“$2 China Oil Stock to Hit $5: Buy Now” (Navellier)

by Travis Johnson, Stock Gumshoe | November 3, 2010 12:02 pm

Louis Navellier[1] is pitching a Chinese oil[2] stock that he thinks will more than double from the current levels — and if you sign up for a subscription to his Quantum Growth[3] newsletter, he’ll tell you the name and the ticker. That’ll be $5,000 per year, please (though to be fair it’s “on sale” now at about half that price … but just “until midnight” — I saw this ad a few days ago and the order page still says the discount goes “until midnight” but they’re not so clear on which day, just another way to rush your decision).

Of course, if you do subscribe I’m sure he’ll also give you all the other ideas in his newsletter and some regular updates — I can’t do that for you, but I can at least sniff out the name of this teaser stock so you can investigate it for yourself. And no, I won’t charge you a thing (though if you feel the urge to pay me, I promise not to stop you[4]).

To identify this stock, though, I need a few clues — so what have you got for me, Louis?

“‘All thanks to this rising Chinese fuel consumption, refining bottlenecks, and this petroleum distributor’s key centralized location.

“’Buy this one stock in the next 24 hours, and I guarantee you’ll grab your first 50% by November 21—or you won’t pay a dime.'”

Yes, I got a little quotation mark-happy there … that’s because in this letter from Navellier, he quotes himself above the salutation. Fun. And yes, as with all such “guarantees” from newsletter folks, the guarantee is that they’ll give you your money back — not that they’ll make good if you use their advice and lose a bundle … no loss for them, since without the guarantee you probably wouldn’t subscribe, anyway, and they know that most consumers are extremely reluctant to return merchandise or ask for refunds.

So it’s a petroleum distributor — a little different kind of beast than an oil explorer or producer, kind of interesting … how about some more detail?

The basic underlying economic engine for this stock, we’re told, is that Chinese oil consumption has doubled in the last decade, and that there’s are bottlenecks in production and distribution of gasoline and other refined products.

Which apparently benefits this company. Here’s how he puts it:

“This is why this centrally located oil distributor’s earnings have exploded 3,980%… why the company has been recently added to the Halter USX China[5] index… and why the company’s stock price has jumped 40% in the past 30 days and could easily double by year’s end.”

He says that this company is one of the largest fuel distributors in China and that it has a “monopoly-like” position in Shanxi province — and that this led to some huge profits from the giant traffic jam of coal[6] trucks that we probably all heard about a month or two ago, because many of those trucks had to fuel up at this company’s storage depots.

Makes sense, I suppose — China depends heavily on coal, and in most regions it is transported almost entirely by truck, so fuel demand would understandably be high … not sure if it’s higher when traffic jams up and the trucks stop or when there’s more movement, but I’ll certainly concede that diesel fuel in the area is in high demand.

And according to Navellier, you’ve got to buy now (duh … if you could wait around for months, what’s the rush to buy a pricey newsletter?):

“That’s why, according to my recent forecast, this company could beat its 131% year-over-year earnings growth next quarter as we head into winter, temperatures drop, coal demand rises, and more and more trucks line up to refuel for the long haul to the electricity plants. So you can see why I like this one so much.

“Since the company just reported earnings September 29, you’re getting the opportunity to jump on this one not only 90 days before it declares earnings but also before the weather gets cold and the chain reaction increases fuel demand and the company’s profits.”

OK, so that’s a fair number of clues — we know they reported earnings September 29, they’re a petroleum product distributor in Shanxi Province, the stock has surged on ridiculous earnings growth. So who is it?

This is Longwei Petroleum Investment Holding Limited (LPH). It won’t hurt my feelings if you just call it “Longwei Petroleum.” As you can imagine for a stock that has gone up dramatically, it’s in a “strong uptrend” right now (you can get the free instant trend analysis and updates on LPH here [7]from Marketclub, one of my advertising partners), after having uplisted to the Amex this Summer and then releasing huge year-end earnings numbers that moved the shares up by 40-50% (they had been around $2 before earnings, since then you can only call it a “$2 stock” as Navellier does if you ignore the stuff after the decimal point — it’s been above $2.80 for several weeks and the ad is dated November 1, when it closed near $3. $2.89 as I type).

Longwei has no analyst coverage and is quite small (market cap under $300 million), so volatility should certainly be expected. The trailing PE is very low at about 7, so you could certainly justify the stock hitting $5 based just on that, though clearly Navellier expects their earnings to grow. The company has apparently provided guidance of around $500 million in revenue for this current fiscal year (the next info released will be for their first quarter) and 56 cents in earnings per share, so if you believe management and think they can hit that number, and you think the PE of 7 is fair, that would mean the shares should be at $3.92. If you think they hit a PE of 10, you can do the math and see that the shares should be above $5. Red Chip Research tells us they’ve got a target of $6.50 for these shares, but they’re also the investor relations firm for Longwei Petroleum so we should probably be cautious about relying on their obligatory optimism.

So there you have it — Longwei Petroleum is pretty unknown by most standards, it’s very small and very new to the public markets (though they’ve been in business for about 15 years), and it’s cheap based on current earnings. This is a petroleum distributor, they mostly sell gas and diesel fuel to coal miners, power generation facilities, corporate fleets and gas stations, both chains and independents, and heating oil for, I assume, home and business heating. They have only 75 employees, so they must focus on fairly large customers and set routes, I assume, and they are entirely in Shanxi province. This is good because coal mines, of which there are many in Shanxi, are big fuel consumers. Their major assets appear to be their wholesale license from the government, their two major storage depots (120,000 metric tons of capacity, they report), and their private railroad spur that helps to ensure consistent supply and rapid processing of tanker cars. They also own two gas stations, at their storage facilities, though that doesn’t seem terribly significant.

There are apparently 17 licensed intermediaries in Shanxi, though Longwei says it has more storage capacity than other independents — one of only three large scale storage operations in Taiyuan, where their older tank farm is, and the only one with storage capacity in Gujiao, where their newer capacity came online this year to target industrial customers. I don’t know what kind of barriers to entry there are in this distribution business, or how hard it is to set up a tank farm and distribution system, or what kind of competition comes from government-associated entities, though part of Longwei’s stated advantage is that they provide better and more timely service than state owned distributors. It does stand to reason that it would be hard to break into the business from scratch, but I don’t know how hard it would be for one of the other existing companies to upgrade its offerings and offer more competition. Longwei’s goal appears to be growth in their province by expanding outside of their two core cities.

And yes, Longwei is just a distributor — they do not refine oil into gasoline and diesel, etc., they buy the gasoline from the refiner, store it, and distribute it to their industrial and commercial customers. I expect that the business may not be quite as competitive in the US, but it is still very price sensitive and Longwei must depend pretty heavily on steadily increasing prices (if they’re stuck with 120,000 tons of fuel and the price drops 15%, I assume they’d be in trouble, though they probably do some kind of hedging for that).

In large part, what you’re buying apart from their inventory of fuel (which was about 1/10 of the share price as of the June quarter — their tanks were roughly 1/3 full) is their distribution network, relationships with customers and suppliers, and ability to manage through volatile pricing environments, opportunistically buying oil when prices drop and letting their tanks draw down when prices spike, which I assume is at least as hard to do in China as it is elsewhere in the world, though they’ve certainly posted solid earnings growth for many years. I’m a little surprised that they have such healthy profit margins, since I think of distribution as a typically low margin kind of business (they’ve posted net profit margins of well over 10% for several years), so clearly the company is doing something right.

I haven’t mentioned the government, but it should probably be obvious that regulations and price controls will be a major factor for these guys, too, since China does set price controls for refined products, particularly when crude oil prices are very volatile. I don’t know anything about that aspect of the Chinese fuel business, but it’s clearly described as a significant risk factor in the annual report, and it’s not hard to imagine potentially unprofitable scenarios.

If you want to research this company, there’s not much out there other than the Red Chip cheerleading, so I’d encourage you to at least skim through their 10-K (it’s here on the SEC site[8], Red Chip doesn’t prominently link to it on their own website) … that’s all I’ve done. And yes, Longwei is one of those Chinese stocks that are headquartered in the Caribbean and listed as reverse mergers — which doesn’t necessarily mean there’s anything wrong, but it makes a lot of investors nervous.

If you build yourself an opinion about Longwei, I’m sure we’d all like to hear it — please share with a comment below. And if you’ve ever subscribed to Navellier’s Quantum Growth, please click here[9] to review it for us at Stock Gumshoe Reviews (the Quantum Growth reviews we have so far can be seen here[10]). Thanks!

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