Macro Tsimmis

intelligently hedged investment

BUY A-Power Energy Generation Systems, Ltd. (APWR)

Posted by intelledgement on Thu, 18 Dec 08

A-Power Energy Generation Systems (APWR) is a Chinese company focused on the distributed power generation market. As fast as China’s economy is growing, there are serious “disturbances in the force” with respect to the reliability—and in some cases, even the availability—or electricity. APWR’s core business is working with companies and local governments to design and build cogeneration and distributed generation facilities. Their systems typically capture waste heat that a factory is already generating and convert it into electricity that the factory can use directly, or which can be sold back into the power grid. This affords the customer electricity that is both reliably available and typically cheaper than power purchased from the grid.

China’s demand for energy is ramping up rapidly. The International Energy Agency (IEA) estimates that China’s primary energy demand will increase 3.2% annually from 1,742 million tons of oil equivalent (MTOE) in 2005 to 3,819 MTOE in 2030. Near-term demand is projected to be even higher: 5.1% annual increases through 2015. To meet this demand, the IEA estimates China needs to add more than 1,300 GW to its electricity-generating capacity (more than the total current installed capacity in the USA). In their bid to service this market, APWR come to the table as the only private company currently authorized to contract and build cogeneration and distributed generation projects in China. (There are numerous state-run competitors, but these are generally comparatively expensive and slow-to-deliver.) While this is not an insurmountable moat, while it lasts it does afford APWR an outstanding opportunity to grow quickly and establish themselves in this huge market.

And, not surprizingly, APWR has experienced impressive growth. Last month, the company reported 3Q08 results and their first nine months of revenues ($85.4 million) were up 120% from the first nine months of 2007. And there is more on the horizon, including a significant opportunity outside China. According to CEO Jinxiang Lu, “In the third quarter of 2008, we secured a new distributed generation contract in China’s Jilin province worth approximately $195 million. We also signed a binding MOU [memo of understanding] with National Power Supply Company, a subsidiary of Advance Agro Pacific, for what is expected to become our largest distributed power generation contract to date—a $300 million contract to develop a 600 MW distributed power system in Thailand’s Chachoengsao province. We remain confident this MOU will be converted into a contract shortly as we are currently in final discussions with the customer and we are working together with the customer to obtain the necessary approvals in Thailand. We feel this opportunity, combined with the $150 million Thai contract signed earlier this year, represent a strong foundation for us in the international market.”

And, the company is profitable, and has been for several years. They produced $18.5 million of black ink in the first nine months of 2008, up 56% from the $11.8 million of profits for the first nine months of 2007. They anticipate a big fourth quarter and are guiding for $35 million or higher in profits for the year, and are not expecting that the current financial crisis is likely to dampen demand for electricity in China. That may or may not turn out to be true, but for sure yesterday’s close of $5.09 is already calamitously down from six months ago, when the stock was north of $30/share. With a P/E of around 18 here, the stock may not be breathtakingly cheap, but as a profitable company with superb growth prospects, it looks like a reasonable bargain.

But wait…there’s more. Last year, the company decided to enter the wind power market and announced the construction of a wind turbine factory in Shenyang. This facility will include two production lines with an output capacity of 300 units/year of 2.7MW wind turbines and 420 units of 750kW wind turbines, totaling over 1.1GW in annual output. They plan to use components the company has secured from Fuhrlander AG and other European wind power component suppliers, and their European suppliers are helping them set up the factory.

And APWR hit the ground running in the wind power market. In 1Q08, they announced letters of intent with various potential customers amounting to over 300 turbine units. In 2Q08, they executed their first contracted sale, of five 2.7MW units to the China National Automation Control System Corp. (CACS). Then in October, they announced a followup sale of 50 more 2.7MW units to CACS (which sale was not from among their 300+ LOI units). According to Shenghang Wang, CACS General Manager, “We look forward to our expanded relationship with A-Power. Their 2.7MW wind turbine has already been market tested by Fuhrlander in Europe and is currently the largest land-based wind turbine that is commercially available to us in China. These large turbines will help us achieve a greater amount of wind energy output in each of our new wind farms in Gansu and Inner Mongolia.” The first turbine units are expected to be delivered in July 2009.

APWR is listed on NASDAQ as of earlier this year—Lu rang the opening bell on 16 April—and is included in the Russell Global Index. The company has no debt, and a strong cash position. There are fewer than 34 million shares outstanding of which management own about 13 million.

Unlike our “big brother” IMSIP portfolio—which is long FXI—the ISOP has been lacking direct exposure to the Chinese buildout. Our purchase of APWR today (along with SOHU) corrects that imbalance.

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