The China Story You Won't Find Anywhere Else
Every so often, even in a bear market, you find a small, growing company trading way below its actual value. A great company somehow slips through the cracks and not a soul realizes its value and potential. Luckily, Bulletin Board Elite’s Greg Guenthner is there to scoop it right up.
Even during bear markets, it is rare to find a small, growing company trading at a hefty discount to its true value. When we’re screening penny stocks for inclusion in the Bulletin Board Elite portfolio, a low P/E ratio usually sets off alarms. "Why is this stock so cheap?" we sometimes ask. Something must be terribly wrong…
That’s usually the case. The company’s P/E for the trailing 12 months might be propped up by an unusually strong quarter or a one-time payment. Or the company could have unexpectedly announced flat growth for the upcoming year. After all, who wants to pay a high multiple for zero growth? Not I…
Every so often, there’s a break in this trend. A great company somehow slips through the cracks and not a soul realizes its value and potential.
We believe we have found exactly this opportunity. In less than a year, this microcap could very well be sitting on a major exchange with a new booming business segment operating in one of the fastest growing nations in the world.
More on this in a minute… First, we have to show you just how explosive this new retail growth can be…
Decades ago, China’s goal was a chicken in every pot. Wealth was measured by how well you could feed your family from a small plot of land. That was then, as the saying goes. Today’s China is all about consumption.
China’s rapid growth isn’t a well-kept investment secret. There’s money to be made in Asia, and investors are clamoring to get into this lucrative market.
As China’s working and middle classes grow, so too does the country’s purchasing power. Naturally, retail sales have experienced a dramatic surge. Domestic retail sales skyrocketed 20.2% for the first two months of 2008, to more than 1.74 trillion yuan, or about $248.1 billion. That’s more than 5% higher than last year.
While retail sales include food – which has been heavily affected by inflation – and wholesale goods, these aren’t the only statistics padding the numbers. Clothing sales are up 24%. Daily consumer goods are up more than 21%. Household appliance sales are up almost 19%.
One of the true hallmarks of middle-class growth is the sale of these nonessential and luxury items. Even the poorest working members of a society will spend money on food staples. However, the working poor, especially in nations with less-developed economies, won’t be dropping big chunks of their paychecks at the GAP…
Now that China’s economy is well into its adolescence, middle-class spending will continue to grow. And one small garment manufacturer is preparing to ride this "clothing boom" all the way to the bank.
Our next play isn’t even a blip on Wall Street’s radar. It’s cheap, growing and expanding in a predictable, simple industry. The company even has aspirations of landing on a major exchange (sooner, rather than later).
We can’t name this company here, but we can tell you a little about it. It is a garment manufacturer. The company makes brand-name clothing for companies all over the world. It doesn’t get any simpler than that…
This company operates clothing manufacturing facilities in China. From there, it ships its finished products to Europe, Japan and the United States. But this year, China is more than just a manufacturing location. It’s a country full of eager new customers.
In 2007, they shipped a majority of its products to Europe. Twenty-one percent then went to the U.S. and 16% were sent to Japan. Only about 6.5% of the company’s goods were sold in China. And while China was its smallest customer, its sales to the Asian nation grew 47% last year.
Now, with a renewed focus on this high-growth market, this company will attempt to add even more value to its shares by pursuing even more business in China, as well as launching its own Chinese clothing brand. This planned growth, along with its limited exposure to the U.S. retail market, makes this a "safe" growth play during times of economic uncertainty and a falling dollar on this side of the Pacific.
Oh, and did we mention this stock is dirt-cheap?
You can buy shares today for roughly $3.20 per share. And with that price come great fundamentals and growth. This company’s P/E is a jaw-dropping 5. That’s right – this company is quite profitable, reporting earnings of 84 cents per share for all of 2007.
These earnings are no anomaly…this is a legitimately profitable company on the brink of launching new – and potentially very lucrative – operations in China. Its revenue is almost six times what it was in 2005. Its profit margins are strong and stable, and its return on equity is an impressive 45%. This company really is one of the best-kept secrets on the bulletin boards. And 2008 is set to be an even more lucrative year.
The company is developing its own brand and supply chain connections for the Chinese market this year through its new subsidiary New-Tailun. This move will surely turn heads once it gets off the ground…
They have two important goals in mind for this year: to expand its China operations (which we mentioned above) and to launch its stock on a major exchange.
It’s no secret that the company is looking at a move. They filed an application for listing on the Amex this past week. And just last week, the company added an independent director to bring its board in compliance with SEC rules. If and when this company moves to the Amex, its current valuation will not last long at all.
Right now, we value this stock at roughly $5 per share, using a model that assumes completely stagnant growth… That’s a cool 40%-plus from where it’s sitting today. And that’s only if growth slows to a halt this year…something we doubt will happen anytime soon, given this experienced company’s expansion plans.
Sure, this mystery company’s valuation is compelling. So is the growth story – over the past 10 years, the company has grown annual sales at a steady 30% clip. And China’s low labor costs and even lower tax rates for exports sweeten the deal. But there’s one key factor that makes this a great investment: management.
No, we’re not talking about experience or vision or any other intangible asset that a great management team might bring to the table. Instead, this management team is heavily invested in the company’s stock. Management owns a whopping 47% of the company’s common stock. This is the only way for management to make its fortunes with this company. Salary compensation is very low – the CEO receives only about $20,000 per year.
So naturally, management will do everything in its power to increase the value of those shares. And when it wins big, you will win with it…
for The Daily Reckoning
April 2, 2008
P.S. You can find out all about this company (including its name), and others that are flying just below the radar, poised to jump onto a major exchange. But the interesting thing is – these "jumper" stocks bank the vast bulk of their profits before making the transition to a major exchange.
Greg Guenthner has dedicated himself fully to investigating the opportunities available to investors in the oft-overlooked bulletin board companies. In other words, he looks at the whole story. It’s telling too, because not one of the companies he has in his recently released Bulletin Board Elite portfolio is down. Companies traded in this arena stand to make huge gains when they list on the major exchanges.
What do we make of this?
Well, let’s step back and take a look.
The danger, of course, is that the markets are signaling that we are dead wrong. Stocks are healthy…gold is not. That’s what yesterday’s news could be telling us. If that is so, we want to close out our Trade of the Decade right now, hole up in a monastery somewhere, and rethink our whole Weltanschauung. In the thin air and dim light, with no alcohol available, perhaps we’ll be able to see things more clearly. We’ll come to realize, finally, that paper money really is a good thing; that Alan Greenspan and Ben Bernanke are not only geniuses, but saints too; that Wall Street labors night and day for the betterment of mankind; and that now is the time to dump gold and buy stocks.
First, we have to recognize that no matter what is the long-term trend, it’s not going to announce itself like the new ambassador to the Court of St. James. Instead, it’s going to sneak in like a thief in the night. We’re not even going to realize it has been here until we wake up the next morning and find the silver missing.
Looking around, we see a strange and marvelous scene. On the cover of yesterday’s Independent newspaper, for example, there is a photo of a long line of people lining up for food stamps in New York.
"The Great Depression," says the headline. "Food stamps are the symbol of poverty in the U.S. In the era of the credit crunch, a record 28 million Americans are now relying on them to survive – a sure sign the world’s richest country faces economic crisis."
Again, we see the sad evolution of the U.S. of A. since the end of the ’60s. Then, fewer than five million people received food stamps. Now, nearly six times that number are living on them…after, what was supposed to be the biggest boom the world has ever seen. Of course, dear reader, we know that the boom was a phony. It made Indians and Chinese much, much richer. But Americans were left out. They got to spend their wealth, not make more of it. And now, nearly 26 years after the boom began, Americans find that they owe more money to more people in more places than any people ever did. What’s worse…while wages shot up among our old adversaries – Russia and China, in the 50 states, the average person earns about the same thing, in real terms, as he earned during the Carter administration.
And now, to make matters worse, he faces an economic downturn.
Comparisons with the ’30s keep coming up. The last time there was a nationwide drop in the housing market was in the ’30s. Not since the ’30s, has there been such a crisis in the finance sector. And the last time there was such a hubbub of pressure to reform Wall Street was – you guessed it – the ’30s.
And yet, for all the talk of ‘depression’ – where is it? It is nowhere. So far, the depression is as phony as the boom that preceded it.
In the real Great Depression of the ’30s, thousands of U.S. banks failed. How many have failed recently? One out of every four working people (usually men, in that era) was out of a job in the Depression. Now, the unemployment rate is one out of every 20. In the Great Depression growth went negative. In nominal terms, GDP was almost cut in half during the ’30s. But so far as we know, U.S. GDP growth is still positive. The IMF, always a little behind the times, says the United States will post a 0.5% growth in ’08.
And what about the stock market? The Dow hit its peak on Sept. 3, 1929, at 381…collapsed…rebounded…and sank again. By the time it was over, the Dow and sunk to 41. So far this time, the Dow is off 7%. And yesterday, it shot up more than the entire Dow value in ’29. U.S. stocks still trade at 18 times earnings – compared to barely 8 at the bottom in the ’30s.
Obvious question: Where’s the depression?
Obvious answer: There ain’t one…at least, not yet.
Obvious next question: Then what’s causing so much trouble?
*** There ain’t no Great Depression. But that doesn’t mean that there aren’t a great many depressing financial statistics…and a great many financial decisions in need of correction…and a great number of people who will wish they had done things differently.
But yesterday, stock market investors seemed to think the worst that could be seen had been seen; it was time to bid up stocks again.
Of course, investors always think they see the end…long before the end actually comes. In ’29, the greatest economist of his day, Irving Fisher, proclaimed the sell-off over in November. The market "was only shaking out the lunatic fringe," he observed. Of course, it soon shook out everyone else.
And in 1990, the Japanese stock market also began to collapse. Then too, the greatest minds of the time – in America as well as in Japan – looked with favor on the Nikkei. The index hit its high of 39,000…and then began an historic decline. At 35,000…30,000…and 25,000 analysts pronounced the crisis over. Each time the Nikkei fell, it was another "buying opportunity." But the collapse didn’t stop. It kept going until 80% of the Nikkei’s capitalization had been wiped out. Now, 18 years later, you can still buy Japanese shares at 60% off.
While U.S. business still seems fairly solid, generally, the financial sector is hurting. The banks say they will cut as many as 200,000 jobs. George Soros, speaking on the BBC last night, said he thought this was just part of a very big, very long credit cycle downturn. Credit has been expanding since the end of WWII. Now he thinks it will contract for a long time.
Corporate bond sales are down 32% in the first quarter. "Failure rate rockets for buy-out companies," reports the Financial Times.
Charles R. Morris has a new book out. The Trillion Dollar Meltdown, he calls it. He says we’ve only seen the beginning of losses in the financial sector. In addition to subprime, there will be mega-losses in high yield bonds, leveraged loans, credit card debt and credit default swaps (which alone represent about $45 trillion of face value).
We mentioned the troubles in ’29 and in Japan deliberately. The current crisis (to the extent there is one) has its roots in finance – just as those two did. Most often, a recession is led by the real economy, not finance. Typically, the economy went into recession and pulled down stock prices. This time – as in ’29 and Japan – the crisis is POTENTIALLY more dangerous. Because it is finance pulling down the rest of the economy.
The part of the economy in worst shape now is the consumer. He’s the one whose salary has not gone up. He’s the one whose house is being foreclosed. And he’s the one who’s got to buy gas and food.
"The gap between the haves and the have-nots only continues to widen," notes Free Market Investor’s Christopher Hancock. "And loose monetary policy will only strengthen this trend. On both ends, billionaires and bankruptcy claims flourish. Big banks and Big Oil have seen the windfall, while Main Street refinanced to keep pace. Many have been living on borrowed time. Unfortunately, the clock seems to have struck midnight.
"Main Street will turn to politicians for help. More regulation and relief may follow. That will require more dollars and more taxes. Barack, Hillary or McCain… who’s to say? But we question what person really wants to inherit this mess.
"Horace Walpole once wrote, ‘The world is a tragedy to those who feel, but a comedy to those who think.’ ‘But the real world,’ John Irving explains, ‘is tragic to those who think and feel; it is only comic to those who have been lucky.’"
Banks now have twice as many foreclosed houses as they did a year ago. People take bus tours of foreclosed properties – looking for bargains…and generally depressing prices all over town. In Philadelphia, according to one report, they’re going to stop selling the foreclosed properties – to give the housing market a chance to recover.
People are buying fewer SUVs. Hummers are having trouble finding buyers…(we have a brother in Virginia with one; he says his daughter refuses to ride in it, citing environmental damage). Consumers are getting more careful when they go to the grocery store.
And even in the Hamptons, apparently the housing market is in a slump.
*** "We’re so sorry…but maybe you should come back when you have more money," said the bank manager. We were trying to open an account in London at a private bank. But it was a club that we couldn’t join. Not enough money.
No matter how much you have, you will always feel like you don’t have enough.
The Daily Reckoning