PSB Monthly Issue February 2009

| February 3, 2009

February 2009


Insider Trading is a dirty word on Wall Street.  The term conjures up images of Wall Street fat cats brazenly breaking the rules to make obscene fortunes.  The names Ivan Boesky and Michael Milken immediately come to mind.

The notorious duo is often referred to as “the epitome of Wall Street greed.”

Boesky allegedly made off with $50 million trading stocks on inside information.  Milken, the “Junk Bond King,” cleared an astounding $500 million one year at the height of his activities.

But Insider Trading is not always illegal.

Corporate executives may buy and sell their stock if they follow certain rules.  The SEC requires insiders to report their transactions within two business days.  Changes in insider holdings are sent to the SEC electronically as a Form 4.

Key Investment Data

Name:  TETRA Technologies
Ticker Symbol:  TTI
Market Cap:  $389 Million
Recent Price:  $5.19PSB Rating System 4.5 Stars

Raging Revenue: (4 Stars) While revenues at most oil and gas service companies are expected to decline in 2009, I expect TETRA’s to grow 6% to $1.1 billion.

Beautiful Books: (5 Stars) Based on revised estimates for 2008 and 2009, I expect TETRA to grow earnings this year by 34% to $1.22 per share.

Stellar Structure: (5 Stars) TETRA insiders are aggressively buying up shares.  Institutional ownership is very strong at more than 88%.  Four of the top six institutions are adding to their positions with over 1 million shares purchased.

Valuation Verification: (4.5 Stars) TETRA’s shares have huge upside potential at recent prices.  With a twelve month price target of $14.89, the shares offer potential gains of 187% or more.

Meaningful Milestones: (4 Stars) TETRA’s WA&D Services business should have a strong 2009. Hurricanes Gustav and Ike caused extensive hurricane damage to the Gulf of Mexico oil and gas production infrastructure last September.

This information is extremely valuable to individual investors.

When insiders are buying, they usually know something the rest of us don’t.  They might know of a new product or service, a potential merger or acquisition, or simply believe their stock is undervalued.

As the great investor and mutual fund manager, Peter Lynch, once said:

insiders might sell their shares for any number of reasons, but they buy them for only one:  they think the price will rise.”

But how is this information useful to investors?

Heavy insider buying is often a strong indicator a stock is about to soar. Conversely, large insider selling signals a stock is set to fall.

A study by a University of Michigan professor bears this out.

When executives buy shares, their stock outperforms the market by 8.9% over the following 12 months.  When they sell shares, their stock underperforms the market by 5.4%.

Tracking insider trading activity is an important part of my own research process. When looking for stocks to buy, I pay close attention to insider buying and selling.

Last year’s historic market decline has prompted a recent flurry of insider buying. The energy industry in particular has seen corporate executives grabbing up shares hand over fist.

Take a look at this small company with several niche businesses in the oil and gas services industry.

This past November and December insider purchases spiked.  The company’s executives bought a total of 616,679 shares and sold just 286 shares.  Purchase prices ranged between $2.26 and $4.98 per share.

This isn’t typical insider buying;  it’s a buying frenzy.

Buying activity of this kind is too significant to ignore.  It’s a strong signal this stock is about to break out to the upside.

Why is this company so adored by its corporate executives?

It’s none other than Texas based oil and gas services company, TETRA Technologies(TTI).  Recently trading around $5.19, these shares have potential to double or even triple in the next twelve months.


TETRA holds premier market positions in several niche oil and gas services businesses.

The Fluids Division manufactures clear brine fluids, additives, and other similar products for the oil and gas industry.  Oil and gas producers use these fluids to increase production from their wells.

TETRA has more than 20 years of manufacturing experience and the most extensive product knowledge in the industry.  It is also the low cost producer.  A major competitive advantage.

Demand for these fluids is influenced by drilling activity levels in the Gulf of Mexico (GOM).  Because GOM oil and gas fields are mature, drilling activity has been flat for several years.

But, now a new long-term trend is in place.

Oil and gas producers are moving their operations further offshore.  They’re drilling deepwater wells to access huge untapped oil and gas reserves.

Deep water wells require greater volumes of more expensive brine solutions.  This new trend in deepwater drilling will drive growth in TETRA’s Fluids Division for years to come.

The Well Abandonment & Decommissioning (WA&D) Division has two different business operations:  WA&D Services and Maritech.

Operating in the GOM, WA&D Services plug depleted wells and clear well sites.  They also decommission abandoned pipelines and offshore platforms.  This business accounts for about 35% of revenue and 40% of gross profit.

The GOM is a perfect location for this operation.  The region has a large number of mature wells and an aging offshore infrastructure.  Not to mention frequent storms and hurricanes.  These conditions are driving demand for WA&D Services’ business.

Maritech has a niche oil and gas production business in the GOM.  They acquire properties with mature oil and gas reserves and produce from the existing wells.

When this business was started in 1999, Maritech’s reserves had negligible value.  Low oil and gas prices hardly covered the cost of production.  With higher oil and gas prices today (more than double 1999’s prices), these reserves have significant commercial value.

The Production Enhancement Division provides production testing and wellhead compression services primarily to natural gas well operators.

Certain natural gas basins will produce water, sand, and other abrasive materials with their initial production of natural gas.  TETRA removes these impediments and pressure tests the wells and wellhead equipment.

Success in this business segment depends mostly on the availability of equipment. TETRA has one of the largest fleets of production testing equipment in the industry. This is a huge advantage over their competition.


TETRA has recorded a profit every year since 1992.  Going 15 years straight without a loss is an amazing achievement.  It’s even more impressive when done in a highly cyclical industry like oil and gas services.

Last year was a volatile one for TETRA.  The second quarter produced all time high quarterly records for earnings per share and revenues.  For a time, it looked like the third quarter would be even better.  But, in September, the company experienced a temporary setback.

Hurricanes Gustav and Ike struck the GOM.  They caused damage to TETRA’s facilities and disrupted business.

Maritech lost a couple of production platforms.  Fluids, WA&D Services and Maritech operations were shut down for long stretches.  Fortunately, WA&D Services’ fleet did not sustain any significant damage.

As a result of the storms, TETRA withdrew its earnings guidance for 2008 and 2009 and missed its earnings estimate for the third quarter.

Despite these challenges, TETRA’s third quarter results still showed amazing growth over the prior year period.

Revenues increased by 4% to $249 million.  Net Income increased by 205% to $11.6 million.  And, earnings per share quadrupled from $0.04 to $0.16.

TETRA plans to report 2008 fourth quarter results on February 10th.  Analysts estimate they’ll earn $0.23 per share.  More important, management will be providing 2009 earnings guidance.


TETRA faces several business risks.

One risk is low oil and gas prices cause drilling activity to fall off.  Demand for TETRA’s products and services might drop if this happens.  So far, producers are moving forward with their deepwater drilling projects despite lower commodity prices.

Another risk is insufficient capital to survive a prolonged industry downturn.  TETRA has approximately $200 million available under its revolving bank line, which doesn’t expire until June 2011.  Management believes these funds are sufficient.

A third risk is permanent damage to TETRA’s operations from last year’s hurricanes. While two Maritech platforms were destroyed, the wells will be producing again by 2010.


TETRA’s profit warning in September 2008 caused a sharp selloff in its stock.  The shares fell on fears hurricane damage and low commodity prices would reduce drilling activity and hurt TETRA’s business.  The stock is down about 79% from its 52-week high.

Now is the time to buy.

The shift to deepwater drilling will drive demand for TETRA’s products and services for years to come.  Low oil and gas prices are not holding up these deepwater drilling projects.  And, company insiders and institutional investors are heavily buying shares in the open market.

At current prices, TETRA’s shares offer potential returns of 139%, 187%, or even 234% over the next twelve months.

A comparison with two leading oil services companies shows TETRA’s stock is grossly misvalued.

TETRA’s earnings are expected to grow much faster than Schlumberger‘s (SLB) andHalliburton‘s (HAL).  But, its stock trades at a much lower price relative to its projected earnings growth rate.

With a conservative PEG Ratio of 1.0, TETRA’s P/E would be 15x.  Assuming TETRA’s 2009 earnings come in at the low end of analyst expectations, $0.83 per share, a P/E of 15x implies a share price of $12.45 (a potential gain of 139%).

On a price to book basis, TETRA’s shares are worth even more.  TETRA’s book value per share of $6.90 is currently higher than its stock price.  The average of SLB’s and HAL’s price to book ratios is 2.4x.  Using this figure, TETRA’s shares are worth $16.56 (a potential gain of 219%).

A price to sales analysis implies an even higher price for TETRA.  The average P/S ratio of SLB and HAL is 1.3x.  Using the low revenue estimate for 2009, TETRA’s sales per share would be $13.33.  With a P/S of 1.3x, TETRA’s shares are worth $17.33 (a potential gain of 234%).

Based on the above analysis, fair value for TETRA’s shares is somewhere between $12.45 and $17.33.  Using the midpoint of $14.89 as a price target, TETRA’s shares offer a potential gain of 187%.


BUY TETRA Technologies (TTI) up to $6.25.

Use a stop loss of $2.60 on this position.

Don’t forget your position sizing and stop-loss rules.



It’s time to buy Chinese stocks.

I know.  The mainstream media and so-called smart money investors don’t agree. They’re predicting weak economic growth which will mean another down year for Chinese stocks.  I take this as a good sign that I’m right.

Here are a few reasons why Chinese stocks will rebound in 2009.

China is still the world’s fastest growing economy.

In 2009, China is expected to grow by 6% to 8%.  This is much higher than the 0.6% predicted for the U.S. and European Union.  As a result, Chinese companies should see higher earnings growth.

China’s Central Bank recently cut interest rates.

Lower rates stimulate economic growth.  When interest rates decline, businesses tend to borrow more money for spending on growth initiatives.  This too should boost earnings for Chinese companies.

Key Investment Data

Name:  China Security & Surveillance
Ticker Symbol:  CSR
Market Cap:  $252 Million
Recent Price:  $5.50PSB Rating System 4.8 Stars

Raging Revenue: (5 Stars) CSR projects 2009 revenue growth of 43%.  Government and private sector spending booms are driving organic revenue growth.

Beautiful Books: (5 Stars) CSR projects earnings will grow by 29% in 2009.  They’re growing more than 3 times faster than competitors GE and HON.

Stellar Structure: (4.8 Stars) Company insiders are heavily buying CSR shares.  They’ve purchased more than 500,000 shares in the last 6 months.  Insiders now own 47% of the shares outstanding.

Valuation Verification: (4.5 Stars) CSR’s shares offer huge upside potential at recent prices.  With a twelve month price target of $15.47, the shares offer potential gains of 181% or more.

Meaningful Milestones: (4.8 Stars) CSR should see a big upturn in business from the Chinese Government’s $586 billion economic stimulus package.

And, don’t forget China’s growing middle class…

With 300 million and counting, China has the largest middle class in the world.  This huge group of consumers is just starting to spend their newly acquired wealth.  Increased consumer spending should offset any drag on growth from declining exports.

Finally, the Chinese government is pumping $586 billion into the economy.

This is a massive economic stimulus program. The funds are going toward infrastructure projects like housing, water and energy, airports, disaster relief, and railroad construction.  This spending alone should push China’s growth rate back up to 8% or higher.

The upshot is simply this.

The government’s efforts should push China’s economic growth rate higher.  Better economic growth should boost earnings growth rates for Chinese companies.  And, higher corporate earnings should cause Chinese stock prices to run up.  (Now this won’t happen overnight, but we don’t want to miss this move.)

The question is which stocks should you buy?

One place to start is an industry that should benefit from the government’s stimulus efforts.  In addition to the projects listed above, the Chinese government is making large investments in security and surveillance infrastructure.

As you can imagine, the Chinese government is obsessed with monitoring its people.

Through its Safe City Project, the government’s contracting security firms to install street surveillance systems in 660 cities.  Another government project calls for the installation of security and surveillance systems in every Justice Department, court and coal mine (24,000 at last count).

China’s private sector is also beefing up security and surveillance.

Banks, hotels, supermarkets and many others are investing heavily in these systems. And, bars, discos, and karaoke clubs are scrambling to install video surveillance equipment to comply with a government ordinance.

It’s no surprise the security and surveillance industry is growing rapidly.  Industry experts predict this market will reach $43 billion in 2010.  That’s a growth rate of 20% per year.

So, how can we profit from this booming trend?

I prefer to go with the industry leader.

China’s security and surveillance industry is highly fragmented.  There are 15,000 domestic companies.  The vast majority of them are very small (83% have less than $4 million in annual revenues).

But, one company is well on its way to dominating the industry.

This company engages in every aspect of the security and surveillance business… manufacturing, installation, and maintenance.  Their revenues are expected to top $400 million in 2008 and $600 million in 2009.  They also have an extensive local sales force and distribution network.

Who is this amazing company… China Security & Surveillance Technology (CSR).

Based in Shenzhen, China, CSR is a one-stop-shop for security and surveillance systems.  They custom design each system, manufacture most of the equipment, develop all their own software, install the systems, and provide system maintenance.


CSR does business with a wide variety of customers.

About half of their business is with commercial entities like airports, hotels, real estate developments, banks, mines, railways, supermarkets, and entertainment enterprises. The other half comes from government entities like courts, customs agencies, public security offices, and cities in the Safe Cities Project.

The company operates in two business segments.

The systems installation business sells packaged security and surveillance solutions. These include system design, security product sales, system installation, and system
maintenance services.  About two-thirds of CSR’s revenues come from this business segment.

The manufacturing business makes money by selling security and surveillance products to vendors in China.  These products include standalone digital video recorders (DVR), embedded DVR’s, mobile DVR’s, and digital cameras.  This business accounts for the remaining third of total revenues.

Three new business divisions are currently under development.

A new security services business will be launched in the second half of 2009.  It will provide security related services to Safe City Project cities and corporate clients.  This business will provide a much needed recurring revenue stream.

CSR is also developing distribution, software, and educational training divisions.  None of these will have meaningful revenues in 2009.

Competition in this industry is fierce.

CSR competes primarily with large multi-national companies like General Electric (GE) and Honeywell (HON).  These companies have strong name recognition and vast resources.

But, CSR has a major edge over these foreign competitors…

Lower labor costs, an established distribution network, and a large local sales force. As a result, CSR is able to offer lower prices and market more effectively throughout China.


As you can imagine, CSR’s revenues and earnings are growing by leaps and bounds.

For the third quarter of 2008, CSR reported revenues of $119 million.  An increase of 82% over the prior year period.  (No recession in this business.)

Net income for the third quarter was just over $9.1 million.  That’s an increase of almost 47% from last year.

CSR is set to report fourth quarter and full year 2008 earnings on March 10, 2009.
For 2008, CSR is expected to report revenues of $415.6 million (an increase of 73% over 2007) and diluted earnings per share of $1.68 (an increase of 40% over 2007).

For 2009, CSR is expected to post revenues of $594 million (an increase of 43% over 2008 estimates) and diluted earnings per share of $2.17 (an increase of 29% over 2008 estimates).

CSR’s past growth has been phenomenal.  Over the next 3 to 5 years, the company should see its earnings grow at a blistering 29% per year.  (With earnings like these a high stock price can’t be far behind.)


Our analysis would not be complete without touching on a few risk factors.

The global economic crisis could hurt demand for CSR’s products and services.  So far this hasn’t happened.  The company still sees strong demand from its government and corporate clients.

CSR has two convertible notes outstanding for $110 million.  The holder of the notes has until 2012 to convert them to CSR stock.  If they aren’t converted, CSR must repay the $110 million plus interest.  This could force CSR to take on debt down the road.

CSR’s growth strategy includes acquiring other companies.  If CSR can’t find suitable candidates or finance the acquisitions, its growth rate could slow.  This doesn’t appear likely.  Management sees compelling opportunities in 2009 and believes the $65 million in cash on hand is sufficient.


CSR is a perfect example of a stock completely misvalued by the market.

Even though it’s a leader in a fast growing industry, CSR’s shares have been sold off along with everything China.  The huge bubble in the Chinese stock markets burst in October 2007.  Since then, investors have been selling stocks in Chinese companies indiscriminately.

All this selling has provided a golden opportunity to buy CSR’s shares on the cheap.  At recent prices, these shares offer potential gains of 109%, 180%, or even 255%.

A comparison with two leading competitors shows CSR’s stock is grossly misvalued.

CSR’s earnings are expected to grow three times faster than both GE and HON. Usually, stocks with higher earnings growth rates trade at higher P/E ratios than slower growing companies.

But, CSR’s forward P/E is dramatically lower than GE’s and HON’s.

Given its higher growth rate, CSR deserves a higher forward P/E than both GE and HON.  This could certainly happen once the market regains its senses.  For now, let’s just use a more conservative multiple of 9x.

Assuming CSR’s earnings come in at $2.17 per share, a Forward P/E of 9x implies a share price of $19.53 (a potential gain of 255%).

A more conservative price to book analysis still suggests a much higher share price for CSR.  CSR’s book value per share is $6.39.  The average of GE’s and HON’s price to book ratios is 1.8x.  With a price to book ratio of 1.8x, CSR’s shares are worth $11.50 (a potential gain of 109%).

Fair value for CSR’s shares is somewhere between $11.50 and $19.44.  Using the midpoint of $15.47 as a price target, CSR’s shares offer amazing potential returns of 181%.


BUY China Security & Surveillance
Technology (CSR) up to $6.60.

Use a stop loss of $2.25 on this position.

Don’t forget your position sizing
and stop-loss rules.


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