Do the Math: Heckmann Looks Cheap

 |  Includes: CWDK, NESC
by: Jeffrey McLarty

From Heckmann's (HEK) S-4 filed June 16th 2008:

On June 12, 2008, China Water (OTC:CWDK) executed a definitive agreement relating to the acquisition of 67% of the equity of Guangzhou Grand Canyon Distilled Water Co. Ltd. (“Grand Canyon”), a distilled bottled water producer and distributor that has an established brand awareness, a well-established distribution network in Guangdong Province, and an annual production capacity of 240.2 million small bottles and 9.6 million carboy bottles. The consideration for the acquisition will consist of $19.1 million, payable in cash at closing. China Water believes the consolidation with this producer will further elevate brand awareness and that China Water will benefit from the joined network and platform. China Water expects that the acquisition will close in the late second or third quarter of 2008.

I have sifted through way more SEC filings than I should have, and I owe Mr. Heckmann an apology for hypothesizing that it could be a scam. I have basically come to one conclusion: I’m buying more HEK, anywhere under ~$11.50 for now.

No matter how you slice it, HEK is cheap near $10.

Follow me on the math, through the profit behind the capacity to improvement, via the seven items in this table:

click to enlarge image

Through its subsidiary China Drink & Water Co., by the end of  ’07 HEK produced 844 million L (ended the year with 890 million L of capacity) of bottled water. Through expansion and acquisition, they plan to spend only $60M to add 1860.2M small bottles (0.35L - 1.5L), and 47.2M carboys (18.9L), via 7 deals including the one above, before ‘08 is over (ok, and a little into 2009). That means they are going to add somewhere between 1543.15  and 3682.38L million L (depending on what fraction of bottles is 0.35L vs 1.5L). The low end means 2.4B L of capacity, while the high end means 4.6B L. 

Economics says, they’ll sell what they make, you can trust me or read the reports on the water problems yourself. Applying the same growth to sales yields a range between $164M and $307M, meaning the guidance of $220M is well within reasonable for ‘08. I should note, they only had $15.4M in sales for Q1 ‘08, the only quarter announced so far. But, for instance, just the Grand Canyon deal adds $5.2M in sales to the quarter, and boosts net income to $6.73M from $3.54M in the quarter. Net profit margins have been trending towards improvements, however using 30.2% (I have my reasons) on the lower and upper bound of sales previously found results in a range of net earnings between $49.2M to $92.4M. Guidance at $220M and net of $70M implies 31.8% net profit margins.

Ironically, 31.8% divided by 100, happens to be the inverse of pie. And…we’re back. 

Coming in at only $49.2M implies a 32x multiplier (if I have the number of fully diluted shares correct) on the current year net, meaning $10 is by far the bottom of the fair value range given the comparables, the economic trends, the much higher guidance, and Heckmann’s track record. But, you should check it all out yourself, start here.

Proof you should double check the math yourself is for starters, I just realized I didn’t account for the fact that HEK owns only 67% of Grand Canyon; my math is as if they own 100%. Still a cheap stock, if Richard does what he says he’s going to do.

Disclosure: Long HEK