Fujian Zhenyun is amongst the cheapest global publicly traded companies we've ever encountered, trading for a mere 0.6x EBITDA and 0.6x working capital, despite having tremendous long and shorter term growth opportunities supplying China's infrastructure market, sizeable operating margins (TTM = 20.8%) and ROIC (TTM = 36.4% using Greenblatt definition), and an extremely well capitalized balance sheet. We first learned of the opportunity from Wolfman973's research piece in December of 2007, which did a nice job of explaining the business and the valuation, so if interested, please refer to that piece as well. Fujian manufactures polyvinyl chloride (PVC), polyethylene (PE), and polypropylene (PPR) piping for water distribution (~57% of revenue), communication (~13% of revenue), electric (~14% of revenue), and gas supply (~13% of revenue) for infrastructure projects. When compared to more traditional use of steel products for these applications, Fujian's products offer distinct advantages in that they are considerably lighter in weight, easier to transport and install, and have longer useful lives given that they are more resistant to corrosion and abrasion. Although upfront cost of plastic piping is more expensive than similar size steel piping, plastic piping is overall considerably more cost effective over the full life cycle given all of its other benefits.
The majority of the Company's product is sold to the Chinese government (mostly via distributors), and with a record infrastructure budget announced earlier this year (roughly 9% of GDP vs. 2.4% in U.S), Fujian stands to benefit tremendously. Though some of the Company's products are a bit more commoditized (particularly smaller diameter PVC product), a number of the Company's products are more specialized (large diameter PE and PPR) and are sold for major infrastructure products such as the West to East Gas Piping and Transmission network as well as the South to North Water Diversion Project. Compared to their global peers, Fujian and other players in the highly fragmented Chinese plastic piping industry have much lower input costs in that energy prices, which directly (electricity) and indirectly (resins) comprise roughly 60% of COGS, are fixed at lower prices in China. The Company has maintained very stable margins as shown in the chart below:
Singapore listing risk: Companies in Singapore on average trade approximately 20% cheaper than in Hong Kong, and there has been some speculation that this is due to a couple of frauds that came out earlier in the year in addition to the fact that Singaporean listed companies have had a higher propensity to do dilutive equity raises. We are comforted by the fact that we have had background checks conducted on key executives, they are audited by KPMG and are IFRS compliant, their plants are ISO certified, and we've met with key executives a number of times over the past couple years, including a trip to the Company's headquarters and plant in Fujian province.
Liquidity / insider ownership risk: Insiders own 80 out of 115 million and their shares are not freely tradable. The float of 35 million shares turns over very infrequently, and over the past year, average daily volume has been a mere 37,500 shares per trading day. For those that are able/willing to take this liquidity risk, you should be comforted by the fact that insiders are not content with the current liquidity situation, and are actively looking to garner more liquidity and are considering getting on the main exchange in Singapore (see recent application), a listing in the U.S. (this has been done successfully by a number of Chinese companies, including former Singaporean listed companies), or a listing in China. We have strongly encouraged the Company to consider a listing in the U.S., and they appear more interested in this option than ever. Another point to make here is that given that insiders have no liquidity now, dividends are the only way for them to get a return on equity. Although the Company decided to lower their payout ratio considerably during the downturn in the market and the yield (based on the lowered dividend) is just 2.1%, it appears likely that the Company will raise the dividend.
Valuation: Fujian trades for 39 cents (SGD) and with 115 million shares outstanding has a market cap of ~$45 million SGD (~$32 mil USD). Including minority interest, the Company has net cash of $28 million SGD, and therefore has an enterprise value of ~$17 million SGD (~$12 mil USD). To put this into perspective, over the trailing twelve months, the Company has generated EBITDA less maintenance cap ex of approximately $27 mil SGD, more than the entire enterprise value. Furthermore, although the business is not particularly capital intensive and generates a high return on invested capital, the stock continues to trade below working capital, which is comprised of cash and receivables, most of which are owed to them from the Chinese Government.
1. Listing in the U.S. or graduating to the main board in Singapore, all of which would include increased institutional ownership and a more reasonable valuation