Wednesday, December 29, 2010

Dehaier Medical Systems Limited : A Shining Star in Medical Device Market

Since I published an article on China Kanghui Holdings (KH) a few months ago, KH has outperformed market by double digits. It had soared from $12 to $23 and is trading around $18 now, 50% higher than my initial recommendation. In a world where many investors are fleeing from hot Chinese IPOs with high valuation matrix, I looked at Chinese small cap stocks and found another well undervalued gem: Dehaier Medical Systems Limited (DHRM).
DHRM is a leading distributor and self-branded provider of medical devices based in Beijing, China. DHRM designs, develops, and markets self-branded homecare medical products (oxygen homecare products) and distributes products manufactured by other companies.
The Chinese government is well aware that the current health care facilities infrastructure and investments made are highly inadequate to cope with the growing needs of the population. Hence, in 2009 the central government decided to disburse an estimated RMB 850 billion (USD 124 billion) over the next three years. This included an estimated RMB 4.1 billion (USD 620 million) to be disbursed for the setting up of CHC (Community Health Centers) and for the purchase of medical devices. A recent report published by the Wharton School of Business, University of Pennsylvania suggests that the expected value of China’s medical device market will reach $28 billion by 2014, representing a 15% CAGR. Because of increasing availability of health care insurance, increasing percentage of GDP to be spent on health care by the government, and growing desire for better quality of care, the medical device market is projected to grow much faster than the global medical device market. Within the next five to seven years, China is expected to surpass Japan and become the second largest medical device market in the world.
With such strong government emphasis and massive investments committed, DHRM has become one of the fastest-growing medical device companies in China today. The company has managed to maintain revenue growth of 35% annually for the past three years and has controlled expenses well. In fact, the profit margin for monitoring devices, one of the key products offered by DHRM, increased from 31.1% in 1H 2009 to 52.1% in 1H 2010 due to effective cost control.
In China, hospitals and clinics purchase almost all of their medical devices and supplies  through distributors. As a result, medical device companies need to develop relationships with several distributors in different regions. DHRM has contractual relationships with over 2000 independent distributors and business relationships with over 3000 hospitals throughout China. Very recently, DHRM had won a $2 million medical device distribution bid for a new rural healthcare construction project supported by the China Development Bank Corp ("CDB"), a major Chinese state-owned bank focused on supporting China's national infrastructure development initiatives. Under the terms of the contract, Dehaier will cooperate with Philips Medical Systems, Olympus Corporation of Japan and many other companies to distribute medical devices to the new healthcare facility. Winning this project gives DHRM entry into the basic-level medical care market and DHRM expects to obtain more projects within this optimal environment. DHRM also established the Customer Experience Center (CEC) network for its Homecare Medical products. The CECs are established to provide broad ranges of branded Homecare Medical products and to meet customer’s expectations, e.g., real time recording system, diversified solutions and treatments etc.
In the recent quarterly report, the company reported a net income of $3.1 million in the first nine months of 2010, up 48% year from the previous year. DHRM also earned $0.77 per share, compared with EPS of $0.69 achieved in the same period a year ago. DHRM is currently traded around $5 at P/E less than five and has the lowest valuation compared to the industry as shown below.
 

 
DHRM
Healthcare-Medical
Appliances & Equipment
P/E(TTM)
4.8
19.6
P/B
2.9
2.9
P/S
1.1
2.6
Operating Margin(TTM)
28.30%
20.10%
Net Margin(TTM)
22.90%
10.40%
ROE(TTM)
29.20%
12.30%
Debt/Equity
0.07
0.7

 
DHRM has an extensive marketing network and stable relationships with old customers. It also enhanced its ability to control risk by decreasing dependence on major customers. Because of a strong government support in the medical industry and the direction of healthcare shifting towards community-centric healthcare in China, DHRM’s strong growth trend is expected to continue. In my opinion, DHRM is a well under-valued stock and the current price is definitely a bargain.

Tuesday, December 21, 2010

SkyPeople Fruit Juice: The best beverage stock in the world

SkyPeople Fruit Juice, Inc. (SPU) produces kiwi, apple, pear, jujube and mulberry concentrated fruit juices and fruit juice beverages as well as fresh fruit. It also owns the largest kiwifruit plantation in Asia. As a result, SPU is one of the fastest-growing fruit product companies in China today. The company rode out the financial crisis and has managed to maintain revenue growth of 40% annually for the past four years.
From September to October of 2010, concentrated fruit juice prices have risen from $850 to $1,600 per ton. Due to production cuts in apples from Europe, the price of apple juice in Portland has already increased more than 20%, and the price of apple juice in China is expected to reach $1,800 a ton in the near future.
China consumed 12.5 billion kiloliters of fruit and vegetable juice in 2009, according to Euromonitor International, and this figure is likely to reach 18.1 billion kiloliters within three years. Double-digit growth is therefore likely to remain a feature of the market for some time. In the long run, the future of concentrated fruit juice is very bright due to growing domestic demand. Sales of fruit juice beverages continue to benefit from strong demand from Chinese consumers as more middle-class consumers now drink fruit juices as a healthy alternative to carbonated soft drinks. In the short term, due to expectations of high inflation ahead, rising price will become the catalyst boosting stock prices for fruit juice companies.
First: Two major exporters – China and Portland – are facing inventory reduction and supply shortage problems today. China is currently the world’s largest producer of apple concentrate around the world, with 95% of its annual output exported overseas. FOODNEWS showed that there will be a shortage of concentrated apple juice in China because of rising price.
Second: Orange Juice, once considered to be the substitute of apple juice, also experienced a sharp increase in price. The price of orange juice increased more than 50% in 2009 because of a freezing disaster in the United States, one of the major orange exporters. The price of orange juice has remained above $3,000 per ton due to tight inventories in 2010. As a substitute for orange juice, the rising price of orange juice will definitely increase the demand for apple juice.
SPU is a small-cap company but its strength lies in its diversity. Huiyuan, the largest domestic fruit juice producer, and other peers in China mainly specialize in apple- and orange-related products. SPU, unlike its peers, however, specialized in kiwi juice, which has a much wider profit margin than apple- and orange-related products. Earlier this year, SPU introduced a bottled kiwifruit and mulberry juice under the brand name of Hedetang in Beijing. This helped the company to avoid direct competition with major players like Huiyuan (1886.HK) in China, which mainly produces orange and apple juices. 
In the recent quarterly report, the company reported a net income of $3.6 million, up 71.4% from 3Q 2009, and revenues from kiwifruit and apple concentrates increased 207.6% and 117.6%, respectively, on a yearly basis. Apple and orange concentrated juice   are the most profitable products in SkyPeople’s portfolio. They account for 60% of total revenue in the first 9 months of 2010 and continue to enjoy the rising price in today’s fruit market.
As of September 30th, 2010, the company had US$46.1 million in cash from strong internal cash flows, and its total liability is only $22.3 million. The company’s rich cash position, as well as its strong relationships with local lending institutions, provides SPU adequate funds to support its growth plans.
Because of the strong financial reports and rising demand for its product, SPU recently updated its net income and earnings per share guidance for 2010. The GAAP EPS (diluted) is $0.82 to $0.91, which means the stock is traded at P/E less than 5 today! The price-to-book ratio of SPU is 0.99 with a PEG Ratio of 0.15, which is relatively low and suggests that SPU is a significantly undervalued company with great growth potential.

Considering the huge growth potential of China’s fruit industry, increased fruit beverage consumption and SPU’s strong past performance, SkyPeople Fruit Juice definitely represents a great opportunity for value investors.    

Monday, December 13, 2010

China Ming Yang: Gone with the wind or Fly with the wind?

China Ming Yang Wind Power (MY) announced fantastic results for the past quarter and beat all consensus estimates. However, its share price showed downward momentum and recently traded in the lower 10s. According to Benjamin Graham, the stock’s owners should not be too concerned with erratic fluctuations in stock prices, because the stock market behaves like a voting machine in the short term but acts like a weighing machine in the long term (i.e., the stock’s true value will be reflected in its price over the long run). Instead of viewing MY as an underdog, I believe its current price in the lower 10s provides value investors a very attractive entry value.
 
China’s 12th Five-Year Plan presents an exciting renewable energy plan. It states that the installed capacity of wind power will reach 100 million kW by 2015 and 180 million kW by 2020, which suggests roughly 12 GW of newly installed capacity annually. Ming Yang will benefit from these supportive policies as a leading WTG manufacturing company in China. There are also two key wind power development areas: onshore, including Inner Mongolia and Xinjiang, and offshore, including Jiangsu, Hebei, and so on. Because Ming Yang has also secured wind resources in these key wind power development areas, the long-term relationship with wind farm developers in these areas will definitely boost Ming Yang’s sales in the near future.
In previous articles, I have provided some background on Ming Yang; I will focus on valuation in this article.
 
Valuation
Most financial resources show Ming Yang’s trailing P/E as 18, which makes it look like an overvalued stock. However, it should be pointed out that MY just became profitable in 2010, so its negative earnings in Q4 2009 adversely affected the calculation of its trailing P/E.
In fact, MY has earned US$0.71 in the first nine months of 2010, compared to a net loss of US$0.2 for the same period in 2009.
 
MY’s latest quarterly report shows that the company is aiming to achieve revenue recognition of an estimated 800 1.5 MW WTG units in 2010, and is also targeting an estimated 1400 1.5 MW WTG units and 100 3.0 MW SCD units in 2011.
 
I will show my calculation of estimated revenues for MY in both 2010 and 2011, based on the above information, in the following steps:
1.       Calculation of unit price for 1.5 MW WTG units.
According to the latest quarterly report, the total recognized revenue in the third quarter of 2010 was US$ 222.1 million (RMB 1486.0 million), based on 239 1.5 MW units with an exchange rate of 6.69 RMB/USD. The unit price for 1.5 MW WTG units is $222.1 million ÷ 239 = $0.9293 million/unit.
2.       Calculation of unit price for 3.0 MW SCD units.
On December 7, 2010, MY announced that it had won its bid for a government authorized wind farm project in the Hami area of Xinjiang Uyghur Autonomous Region, China. Ming Yang’s winning bid is equivalent to 67 units of 3.0 MW SCD WTGs with an awarded total contract value of RMB 824 million. Based on an exchange rate of 6.69 RMB/USD, the contract value is $123.2 million and the unit price for 3.0 MW SCD units can be calculated as 123.2 ÷ 67 = $1.8383 million/unit.
3.       Now we can easily estimate that the revenue for MY in 2010 will be 800 x 0.9293 = $743.4 million and (1400 x 0.9293) + (10 x 1.8383) = $1484.9 million in 2011.
 
 
As of September 30, 2010, 4.6 million shares are issued upon the exercise of share options, which were granted to certain directors and employees in Ming Yang. If all of these options were exercised, the net book value per share would decrease to US$ 10.28. Adding back the 125 million common shares, the diluted shares for MY is 125 + 4.6 = 129.6 million.
 
Finally, excluding IPO costs, the net margin per share for MY is 16%. Therefore, we can calculate the net income for MY in 2010 as 743.4*16%/129.6 = $0.92 and 1484.9*16%/129.6 = $1.83 in 2011.
Considering MY’s closing price of 9.9, P/E in 2010 is 11 and forward P/E in 2011 is only 5.5.
 
The order backlog of MY increased to 1,331 units and 363 units (not yet signed) as of September 30, 2010. The cumulative WTGs commissioned in 2010 totals 549 units. The strong demand for MY’s wind turbines and order backlog, together with orders awarded but yet to be signed, makes me feel confident that MY will achieve its revenue target.
 
Goldwind (002202.SZ) is a state-owned pure wind turbine supplier in China and can be seen as MY’s most comparable peer. Goldwind is now trading at 32 trailing P/E and 15 forward P/E.
 
The financial statement for MY is audited by KPMG, one of the “Big 4,” and therefore the credibility of the financial data is ensured. Considering the supportive policies made by the Chinese government and improving profitability from MY, I believe that MY with P/E less than six is obviously an undervalued stock.