This is part two of a three part series on Lihua International Inc (NASDAQ:LIWA). Lihua is a Chinese company involved in the process of refining, marketing and selling copper wire. At present the company is currently trading below both its book value per share and cash value, which makes Lihua look like a deep value opportunity. What’s more, the company is profitable and cash generative.

Lihua International

Lihua International’s deep value offering

In part one, which can be found here, I covered the company’s financials and the deep value on offer. I then finished by highlighting Lihua’s impressive cash generation. In this part I am going to take a look at how Lihua International Inc (NASDAQ:LIWA) is able to be so cash generative and the company’s impressive historic growth rate.

For the nine months ending September 30th, Lihua International Inc (NASDAQ:LIWA)’s cash conversion ratio stood at approximately 105%, impressive for a company that relies upon commodities as its main source of income. Lihua is able to achieve this ratio as the company has almost no exposure to commodity prices. In effect the company profits off the spread between the cost of acquiring scrap copper to refine and then selling the refined, cleaned product in the form of either copper anodes or copper wire it at market rates; ensuring that the company remains profitable.

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Lihua International to remain profitable

It is highly unlikely that the cost of scrap copper metal will exceed the selling price of copper anode and drawn copper wire, so we can assume that Lihua will remain profitable. Indeed, with the company’s low expenses and economies of scale, which I’m going to explore later, Lihua is well placed to churn out cash for many years to come.

It seems that this control over the spread between the cost of recycled metal and the final product is what’s driving Lihua’s growth. Specifically, according to Lihua International Inc (NASDAQ:LIWA)’s own numbers, the company has achieved a gross and net profit CAGR of 45% and 40% respectively during the period 2007 to 2012. In addition, during the same six-year period, the company’s revenue has grown at a CAGR of 72%.

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Expected earnings

That being said, Lihua International Inc (NASDAQ:LIWA)’s management has stated that they expect earnings and revenue will remain at 2012 levels for full-year 2013 due to two main factors. Firstly, the spread between the copper price and price of raw material has contracted slightly compressing profit margins and secondly, the company has reported a period of manufacturing down-time as it has upgraded its manufacturing capacity. Lihua has also improved its pure copper recover rate during the period with smelter upgrades.

Still, even if the company’s profit does not expand from 2012 levels Lihua International Inc (NASDAQ:LIWA) is still inline to generate more than $50 million in cash from operations during the year, that’s around 30% of the company’s market capitalization. In addition, while Lihua’s profit is set to stagnate this year, the company is priming itself for rapid growth next year. Stay tuned for part three to find out why.