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GU's Potential

|Includes: Gushan Environmental Energy Limited (GU)

Quick rundown of GU. The company was struck with one piece of bad news over the past weeks: missed Q1 earnings estimates by .01. Let’s not forget, however, that the analysts covering this company are not the brightest bunch around, as GU’s President had to remind the Hiller Capital Partners’ guru that one must add three zeros when reading a financial statement...

A series of recent events are good for GU. First, construction was completed in March at the Beijing plan which expanded annual production by 50,000 tons. Second, GU successfully reduced its raw material prices through negotiations with its suppliers resulting in a 10% decrease in input costs. Third, there has been a strong upward trend in biodiesel prices, which is likely to increase and steady at worst. Fourth, the stock price has tremendous support in the mid $2 range (3 million shares worth on June 4).

Given this background, multiple factors could positively impact this stock going forward:

  1. The 17% VAT tax refund to the Shanghai plant is announced (and the same will apply to news of tax refunds from any of the plants in other provinces);
  2. The government announces that GU is exempt from the consumption tax rates levied on diesel products on the Fujian plant (On a side note, the news of June 3 that the plant was suspended because of tax reasons was not news; the plant, in fact, has been closed since April due to road works, and the financial results stated that it would not reopen until at least July 31. This is a tactful ploy by management to use an already-closed plant to pressure the government to make a favorable decision quickly. Anybody with a rudimentary understanding of economics and China knows that the national strategy to boost growth, employment and renewables will, if anything, encourage production and credit GU with subsidies. Given the intricacies of the PRC’s bureaucracy, this will inherently take time. But in the end GU will not be subject to this tax and will sagely refuse to pay until a national decision is reached);
  3. The new plants in Chongqing and Hunan begin production (30,000 tons each), which were supposed to be completed in Q2;
  4. The Shanghai plant expansion is completed (50,000 tons), which is targeted for Q3;
  5. The new plant in Sichuan is completed ahead of schedule (50,000 tons), which is currently set for Q2 2010;
  6. GU receives subsidies and/or other production incentives courtesy of national policy (in the 11th Five-year Plan, the Chinese government committed itself to renewable energy by setting a goal of increasing its&am... of total energy consumption to 20% by 2020);
  7. The comprehensive audit from KPMG is finalized thus clearing any allegations of internal wrongdoing;
  8. President Wai Sun Kwong makes a surprise visit to the US to meet with investors; and/or
  9. Official Chinese biodiesel prices continue to increase.

In sum, GU is a nascent, aggressive company in great financial shape (US$123 million in the bank and paying a dividend), in the right sector (renewable energy), in the right country (economists forecast China to be one of the first and quickest countries to recover) and in the hands of ballsy, yet prudent, management. While traders are driven by GU’s frequent and significant price movements, investors rest easy knowing that just beyond the mediocre Q2 results—reflecting lower diesel prices over the period—lies a sleeping giant.

Disclosure: Long GU