Will Obama's Energy Policy Benefit Investors?
The recent bullish sentiment in the greater equity markets has affected all sectors. Last night on December 24, President Barack Obama delivered the State of the Union address. He discussed a myriad of issues, but he also touched upon the United States' energy needs over the long-term.
Although he mentioned that natural gas is important during the short-term, he acknowledged that alternative sources for energy will be important down the road. As such, companies that specialize in renewable energy and other innovative technologies will be of major importance at some point in the future. Investors may be able to identify these types of firms right now.
Green Plains Renewable Energy (NASDAQ: GPRE) is a small-cap firm that constructs and manages ethanol facilities. The ethanol produced and its by-products are fuel-grade and are increasingly used in petroleum. Given the recent run-up in the energy sector, is Green Plains a good investment idea?
On October 26, 2011, Green Plains reported third quarter earnings. It beat EPS estimates of $0.28 by four cents, and beat revenue estimates of $872.8 million by reporting revenues of $957 million. Likewise, it produced positive results in the second quarter. Despite a small market capitalization of $399.1 million, Green Plains appears to be improving every quarter.
To corroborate its earnings performance, several investment banks started coverage or updated their existing coverage on Green Plains. In September, Credit Suisse initiated coverage with a Neutral rating and a $13 price target. In July, Jefferies updated its views on Green Plains with a Buy rating and a $16 price target. It appears that Green Plains' institutional following, albeit minor, is impressed with the company.
On a more qualitative basis, what does Green Plains have going for it? The company has ramped up sales over the last five quarters significantly. In the second quarter of 2010, Green Plains garnered revenues of $453 million; in Q2 2011, the company made $861 million. The revenue growth started in Q4 2010, and has steadily grown since then. Obviously, the last quarter saw revenues of $957 million, so the growth appears to be continuing. Along with revenue growth, cost of goods sold grew too, meaning that margins stayed fairly consistent.
Operating expenses stayed consistent and net income has also stayed consistent. When looking at Green Plains' physical cash flows, it appears that working capital is causing fluctuations in every quarter. For example, operational cash flows were positive in 2010, but became -$91 million in Q1 2011 and -$20 million in Q2 2011. Capital expenditures have also detracted from overall cash flows. In order to fund its operations, Green Plains has issued debt in every quarter in the last two years. In fact, in Q2 2011, Green Plains nearly doubled its previous debt offering, raising approximately $1.78 billion in debt. On the flipside, Green Plains has been diligent in paying off its debt. Considering the operational activities and methods of funding, Green Plains has lost cash over the last two quarters.
Apart from cash, Green Plains current assets seem to be turning over well. It has been moving inventories and freeing up cash by decreasing the amount of current assets. Property, plant, and equipment have stayed consistent over the last couple quarters, for the most part. Finally, due to acquisitions, the company has increased its goodwill line item in the last quarter to $41 million.
As mentioned before, while Green Plains has been issuing debt every single quarter to finance its operations. However, it has been able to pay off the debt in time, even lowering it slowly. Both short-term and long-term debt have decreased over the last few quarters. Other short-term liabilities have increased as well. While it does increase operating cash in the short-term, investors need to keep an eye on those numbers. It is never good to consistently keep payables and other current liabilities high, because that only keeps cash high artificially, without solving the underlying problems and improving operations. Other long-term liabilities negligibly increased.
Apart from Green Plains' complicated liabilities load, it has been able to increase its retained earnings, subsequently increasing its shareholders equity. This is always a good thing for a company, as this is tangible value added to shareholders.
In a macroeconomic context, crude oil and natural gas have been slightly depressed over the last few months, at least compared to historical prices. Considering the cheap prices, Green Plains likely sold its ethanol products at a lower rate to its petroleum-producing customers. Despite the hardship, Green plains was able to increase its EPS on an absolute basis as well as a relative basis, compared to analyst estimates.
During the winter months, oil and gas prices tend to increase, given the higher demand for the products as industrial and automobile usage increases. As such, as petroleum production increases, Green Plains will increase its output of ethanol products. So as far as an earnings play goes, it seems likely that Green Plains will be able to beat next quarter's earnings as well.
Bullish economic sentiment also tends to push oil prices higher. This in turn would result in higher earnings for Green Plains. Apart from the general uptrend in the energy sector, companies like Chevron (NYSE: CVX) and Exxon Mobil (NYSE: XOM) released their earnings announcements. Both were positive, beating what many people thought would have been a dismal quarter for energy stocks.
Coming back to Green Plains, the firm has gained 15% in the last five days, due to impressive earnings and positive equity movements. Investors may still consider a long-term investment, given expectations for the energy sector and the company's historical performance.
Green Plains Renewable Energy is currently trading at about $11.35, up about 16.3% in 2012.
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Traders who believe that Green Plains Renewable Energy is an appropriate long investment might want to consider the following trades:
- For a small-cap company, the accounting standards are stringent and clearly depict its year-over-year growth.
- Green Plains operates a diversified business that has consistently ramped up revenues every quarter.
- The energy sector is expected to rally in the next few months; despite low oil prices in the last few months, many energy stocks have been able to succeed.
Traders who believe that Green Plains Renewable Energy is more suited for a short play may consider an alternate position:
- The company keeps refinancing its debt to continue operations every quarter.
- Despite growing revenues, Green Plains has been unable to decrease costs or at least keep them constant to increase margins.
- Green Plains has been bleeding cash because of violent changes in working capital, and it has been unable to change this trend in the last five quarters.
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