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Raser Technologies (RZ) is an often bashed stock – particularly by the uninformed. Sure, the company has a long history of over-promising and under-delivering and they also have no revenue and earnings….but there is much more than meets the eye to the informed analyst.

Here is the bull story and why this $10 stock can triple in a relatively short period of time.

  • Market Cap: $550mm
  • Short Interest: ">3 million shares
  • Average daily volume: 120,000 shares
  • Revenue: nearly $0

RZ ("the Company") has a series of technologies (patented via their relationship with AMP and through partnerships with United Technology Corp (NYSE:UTX)) which enable the production of electricity from cooler water than what has previously been required to turn a steam/geothermal turbine. Their "Binary Cycle" and "K-Cycle" machines (read all about them here) can produce electricity from temperatures as low as 91 degrees Fahrenheit, although the optimal temperature range is in the 250-300 degree range. There is already one of these in operation in Alaska (read about it here).

There is no debate that this binary cycle technology (which has only very recently been developed) works well. Ormat (NYSE:ORA) is using something similar – they have a market cap of $2.2 billion. Previously, traditional geothermal companies drilled in search of 450 degree or hotter water so that they could produce electricity through their "flash turbine" technologies. As a result of searching for this "needle in a haystack" (such hot water is more difficult to find than water of somewhat cooler temperatures), they found many sites with 250, 300, 350, etc degree water but abandoned those sites because they didn't have the technology (at the time) to turn those into power-producing wells.

Read the company's recent press releases regarding their "Thermo" site in Utah – Republic (a now defunct geothermal exploration company) previously drilled a production well (and several exploration wells) on the site and found 300+ degree water but abandoned the site because they didn't have technology (at the time) to produce electricity at those temperatures. RZ bought that property and recently announced that they will begin drilling their own production well imminently on that site very near that Republic well.

RZ has spent the last 18 months acquiring many of these kinds of properties – properties which have been well explored, well drilled – some even with production wells already on them – and now has ownership or option/rights on over 3 million acres in Utah, Nevada, New Mexico, California, and the pacific northwest. See their press release on the "Lightning Dock" property – very well explored, drilled, etc. Risk is very very low on such a property.

Because of the modularity of each of the power-generating machines (each is only 225Kw, so a 10mw plant for example, would require 40+ machines), the company is in parallel development of their wellfields and power plants. That is, they can begin building their power plant at the same time they are drilling holes – if they find that the hole can produce more or less electricity than they initially anticipated, they can swap out the modular machines for another site. This allows for a time to market (from drilling to power production) of less than 2 years.

In contrast, a "traditional geothermal" company would require 4-5 years to put the same resource(s) into production. Read all about traditional geothermal companies by looking at UGTH etc. Time to market there is very lengthy. The "Section 45" tax credit was passed in 2005 granting substantial tax credits to producers of geothermal electricity – for a 100mhw power plant, these tax credits can reach nearly $800 million. RZ, through its "tax monetization" is able to strip out these tax credits, and through a partnership with a "tax monetizer", convert these into high margin revenue streams back to RZ.

In proof of the company's ability to do this, RZ's CEO, Brent Cook was previously the CEO at Headwaters (NYSE:HW) – a company which initiated nearly 30 of these "tax monetization" deals under the Section 29 tax credit plan for synfuels. Tax monetizers are large corporations which have an appetite for tax credits (companies like Goldman Sach (NYSE:GS), Morgan Stanley (NYSE:MS), AIG (NYSE:AIG), etc). Mr. Cook has relationships with many of these from having completed deals with them in the past. Section 29 carries with it much stigma – mostly because the plants to which it was applied were not profitable on their own and coal is considered a "dirty fuel." Only the tax incentives made them viable…so when those tax incentives were sunsetted (starting this year and into next), the plants were worth much less. RZ's plants on the other hand are very profitable without the Section 45 credits. These credits only serve to enhance the profitability of them.

Additionally, "green power" is all the rage right now and geothermal is an optimal "base load" technology – in stark contrast to very "hyped" sectors like wind and solar. RZ has announced in their press filings that they intend to initiate 100mhw of production for each of the next 3 years and then 150mhw of production each year thereafter and they are comfortable they have enough resources in their land to do this for at least 10 years. That would be 1,350 mhw of production placed into service.

Math

Each 100mhw produces roughly $1.2 billion in revenue from the sale of electricity (at current market prices – easily researched once the power companies make their power-purchase agreements public). States have substantial requirements to procure green energy, so there exists a very healthy market for the sale of electricity. This would come to RZ at a roughly 60% operating margin. Further, of the $800m in tax credits, RZ should be able to receive a relatively meaningful portion of these – at high 90% operating margin. Through the monetization, RZ does not put up any capital to build the plants – the monetizer does this. In exchange for using RZ's land, technology, power purchase agreements, and know-how, RZ is entitled to 10% of the sale of electricity and 10% of the tax credits.

Additionally, the monetizer will negotiate a percentage of the tax credits to be paid to RZ as revenue. Worthy of note: prior to his joining Headwaters Inc., Mr. Cook was Director of Strategic Accounts, Utah Operations, at PacifiCorp, which operates as a local electric utility in seven western states. Mr. Cook spent 12 years at PacifiCorp with specific expertise in transmission interconnection and power sales agreements. This is a huge benefit when comparing RZ to other geothermal companies which are traditionally run by geologists.

Financial simple math

Each 100mhw of production initiated is "worth" on a present value basis at least $300 million in EBITDA to RZ. Discounting the company's plans (let's say they are too aggressive) and only let them initiate 1,000mhw of electricity over those 10 years, and using a discount rate of 15%, one gets a net present value of EBITDA cash flows of $1.3 billion. Current market cap of $544 million leaves substantial room for upside (nearly a triple from here). The company has minimal overhead expenses, and each incremental deal does not require material increases in opex – so incremental revenues flow directly to the bottom line. The company obviously has NOLs right now, but when they are used up, the company will begin self-funding some of their deals, keeping their corporate tax rate very very low.

RZ stock is not without its drawbacks. The company has another division which produces electric motors – has been a serial over-promise and under-deliver part of the business. Old management has been replaced however and company has been more deliberate and less promotional regarding this portion of the business. Brand new management with substantial experience is reshaping this business and finding synergies to be used (more efficient pumps etc) with the geothermal portion of the business.

Investors have overlooked this, and the disclosed short on the name is ">3 million shares. Even granting this portion of the business a market cap of zero leaves a potential triple in the stock. Short sellers who are focused on the motor portion are missing the forest from the trees. New management is exceptionally receptive to incoming investor phone calls and has been very accessible to the Street. They just began presenting at major wall street conferences and will continue to do so in coming months.

Upcoming catalysts

Look for more agreements with power authorities agreeing to purchase their power. Look for deals which put revenue/earnings on the books through monetization deals. Look for announcements that wells have been tested and are flowing with hot water. Look for a short squeeze as uninformed investors realize they've placed short bets on what could be one of the most influential companies in green power in 2008 and beyond. Risks

Lack of education by investors and thin float mean stock is volatile. The stock is very closely held by a handful of informed investors. People perceive geothermal and drilling risk to be chief risks – these are not the major risks because the properties have been so well explored. People perceive the risks to be related to tax credits going away (or not being extended) – also not a risk because the plants are so profitable on a stand-alone basis, they don't "need" the tax credits in order to be valuable.

Disclosure: Author has a long position in RZ

Source: The Long Case For Raser Technologies