt Chemical Co. Ltd.||Shandong||1,500||1,000|
|24||Weifang Zhongheng Chemical Co. Ltd.||Shandong||1,000||1,000|
|25||Shouguang Xinyuan Bromine Plant||Shandong||900||750|
|26||Changyi Tianlong Salt Chemical Co. Ltd.||Shandong||1,000||700|
|27||Changyi Weichang Salt Farm||Shandong||3,000||500|
|28||Shouguang Xinda Chemical Co. Ltd.||Shandong||1,000||500|
|29||Tangshan Daqinghe Boda Industrial Co. Ltd.||Hebei||500||400|
|30||Tangshan Sanyou Group||Hebei||300||300|
Source: CCM International
As we can see, neither Gulf's subsidiaries, Shougang City Haoyuan Chemical Co. Ltd. (NYSEARCA:SCHC) and Shouguang Yuxin Chemical Industry Co. Ltd. (SYCI), nor the Haoyuan Group are mentioned within the top 30 bromine manufacturers in China. Later in the report, CCM discusses some of its findings:
"Although there are around 100 producers of bromine, 30 main producers have controlled most of [the] production lines with output accounting for 93.6% of the total in China in 2009. Among these main producers, the output of bromine of 4 ones, including Shandong Haihua Group Co., Ltd., Shouguang Fukang Pharmaceutical Co., Ltd., and Shandong Yuyuan Group Co., Ltd. and Weifang Longwei Industrial Co., Ltd., has exceeded 10,000 tonnes respectively." (page 6)
We can draw several conclusions. First, to reiterate, Gulf Resources was not listed as a top-30 bromine producer by an independent third party Chinese chemicals consulting firm that compiled a 134-page industry-specific report based on market research and more than 250 calls with industry participants.
Second, Gulf's alleged production appears exaggerated given the competitive landscape of the industry. Shandong Haihua, the largest manufacturer according to CCM, produced only 15,000 tonnes in 2009, and only three other producers produced more than 10,000 tonnes. Gulf, in contrast, claimed to produce 34,930 tonnes of bromine in 2009 (link here). Gulf's alleged 2009 production is more than double that of the industry's leading bromine producer, as determined by CCM. Its purported 2009 production is nearly equivalent to the combined 2009 production of the three largest bromine producers, as estimated by CCM. Again, we reiterate our strong disbelief in Gulf Resource's production claims.
Gulf's Suspiciously High Production Relative to Market Size
In addition to providing information on specific manufacturers and their production estimates, CCM provides excellent information about China's overall bromine production capacity and market size. Relative to this market size, Gulf's production claims are difficult to believe.
Based on the CCM report, China's bromine output has declined materially over the past few years, dropping from 160,000 tonnes in 2007 to 115,000 tonnes in 2009. In 2010, CCM forecasted bromine production to decline by 30%, writing "In 2010, the output of bromine is predicted to be about 80,000 tonnes owing to the decline in concentration of underground brine and impact from bad climates." (page 6)
They further write:
" ... China has been characterized by tight supply of bromine in recent years, and this situation is worsening gradually with the rapid decline of bromide ion concentration of underground brine due to the over-exploitation, which challenges the existing processes of bromine extraction in China." (page 21)
In light of CCM's estimates, Gulf's alleged 34,672 tonnes of 2010 production would account for more than 40% of China's 2010 bromine production. This sounds particularly suspicious, given the dearth of independent reports indicating that the Chinese bromine market is dominated by one massive industry player controlling more than a third of the market.
To repeat our conclusions, the CCM report provides evidence that:
- Gulf Resources is not a top-30 bromine producer in China, as determined by an independent third party Chinese chemicals consulting firm.
- When examining the production of the widely recognized industry leaders in the Chinese bromine market, GURE claimed production appears highly unlikely. Gulf's production exceeds the top industry participants by too large of a degree to be believable.
- Based on 2010 bromine market output forecasts provided by CCM, Gulf Resources' claimed 2010 production is more than 40% of China's total bromine production.
Furthermore, we have spoken to other bromine manufacturers in China, as well as service providers to the bromine industry. Our diligence calls and channel checks provide further evidence that Gulf is materially overstating its production levels, and we hope to share that information in future articles.
Given the extensive Glaucus report, as well as our prior article on serious red flags at Gulf Resources, we are highly skeptical of GURE's SEC financial statements. We think the company is at high risk of seeing its auditor resign when its 2011 audit comes due. Its auditor, BDO Ltd., recently resigned as auditor of China-Biotics (OTCQB:CHBT), and provided a detailed discussion on how CHBT was deceiving investors. We would not be surprised if a similar future is in store for GURE.
Additional disclosure: Read our full disclaimer at kerrisdalecap.com/legal-disclaimer-3. I have short positions in and own options on the stock of the company covered herein (Gulf Resources, Inc.) and stand to realize gains in the event that the price of the stock declines. To the best of my knowledge, all information in this article is accurate, reliable, and has been obtained from public sources, but I present the information "as is". I will not necessarily update or supplement this article in the future. Following publication, we may transact in securities of the company covered herein.