Description

Global Power is a cyclical in the worst market it has seen in decades. Nobody who ever bought this stock has made money – it was a 2001 IPO right at the peak of its cycle, literally the day after President Bush said the U.S. needs 14 new power plants in short order. Oops. They have a great balance sheet which will get them through the trough, and we think the business is misunderstood. The U.S. market for gas turbine power plant construction is basically zero and probably will be for a while. But the CEO literally moved to China last October, and we suspect the next boom in their business could well be somewhere other than the U.S.

Global Power Equipment Group is a designer, engineer, and fabricator of a comprehensive portfolio of equipment for gas turbine power plants. GEG has one of the largest installed bases of equipment for power generation, and is either #1 or #2 as measured by sales in each business they are in. In 1998, GEG was MBO’d from Jason Inc. Harvest Partners was brought in to help with the recap plan, and now own 23% of the shares outstanding. Harvest has a cost basis around the $3.40 level, and don’t appear to be in a hurry to sell. Management also owns a significant amount of shares.

All trailing numbers are trough and there is no visibility going forward, so valuation metrics are elusive. We think of it in terms of market cap vs. market size given that we’re sure we have the industry leader and at some point this cycle will turn. Its electricity. It will come back. I bet it even grows.

Global Power has an outstanding business model. They own almost no fixed assets, most costs are variable, and over the last 7 years cap-ex has been a TOTAL of $20 million. I think last year I might have spent more on cap-ex than this company! GEG is able to sustain this business model by relying on subcontractors to manufacture the final components at the site of assembly. GEG designs most of the project in house, built to customer specifications, and supplies critical components through their own in-house manufacturing facilities. GEG is capable of supplying almost all components of an industrial gas turbine (“IGT”) with the exception of the gas turbine itself, which usually comes from Siemens, GE, or Mitsubishi Heavy Ind.

GEG has 2 operating units:
1) Heat Recovery Business Segment – Leader in the HRSG and specialty boiler market. A HRSG is a boiler that creates steam in a combined-cycle power plant using the hot exhaust emitted by a gas turbine. Basically makes the plant more efficient and capable of producing more power. Operates under the % of completion method of accounting – long term contracts only.

2) Auxiliary Power Equipment Segment – Includes a variety of products and services critical to the operation of gas turbine power plants. Filter houses, Inlet systems, gas and steam enclosures, exhaust systems, and diverter dampers. Operates under the completed contract method. Billed in full upon shipment.

Their economics look almost too good too be true. Low fixed assets in a business that sounds like it should be swimming in fixed assets. Subcontractors that have worked for these guys for over 20 years is key element to the story. That accounts for the low cap-ex and low fixed assets on the Balance Sheet. What you don’t see on the Balance Sheet is their design expertise. Each IGT facility built is different. Every one of them is customized. Size and strength are limited by construction size, noise, efficiency, regulations, and other factors that make a single set design almost impossible to manufacture at any kind of scale. Thirty years in the business gives them a library of different design sets with different turbines, size constraints, etc. In short, it gives them a competitive advantage that grows over time.

Revenues are from a few large players. Top 5 customers accounted for 50% of revenues last year, and has operated that way historically. GE, Mitsubishi Heavy Ind, Siemens, and other large manufacturers of IGT represent the majority of GEG’s revenues base. Here’s a quick overview of how the business works. GE will go to GEG and say there is a plant to be built in India. Here are the specs, the turbine, the regulations, etc. Design us a plant, and find someone to put it up. And GEG does just that. They design the plant to certain specs, and manufacture only critical components with intellectual property content. They then look to one of their subcontractors in India to do the rest. GEG gets costs from subcontractors, throws on a margin, and GE becomes the customer.

Everyone hates this stock. The industry is in shambles. Enron and the rest of the crew made life very bad in the IGT market. Huge boom time followed by nothing. We’re in the “nothing” time now. Last conf call, management said they have never seen it this bad. Never. The U.S. market is not likely to come back any time soon. But note that the name of the company is GLOBAL Power. We suspect China could be the key to the stock. The point just being this is not simply a play on the U.S. power market.

China:
We bought the stock a year ago in the 5s and 6s and then watched it become a China play and run to 11. We didn’t sell a share, not because we got giddy but because it didn’t get to our price target. The China story is real. Late last year the CEO of the company literally relocated to China. That was a big event for us – the stock is understood as a play on domestic power construction, but that would be a misunderstanding. In 1997, 70% of GEG’s revenues were non-U.S. and they are going that direction again.

Lets look at China’s opportunity for this company. This is where management is focused. Reports are that the Chinese economy is slowing, but they are also enduring frequent blackouts that are creating bottlenecks in their economy. GEG already has 30 heat recovery systems operating in China. Looking to add an additional 20 combined cycle gas turbine plants. China’s electricity demand is growing at 12% -15% per year. The US averages 2.69MW per 1,000 people. China averages .23MW per 1,000 people. The Middle East averages .66MW per 1,000 people. More than ¼ of the world’s people do not have access to electricity.

In closing, at a market cap of only $330 million, the company looks like a sitting duck to be a bit sized takeover for a GE, a Honeywell, or any one of a list of other big industrial companies.

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