My decision to follow Chinese small caps was largely Buffett inspired. Buffett was quoted as saying "The 19th century belonged to England, the 20th century belonged to the U.S., and the 21st century belongs to China. Invest accordingly." The uncertainty concerning the Chinese economy and fraud in Chinese companies has caused firesale valuations. While fraud does exist with greater frequency in China, diversification can mitigate this risk. If I have twenty companies double, a few stay stagnant, and 1 or 2 go bankrupt, I will be more than satisfied with the results. In addition, I am traveling to China to visit the companies I am invested in to ensure greater confidence that they are legitimate businesses. Buffett always bought in periods of uncertainty, I will follow his lead.
When Buffett began his investing partnerships, he would only invest in very small and obscure companies, because this is where he found the most undervalued companies. Consequently, although I am not certain, I imagine if Buffett was investing smaller amounts of capital now, he would very likely be buying undervalued small cap chinese companies. Being able to buy the future GEs (NYSE:GE) and Coca Colas (NYSE:KO) in China at P/E ratios of less than 8 is an incredible investment opportunity.
China Clean Energy (CCGY.OB) has a new plant ramping up to full capacity that will be used to produce biodiesel and specialty chemicals. China has been pouring billions of yuan into renewable energy; biodiesel prices should rise with gas prices. China Clean capacity will expand at triple digit rates given full capacity.
China Shuangji Cement (CSGJ.OB) has recently put themselves in a position to uplist through hiring a U.S. based CFO, a reputable auditor, and a New York based legal firm. The recent dilution is justified in our opinion as it adds shareholder value, and isn’t that the point of raising capital anyway?
Puda Coal Inc. (OTC:PUDA) is in the midst of mine consolidation, increasing capacity, and increasing profit margins thanks to the unquenchable thirst for coal on the other side of the world. This is one of the more obvious opportunities. They conservatively forecast the opportunities that they are going to take advantage of and investors are always “surprised” to see that they actually do what they say they are going to do. I’ll tell you what. I’m not surprised.
China Growth Development (CGDI) is a shopping center owner in western China. CGDI is not poised for huge growth in the future, but it is a steady grower trading at a forward P/E of 3. The risk perception in CGDI is mainly due to its low stock price and industry. Buffett always said that he doesn't care about the size of the business, only whether or not he can understand it. We know that shopping malls are exploding in China, so we like the business.
SOKO fitness & Spa group (OTC:SOKF) Operates fitness clubs and spas in China. Their revenue growth in fiscal 2009 was 40.1% with net income growth of 49.5%. Their TTM P/E is 8.8, which makes them undervalued for a company growing so fast. As the Chinese disposable income grows, Chinese consumers will have a greater desire for luxury items. SOKO will grow organically through openings new fitness clubs in undeserved areas. SOKO has a high net margin of 43%, and inside ownership of 41% with ROE of 34%. You can bet we'll be going to their spas when we get to China, lucky us.
China Armco (CNAM.OB) is a distributor of iron ore who is expanding into the scrap metal recycling industry. They have just built a factory that is expected to generate $400 million in revenue, depending on the current price of scrap steel. With expected margins of 8-12%. We can conservatively estimate at full capacity CNAM’s net income to be 32 million. With a market cap of 87 million, the forward p/e is 2.72. The main risk with CNAM is whether they are able to reach full capacity, if that occurs, this company is a gem.
Energroup Holdings Corp (OTCPK:ENHD) is a quickly growing pork producer and distributor. They are currently trading at an adjusted P/E of 5. Just wait till they turn on the afterburners and increase the production thanks to their recently added capacity. It’s going to take a while for the average investor to sort through their documents, but a couple 10-Q’s will definitely relieve a lot of the downward pressure on this stock price.
China Kangtai Cactus Bio-Tech Inc. (OTC:CKGT) is engaged in the production, R&D, and sales and marketing of products derived from cacti. With a P/E of 8 and expanding production, this stock is very cheap. The most exciting prospect for the company is their cigarettes which are made out of cacti. With 400 million smokers in China, the target market is huge. CKGT has a sustainable competitive advantage in that there are no companies that have the amount of cacti reserves they have. This stock is smokin.
Songzai International Holding Group (OTC:SGZH.OB) is an undervalued coal company not strong in gaining investor awareness, which we believe to be one of the main reasons for their low stock price. Investors should be aware of the implications of the recent resignation of their CFO.
Weikang Bio-Technology Group (OTC:WKBT) is a developer and manufacturer of traditional Chinese medicines based in Harbin. They have grown over 100% in the past two years due to acquisitions, and are trading at a P/E of only 5. Again, the lack of an IR firm may be a primary reason for the low valuation in this company.
Disclosure: Long CCGY.OB, CSGJ.OB, PUDA, CGDI, SOKF.OB, CNAM.OB, ENHD, CKGT.OB, SGZH.OB, and WKBT.OB