Seeking Alpha
Small-cap, macro, value
Profile| Send Message|
( followers)  

A company that never produced a profit is experiencing what looks like the mother of all rallies, leading investors to wonder: what's going on? The shares of VisionChina Media (VISN) are on a tear, as you can see in the graph below:

(click to enlarge)
The shares are already up more than 1000%(!) for the past quarter - yes, they're up more than tenfold - and it's really hard to see exactly what's behind this.

What do they do?
The company places LCD screens in public transport vehicles in China, which show content and advertising, using joint ventures contracts and exclusive agency agreements, with a total 110,383 digital displays on mass transit systems.

An interesting metric from their latest presentation (which is a nice intro to their business) is that their cost per impression (CPM) is just 19.7% of TV, but needless to say, not everybody on the bus will watch their screen.

This doesn't seem a business model which is able to generate much in the way of non-linear returns, that is, disproportional increases in profitability or cash flow due to network effects or economies of scale and scope. It's more like a bread and butter business, what you put in you get out, with some return that's more or less stable.

There is some fantasy in the company joining with the Chinese Soccer League (CSL) and other sports events, which gives them a lot of exposure, but the business model is distinctly linear. To increase revenue they have to increase inputs (programming, acquiring clients, put up screens, etc.) and the company hasn't managed to be profitable since they went on the Nasdaq in 2007.

Some basic figures

There is mostly improvement:

  • Average ad revenue per broadcasting hour improved by 3.3% (qoq) [Q3 PR]
  • The company sold an average of 7.95 advertising minutes per broadcasting hour in its network in the third quarter of 2013, an increase of 11.5% [Q3 PR]
  • Total revenues were $28.5 million in Q3 2013, a decrease of 14.0% from $33.2 million in Q3 2012 and an increase of 6.9% from $26.7 million in the second quarter of 2013
  • Advertising service gross margin was 23.4% in Q3 2013, compared to gross margin of 9.8% in Q3 2012 and gross margin of 16.8% in Q2 2013.
  • As of September 30, 2013, the Company had 666 employees, compared to 763 employees as of September 30, 2012 and 700 employees as of June 30, 2013.
  • Operating loss was $2.9 million in Q3 2013, compared to operating loss of $12.6 million in Q3 2012 and operating loss of $5.2 million in Q2 2013.
  • Net loss attributable to VisionChina Media shareholders (GAAP) was $3.7 million in Q3 2013, compared to net loss of $14.3 million in Q3 2012 and net loss of $5.8 million in Q2 2013.

Actually, all this doesn't matter all that much as this doesn't seem to be the harbinger of any quantum jump in improvement reflected in the share price, this is the slow and grinding kind of stuff, the result of a sustained effort. We don't want to belittle it, but next to a tenfold share price increase, it's hard not to do that.

It's worth noting that despite some impressive improvements on the bottom line, the company still produces a loss to the tune of 73 cents per share in the third quarter of 2013 and it used $2.3M in operating cash flow. I'd also point out that since their Nasdaq listing, they've never made a profit.

Guidance is quite robust though:

The Company estimates its advertising service revenue in the fourth quarter of 2013 will be in the range from $30.0 million to $31.5 million, excluding 6% Value Added Tax, representing year-over-year growth of 17.6% to 20.7% or quarter-over-quarter growth of 6.5% to 11.8%. [Q3 PR]

That's a little more than single digits, a healthy 17-20%. Nothing about reaching profitability though. Does this warrant a ten-folding stock price? Well, another way to look at it is to consider the stock price before the big surge early October last year, when the price was just $2.

What set this explosion off?
There is an 800 pound gorilla in the form of a court case with Vision China and 'selling shareholders'. There was a final decision by the Appellate Division of the Supreme Court of New York in September:

The Appellate Division Ruling

(A) affirmed the Trial Court's orders of November 3, 2011 granting the motions of the Selling Shareholders to dismiss the claims and counter-claims of VisionChina Media and Vision Best (collectively, "VisionChina") for fraud, unjust enrichment and declaratory judgment,

(B) reversed that part of the Trial Court's order of June 15, 2012 that denied the Selling Shareholders' motion for partial summary judgment on the defense asserted by VisionChina to the Selling Shareholders' claims for breach of contract, including the defense based on allegations of intentional destruction of certain electronic data that was to be conveyed as part of the sale of DMG's assets, and

(C) affirmed the Trial Court's denial of the Selling Shareholders' motion to dismiss the breach of contract and indemnity claim asserted by VisionChina, seeking an amount not less than US$2,785,633, based on alleged inaccuracies in the representations and warranties within the Merger Agreement.

With respect to the orders entered by the Trial Court regarding the attachment of VisionChina's assets, the Appellate Division Ruling

(D) reversed the Trial Court's order entered on November 4, 2011, granting the motion by the Selling Shareholders for pre-judgment attachment of assets of VisionChina,

(E) reversed the Trial Court's order entered on June 15, 2012, granting the motion by the Selling Shareholders to confirm the two ex parte orders of attachment they previously obtained in the aggregate amount of US$60 million (the "Attachment Orders"), and

(F) reversed the Trial Court's order entered on August 13, 2012, granting the motion of the Selling Shareholders' to compel VisionChina to transfer US$60 million into New York pursuant to the Attachment Orders (the "Turnover Order").

Neither VisionChina nor the Selling Shareholders sought leave to appeal the Appellate Division Ruling, which therefore became final. On July 15, 2013 the Trial Court entered an order requested by the Selling Shareholders granting summary judgment on two of their causes of action in the amount of $60 million plus interest and certain costs and permitting execution on such judgment. On July 26, 2013 the Clerk of the Trial Court entered judgment in favor of the Selling Shareholders pursuant to the July 15, 2013 order, directing that they shall recover from VisionChina the sum of $71,800,047.46 and have execution thereof (the "New York Judgment"). [Company press release Sept 6 2013]

Here is some history, from their annual report:

As of December 31, 2012, we had an overdue consideration payable of US$64.0 million in relation to the acquisition of Digital Media Group which is currently the subject of litigation with the Former Digital Media Group shareholders. In August 2012 the Supreme Court of the State of New York (the "New York Court") ordered us to transfer US$60 million into New York State to be held in the custody of the New York City Sheriff's Office or into an escrow account controlled by the New York City Sheriff. US$4.5 million that were held by us outside the China [sic] was transferred to the New York City Sheriff accordingly as of December 31, 2012. We were not able to transfer the remaining balance of US$55.5 million as ordered by the New York Court as we had cash and cash equivalents of US$29.0 million only as of December 31, 2012, most of which were held by our subsidiaries or consolidated variable interest entities in China and moreover we had not been able to obtain approval from the relevant authority in China to transfer assets or cash held by us in China to satisfy the transfer order of the New York Court.

Here is how the company is provisioning for this:

The Company recorded no additional contingent loss in connection to the litigation with the selling shareholders and former management of Digital Media Group Company Limited ("Digital Media Group") in the third quarter of 2013, compared to contingent losses of $1.4 million and $0.6 million in the third quarter of 2012 and the second quarter of 2013, respectively. As of September 30, 2013, the Company had a cumulative provision for losses in connection to this litigation of $11.8 million according to the decision of the New York State Supreme Court dated June 25, 2013. The Company is currently in settlement discussions with the selling shareholders of Digital Media Group. [Q3 PR]

While we're no legal experts, this nevertheless looks like an unmitigated disaster to us. What is there to discuss? The company lost the appeal and that ruling became final, even they themselves agree with that.

The company is on the hook to the tune of $72M, and they have only reserved $11.8M of it. What's more, what cash they have they can't get out of China, even if they wanted to.

We would argue that even if the company had won the entire court case, it would be a stretch to argue that the shares are worth a whopping $31.50 and counting.

Remember, whilst operationally, things are somewhat improving, the company has never produced a profit. In the light of this, and especially in light of the disastrous court case, the 1000% gain in the share price becomes, well, a mystery, but the analysts at the Q3 CC never even bothered to ask a question about what was then still a four-fold gain!

Perhaps the shareholders are celebrating that the company can't, and won't, pay if they don't get permission to transfer the funds abroad from the Chinese authorities, and that might give them some leverage in these "settlement discussions." We have a feeling these shares will be delisted pretty soon.

It's pretty difficult, but you can try to short, because this won't last. The share price is completely detached from any fundamentals and it certainly looks like it is set up for a major share issue, but we can't imagine anyone as daft as to fall for that. Nevertheless, you're warned.

Source: The Surreal Phantom Ten-Fold Rise Of Vision China Media