Buy Biofutures International (BIP) at 3.5p

Says James Faulkner of specialist small cap website WatsHot.com

This free share tip is a penny share whose share price could treble. Read on...

Palm oil's natural mix of antioxidants and balanced composition of fatty acids, makes it a safe, stable and versatile edible oil with many positive health attributes. It is widely used throughout Asia, where is is referred to as 'gold oil' both for its colour and its useful properties. The composition of palm oil, together with its natural consistency, appearance, pleasant smell and its resistant nature make it an ideal ingredient in the development and production of a variety of edible oils, in particular margarines and fats. It is extensively used in cooking and food production, and it also has many uses in industry and cosmetics.

China accounts for around a quarter of world palm oil consumption and it should come as no surprise that palm oil prices are anticipated to rise considerably in 2010. This is partly due to supply disruption from the coming El Nino which will affect production in the second half of 2010, but the wider picture is one of ever greater demand from China and, to a lesser extent, India. Moreover, as oil prices rise, palm oil becomes an increasingly attractive substitute in many cases. A leading palm oil analyst reckons prices could climb by around 20% to almost $900 dollars per tonne if oil prices were to reach $100 again in 2010. Palm oil prices rose by 47% in 2009, so the outlook for producers is already good. With incremental supply only set to reach 3.25 million tonnes in the year to September 2010, versus incremental demand of 5.5 million tonnes, the supply/demand profile should remain very positive going forward.

Biofutures International

Biofutures was initially one of those nutty green companies that intended to make a living producing biodiesel from palm oil. When palm oil prices rose and rendered that plan uneconomic, it switched to a less 'exciting' but more sensible plan to build a palm oil refinery at a cost of around GBP7 million. The refinery site is located in Malaysia, which is by far the biggest exporter of palm oil, primarily for Indian and Chinese consumption. Given that this industry is so central to the Malaysian economy, the regulatory environment is extremely favourable. The site is fully licenced by the Malaysian Government and construction is well underway, with the company having contracted industry specialist WS Bioengineering for all the building and construction work (Feb 2009) followed by another contract for the entire refining plant system (Dec 2009). The refinery is due to be up and running by 30 September 2010, and it is my view that the shares will begin to attract more attention as construction work progresses in 2010.

The Numbers

The company is well placed to bring the project swiftly to fruition. Total build costs estimated at around GBP7 million stack up favourably against net cash of around GBP5.5 million (as of June 2009) and a credit facility from Bank Kerjasama Rakyat Malaysia for the aggregate sum of up to RM47 million (approximately GBP8.3 million) consisting of two tranches, of which RM28.8 million is for capital expenditure and RM18.2 million for working capital.

So, what about profit potential? If we cast an eye over to industry bellwether Wilmar International, profit per tonne rose from $18.47 in 2007 to $33.19 in 2008, when prices spiked due to the oil rally. If we take the more conservative margin for 2007 (when prices averaged around $650 per tonne) and apply it to our plant with output of 200,000 tonnes per annum, we arrive at an operating profit of $3.7 million (GBP2.3 million). Stick that on a rating of ten times (profits should drop straight through to the bottom line given past tax losses), and we have a prospective (2011) valuation of GBP23 million versus the current GBP6.1 million.

Recommendation

This investment has been substantially de-risked. The project has government support; construction is underway; the firm has substantial cash reserves and project financing is in place. The economics of the project look good, and they should become more compelling as palm oil prices rise in 2010. The lone fly in the ointment comes in the form of a dispute between Biofutures' wholly owned subsidiary Zurex and JJ-Lurgi Engineering, the company which had been contracted to manufacture the components for the firm's abortive biodiesel plant. This dispute is currently the subject of arbitration proceedings and the outcome has the potential to affect the share price. However, given the significant discount to net assets, the risk is to the upside. Buy, at 3.5p.

Key Data

EPIC: BIP
Market: AIM
Spread: 3.25p - 3.75p (13.3%)

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