SmartHeat Goes Cold, But Ignites A Fire Under The Sector

by: JoeNatural

Wow, what a difference a few hours makes. Last week, SmartHeat, Inc. (HEAT) filed an NT-10K, and if investors didn't already have a bad taste in their mouth from the company's recent 1:10 reverse split in order to get above $1.00 for purposes of remaining compliant, they now had to read in the comments section of the NT-10K that the 10-K (when filed) would reveal a significant material change and that losses were ($6.20) a share versus a positive $6.79 in EPS YOY.

The stock hit a 52-week low (post-split) of $2.54 that day and then came the after hours surprise that would ultimately create a buying frenzy in the brutally beaten up China small-cap sector, especially among stocks that had anything to do with energy conservation, recycling or those with a low float. SmartHeat issued an earnings PR that stated if it weren't for a one-time impairment of goodwill and inventory, the company would have actually seen an operating Q4 income of $3.77 million. This was a far cry from what investors interpreted just hours earlier, and by Thursday, the stock soared all the way to $9.64 before retreating back to $6.30, where it closed out the week on Friday.

Here's a brief valuation analysis of a few of the Chinese stocks (including SmartHeat) that were ignited last week:

SmartHeat Inc. - no P/E since their earnings are negative, although it appears they might be in the initial stages of turning things around, claiming a portion of their canceled and delayed orders from 2011 will be reinstated and thus inventory will decline. Personally, I would avoid this one like the plague, since the stock was run-up on extreme momentum, and we all know how that usually ends. It would be prudent to stay on the sidelines until the company offers up proof it can once again turn a profit.

Shengkai Innovations (VALV) - no P/E since their earnings are negative and the business is still declining. The company just recently executed a 1:2 reverse split and why anyone in their right mind would buy this stock today is beyond me. Last year, the company announced out of the blue that they were going to take their business in another direction entirely [bottom of page 37], claiming they lost almost all their business due to American investors calling their clients while executing DD, and thus running off their customers. This has to be the most ridiculous thing I've ever heard from a Chinese company. Wait, strike that last remark, as lame excuses from Chinese companies will make for an entirely separate article.

China Recycling Energy Corporation (CREG) - P/E of 4.39 here at $1.67, too much debt and simply overvalued at the moment for being a Chinese company. That said, I at least think this company is legitimate.

Recon Technology, Ltd. (RCON) - no P/E since their earnings are negative and still no sign of a recovery other than a newly announced contract, which isn't as impressive as it got credit for. With the company's stock trading below $1.00 last month and in already having received a compliance notice from Nasdaq, the company cleverly put out a PR on March 19th and in using the latest buzz word "fracking" in the oil business, along with throwing around a couple of big names in Sinopec and Baker Hughes, the stock roared upward from $0.84 to $4.58 in just two days. This is another company you want to avoid for sure until the company can once again demonstrate that it can turn a profit.

Cleantech Solutions International (CLNT) - P/E of 2.07 here at $4.77, although it's very deceptive, as earnings are on the decline. Profits are plunging, and if you think that EPS in 2012 will match the $2.30 posted in 2011, I have a bridge to sell you. Wait for another quarter, watch the price and listen for specific EPS guidance. Earnings are likely to tumble this year and determining a true forward multiple just can't be done at the moment with any accuracy whatsoever.

NF Energy Saving Corp. (NFEC) - P/E of 4.71 here at $1.79, the company desperate for cash and simply overvalued in relation to its peers. This company's been trying to raise capital forever, but they do seem to be managing their business more efficiently. This stock will be one to watch in 2013 and unless the price retraces to at least $1.00, I'd watch from the sidelines.

Guanwei Recycling (GPRC) - P/E of 2.67 here at $1.71, business on the upswing and no questions about legitimacy, especially after having cleared the hurdle set by Global Hunter with regards to qualifying for analyst coverage. Most companies opted out.

Sino-Global Shipping America (SINO) - no P/E since their earnings are negative and losses are still rising. The only reason whatsoever that this stock is seeing momentum is of course due to the low float of slightly over 1 million shares. There will undoubtedly be plenty of folks left holding a nice bag when this momentum fades - and fade it will.

One stock that has yet to find any interest is Trunkbow International (TBOW), and if any company in the China small-cap sector deserves to be discovered, it's this name. This mobile payment solutions company trades at a forward P/E of just 2.38 at the current price of $1.48, and Verifone (PAY) is a big investor in the company, a company that IPO'd at $5.00 one year ago. The company has stated that 2012 net income will rise 36% and they have recent deals with China Unicom and China UnionPay. I can see this stock trading at $4.00 by Q3, and see little to no risk down here in the dungeon at $1.48.

I believe the only company above that truly deserved to run last week was Guanwei Recycling (NASDAQ:GPRC), as the company's fundamentals are amazing when stacked up against last week's valuation that basically priced the company as if it were on the verge of bankruptcy. Its growth is accelerating, not to mention the short interest is virtually non-existent, at least based upon the most recent short interest report. The company has not been a target of short-sellers and no hit-pieces have been written in attempting to drive the stock downward.

That said, short-sellers were flocking into the stock this past Friday and again on Monday, and thus I would suspect April 15th short interest numbers might be quite startling in comparison to the most recent report. Short-sellers are still of the mindset that they get a free pass throughout the China small-cap sector, as they're very aware there's little institutional interest and that retail investors are very unlikely to create sustainable runs. Short-sellers might not want to pile on too heavy in GPRC at current levels, as they may very well get run over for a change. With regards to all the other above named companies, I think short-sellers will be just fine.

With 20 million outstanding shares and an 8 million share float since the company came public, and the company not ever having raised a dime in the capital markets, I see Guanwei beginning a climb back to a P/E of at least 5, or a stock price of $3.20 by Q3 - and even then that's dirt cheap for a rapidly growing Chinese company that's never been accused of fraud.

Lastly, let's also not forget that the original investors in the stock between $3 and $4 are still in the stock today, and that speaks volumes. Other original investors in many other Chinese companies have been fleeing as if the cops were after them, taking what they were able to salvage and calling it a day.

These are the facts. You decide.

Disclosure: I am long TBOW.

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