Atticvs Research

Three Compelling Chinese Stocks

GSI Balance Sheet - yes this does need investor attention. In the note I assumed the company would issue 6 million new shares, being 4 million in H2 2009 (ave 2m for 2009 EPS calcs) and a further 2m in early 2010. The EPS numbers I cited were inclusive of new issuances.

Separately, GSI had a number of large credit facilities maturing in Q2 - by now these have already been rolled-over and we must await issuance of June 30'09 10Q to learn of the new maturity dates. Credit has been easing in China so let's see what the company says in August.

GSI did a $60m shelf filing in January 2009. Since that time the Chinese steel industry has experienced an upturn that has been stronger and swifter than almost all commentators expected. Steel prices in China have now, Jul 27, risen about 25% since April this year. It is becoming clear that profitability in Q3 will be very substantially higher than brokers had estimated, and I now believe they will be higher than I had estimated in my own note. The point about this being as follows: Bearing in mind that GSI's profitability will stem from the $216million investment that GSI completed in Q1 2009 (i.e. already paid for), and bearing in mind that customers pay GSI partially in advance for purchases, GSI will generate much stronger positive cash-flows each quarter than Net Income. And since we are now pretty sure that GSI will generate strong profits during the remainder of 2009 - unless steel prices crash, which is unlikely in the face of the huge stimulus program - then we can take some assurances that GSI will also generate strong positive cashflow during 2009. This, allied to the issuance of say 6 million new shares I mentioned above, ought to alleviate the liquidity tightness evident on GSI's Q1'09 Balance Sheet. Do also recall that even after the issuance of 6m new shares GSI should earn somewhere between 1.00 to $1.50 per share next year, or possibly more.

In essence I do agree that investors need to keep an eye on GSI's Balance Sheet. However, I also now believe that the earnings estimates used in the Seeking Alpha note were conservative, possibly too conservative, and that GSI will generate both strong profits and stronger cashflows during Q3 and Q4 2009 that will alleviate Balance Sheet gearing and ratio concerns.

Bottom line is that existing Balance Sheet concerns are already over-reflected in GSI's stock price, very much so.

Three Compelling Chinese Stocks

CHLN, yes agreed about recent selling price per Sq M being lower than I used in the note. I based the $850 per SqM on company expectations for JunJing 11 phase 2 as stated in 10Q; company expects to sell 112.556 SqM for total of $94.1 million = about $836 / Sq M, I used $850 considering riverside views etc. I agree with all the sentiments you expressed about CHLN & Xi'an, very positive situation.

China North East Petroleum Catapults to the Next Level

Well done Nawar. NEP is a terrific little company, very undervalued, has great potential and an exemplary management group. Whilst the stock price has fallen back this past couple of days I have no doubt it will be well into double digits early 2010. Keep up the good work.

China North East Petroleum: Strong Growth, Clear Visibility

Larrry, the 2.5m figure in SEC filings is Proven Reserves, whereas the 75 million number is total oil reserves. The Proven figures will rise strongly as they drill lots more wells over the next couple of years. See further explanation relating to Proven, Probable and Possible oil reserves above dtd May 7, 9.15am.

China North East Petroleum: Strong Growth, Clear Visibility

My understanding: Oil reserves are broken into three categories; (P1) Proven, (P2) Proven & Probable, and (P3) Proven, Probable and Possible.

P1 at December 2007 was 2.5m bbls.

P2 has not been published but would represent the estimated amount of recoverable oil in the four combined oil fields. This figure should be about 35% of the total oil reserves of 75m bbls, less the approx 40% output that belongs to PetroChina in the remaining years of the leases. Net-net this works out at about 16m bbls.

P3 is 75m bbls.

Over the next few years, as CNEH rolls out its drilling program, we can expect P1 to increase towards the P2 figure of about 16m bbls.

Should CNEH be successful at implementing CO2 technology, that would increase the recoverable percentage by about 20% to say 55% of total reserves, which in turn would boost Proven & Possible (P2) to about 25m bbls, and Proven reserves (P1) would then, in time, graduate towards this higher figure.

The Long Case for China North East Petroleum

Where to oil prices the next 5 years?

Summary article on Seeking Alpha:

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The Long Case for China North East Petroleum

Don't know jrs. I did see the stock run to $4.55 but I didn't buy because; with so little known about the company's prospects, with so little information available in the public domain at that time, with such a short track record of delivering good quarterly results (Q2 which was just published, was then the only set of decent results), with no mention of their multi-year drilling program, and without having renegotiated the extended well-drilling payment terms with PetroChina - against all this it didn't look like a good risk-reward to me back then. Additionally, from the daily volume of shares traded it seemed to me that daytraders were piling in and would probably disappear just as quickly as they had arrived, and they did.

Since then the CNEH picture has changed a great deal for the better. As good information is made available and excellent financial results are reported during 2008 there is every reason to believe that the stock price will evidence a strong up-slope during the year with some peaks and troughs along the way. It's a very cheap stock.

The Long Case for China North East Petroleum

Hiwind, thank you for your query and comments. First, it is true that CNEH is using available cash to drill more wells. They are doing this because the extractible oil reserves are in the ground at a valuation of about $2 per barrel and they make a profit on sales of this oil of over $25, net of all costs including govt levy. Thus, their strategy use available cash to drill new wells is correct. Second, bear in mind that Chinese bank borrowings for 2007 were maxed-out by government restrictions that came along in October, but that 2008, being a new year, brings a lot more borrowing availability particularly in Q1 and Q2. This explains why CNEH did not close out local bank borrowings in Q4 2007 and why they will conclude it in early 2008. Third, it is my belief that the company added less than 26 wells in Q4 ’07, thereby preserving higher levels of cash than you suggest even using your calculations. Fourth, CNEH is a Delaware, US corporation and does not have to pay income tax for 2007 until before the end of Q1 2008 and similarly for subsequent years. As such, the company is fully up to date with tax payment obligations. Fifth, bear in mind that the speed of well drilling is totally under the control of CNEH, management is ex-PeteroChina and they maintain a close and flexible relationship with PetroChina. As such it is not really conceivable that CNEH would drill wells first (without formulating an overall drilling plan – which they have done) and afterwards notice that they did not have sufficient cash to meet its rather obvious liabilities. Sixth, the CNEH cash-flow model is highly cash-flow positive. At an oil price of $90/Bbl the company generates sufficient cash-flow from each well to enable it to multiply its overall number of operating well by 500% in less than 3 years. Please refer to the cash-flow model I explained above within the main Seeking Alpha article.

Ref your P&L numbers: Your Q4 sales figure is about $500k too high. However, your COGS are also high; extraction costs an amortization are more closely fixed to quantities of oil produced rather than to the price per barrel of oil. Overall, Net Income will be slightly higher than you suggest.

Comment about the age of the CFO. He may be young, if not quite as young as you portray, but in my discussions with him I certainly found him to be a totally capable executive. Besides, let’s not forget that the company does have a good overall management team.

The bottom line for CNEH
They have extractible oil reserves in the ground at a current valuation of about $2 per barrel which it can sell, net of all extractions costs including Govt levies, and make a profit after tax of over $25 per barrel based on an oil price of $90 per barrel. These are compelling numbers and explain in an instant why it is correct for CNEH to use available cash to drill more wells. The more the better.

The Long Case for China North East Petroleum

I observed that the description of the drilling payment terms provided by the company in the recent 10Q reports differred to the description provided by the company in the November & December investor presentations. I asked them to clarify, and they did.

My overall sentiment is that it is extremely rare to come across a company with so much undiscovered potential as exists at CNEH. ICR will never have a job as easy as this one, all the information is just sitting there for them. What is particularly surprising is that it is virtually impossible for an new would-be investor to discover that the company has a total of 75m barrels of oil - this information is not stated on the company web site, the PR issued on September 4th 2007 mentioning it has now disappeared from Yahoo Finance and it was not mentioned in the 10Q reports. Yet, it is perfectly correct. A stunning situation. I look forward to ICR doing their job.