Price-To-Book Values: Use Caution

by: Joseph P. Porter

Editors' Note: This article covers stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

A recent check of U.S. companies that were price-to-book values pulled up eight companies based in China that are listed as incorporated in the United States. Shares in each of these companies can be purchased for less than the companies' book value per share, which would make them attractive bargains - investors would stand to win even if the companies ended up closing shop (at least, in principle).

Since I do my searching armed with my PIC, I think it unlikely that too many companies I turn up are about to close their doors.1 Besides, although I'm a little leery of putting my money overseas - emerging nations seem to have hit a rough spot of late and the developed nations seem to be recovering at an uneven pace - four of the companies look like very interesting investments, and all but one might be worth considering.

Reverse Mergers

All of the eight companies discussed in this article are the products of reverse mergers of one type or another, their status verified by way of their SEC 10-Ks, all of which detail the process by which each company came to be a U.S. company trading on the open market. For those unfamiliar with the process, it goes roughly something like this:

  1. The executives of a private company ("P") purchase a majority of the shares of a dormant, public, "shell" company ("S").
  2. P's executives use their majority-shareholders position to take over the board of directors of S.
  3. S's board then initiates a merger with P, with shares of S transferring to P in exchange for P's assets.
  4. P now assumes S's publicly traded status by virtue of the shares of S it has acquired.

There are many advantages to effecting a reverse merger:

  • While the private company must still file appropriate information with the SEC, it does not have to go through a review process by state and federal regulators (which IPOs do);
  • The private company does not have to raise as much capital as it would for an IPO;
  • The process can take as little as one month to complete (as opposed to as much as a year for an IPO);
  • The "new" company has increased access to capitalization.

There are some possible disadvantages, however:

  • Lack of regulatory review may permit companies to go public that might not have otherwise been qualified to do so;
  • Lack of regulatory control could enable fraud and/or abuse;2
  • Remaining shareholders of the shell company may realize no improvement in value for their shares.

A reverse merger is a completely legal maneuver by which private companies can go public while saving time and money. Because the potential for abuse exists, however, the potential investor in a company that has gone through a reverse merger needs to be careful to exercise full due diligence to be sure that the "new" company is functioning properly with its finances properly available for examination.

The Companies

Readers familiar with my PIC criteria know that those criteria select for companies that exhibit efficient and effective management and operations (reflected in returns and operating margin), as well as a measure of financial responsibility and stability (in the form of low debt to equity, as well as liquidity). None of the companies discussed below offer dividends. Clicking on the names of the companies below will take you to the companies' websites.

The first two companies are in the plastics industry: China XD Plastics Co. Ltd. (NASDAQ:CXDC) ("China XD") and Guanwei Recycling Corp. (NASDAQ:GPRC) ("Guanwei"). Looking at China XD first, we note the following basic financial data:

  • Current price (1/29/2014): $4.70
  • Market Cap: $224.99 million
  • 2013 Revenues (through 9/30/2013): $666.26 million
  • Debt/Equity: 0.75
  • Book value per share: $9.30
  • Price to Book: 0.50

China XD is one of the largest manufacturers in automobile plastics in China. Founded in 1985, the company has three plants with a combined 88 production lines in Harbin - where the company was founded - and is currently expanding into Southwest China. The company provides parts for 24 automobile brands and 80 vehicle models. In addition to its connections with the automobile industry, the Company also provides plastics for shipping, rail and aircraft industries.

Guanwei, as its company name implies, specializes in recycling plastics. Here is a quick rundown of its financials:

  • Current price (1/29/2014): $2.75
  • Market Cap: $28.63 million
  • 2013 Revenues (through 9/30/2013): $48.87 million
  • Debt/Equity: 0.00
  • Book value per share: $7.36
  • Price to Book: 0.37

Guanwei addresses the recycling needs of a country that is currently plagued by pollution. It uses environmentally safe technologies to recycle plastics for use in China's construction, infrastructure and shoe industries, and has been certified by the Chinese government to provide customs and inspection services for the plastics it imports from Europe; its recycling processes have been certified by both Chinese and German regulatory agencies. The company is expanding its market beyond China, currently selling to Nigeria and Saudi Arabia.

The next two companies to be considered are in the business of manufacturing fertilizer, an important industry in a country that is intent on maintaining a 95% level of self-sufficiency with regard to their food supply.3 That both companies produce organic fertilizer also helps to address the pollution problem China faces. The first company we consider will be Yongye International, Inc. (NASDAQ:YONG) ("Yongye"):

  • Current price (1/29/2014): $6.58
  • Market Cap: $333.54 million
  • 2013 Revenues (through 9/30/2013): $223.24 million
  • Debt/Equity: 0.15
  • Book value per share: $12.75
  • Price to Book: 0.52

Yongye manufactures fulvic acid which it sells in liquid form as a fertilizer to be sprayed onto crops, while selling fulvic acid in powder form to be mixed with feed for livestock. Since fulvic acid is derived from dead plant matter, it is a natural fertilizer, thus helping to reduce the use of chemicals. The Company manages a multi-tiered distribution network that branches out to over 32,000 branded retailers,4 enabling the company to penetrate into the widely dispersed rural farm population.

The other agricultural firm is China Green Agriculture, Inc. (NYSE:CGA) ("China Green"):

  • Current price (1/29/2014): $3.46
  • Market Cap: $109.02 million
  • 2013 Revenues (through 6/30/20135): $216.90 million
  • Debt/Equity: 0.05
  • Book value per share: $8.77
  • Price to Book: 0.39

The foundation of China Green's business is the manufacture of humic acid, a natural product of the degeneration of dead plants. This may sound like the fulvic acid produced by Yongye, and it is - fulvic acid is derived from humic acid. China Green produces its humic acid from weathered coal. The humic acid is then augmented with other nutrients - both organic and inorganic - and sold in liquid form that can be sprayed directly onto plants or injected into the soil.6 Their production and distribution system is designed to tailor specific fertilizers to the needs of each of the 22 provinces, four autonomous regions and three municipal cities they serve.

The four companies above are perhaps the strongest of the eight companies I'll discuss here, but the remaining companies have much to offer, as well. SkyPeople Fruit Juice, Inc. (NASDAQ:SPU) ("SkyPeople") - the only discretionary consumer goods company among the eight - puts up these numbers:

  • Current price (1/29/2014): $1.90
  • Market Cap: $50.12 million
  • 2013 Revenues (through 9/30/2013): $48.43 million
  • Debt/Equity: 0.15
  • Book value per share: $6.58
  • Price to Book: 0.29

SkyPeople produces, as the Company name implies, fruit juice. Their beverages are sold in glass bottles or "beverage in a box" ("BIB"). They also produce fruit juice concentrate (apple, pear and kiwifruit), and fresh fruits, vegetables, and fruit byproducts (fructose). While their main market is China, they also export products to targeted markets in Asia, Europe, the United States and Canada.7

Skystar Bio-Pharmaceutical Company, LTD. (NASDAQ:SKBI) ("Skystar") is a major manufacturer of veterinary medicines, vaccines, micro-organism products, and feed additives:

  • Current price (1/29/2014): $3.86
  • Market Cap: $29.34 million
  • 2013 Revenues (through 9/30/2013): $32.86 million
  • Debt/Equity: 0.10
  • Book value per share: $13.38
  • Price to Book: 0.29

Perhaps most significant among Skystar's products is its H5N1 (Avian Influenza) vaccine which is directed for use in chickens and other poultry, in an effort to keep avian flu out of the human food chain. As well, Skystar's is the only domestically produced avian coccidiosis vaccine that is protected by China's Bureau of Agriculture (avian coccidiosis is a leading cause of death among chickens in China). Skystar also has an active research program in partnership with the Shanghai Institute of Animal Parasitology and the Shanxi Microbial Institute.8

Gulf Resources, Inc. (NASDAQ:GURE)9 ("Gulf") is China's largest producer of bromine, and is fourth-largest in the world:

  • Current price (1/29/2014): $2.30
  • Market Cap: $88.25 million
  • 2013 Revenues (through 9/30/2013): $88.29 million
  • Debt/Equity: 0.00
  • Book value per share: $7.47
  • Price to Book: 0.31

Gulf operates through two wholly owned subsidiaries: Shouguang City Haoyuan Chemical Co. ("SCHC") and Shouguang Yuxin Chemical Co. ("SYCI"). SCHC produces bromine and crude salt, while SYCI produces chemicals used in the oil and gas industry as well as in the papermaking industry. The market for bromine is large - it is used in refrigeration, pharmaceuticals, agrochemicals and oil-field industries - and China currently produces 80% of the bromine consumed in country.10

The final company to be considered here is Trunkbow International Holdings Ltd. (NASDAQ:TBOW) ("Trunkbow"):

  • Current price (1/29/2014): $1.36
  • Market Cap: $50.07 million
  • 2013 Revenues (through 9/30/2013): $13.64 million
  • Debt/Equity: 0.18
  • Book value per share: $2.67
  • Price to Book: 0.51

Trunkbow is a telecommunications company that specializes in enhancing mobile phone services. The company offers five "mobile value added solutions" ("MVAS") including messaging services, mobile business card service, and free roaming. They also offer mobile payment applications that enable users to use their phones for making payments for a variety of services.11

Prospective investors in Trunkbow should be aware that the company has entered into a merger agreement for a "going private" action involving itself and "parent" company Trunkbow Merger Group Limited, a company incorporated in the British Virgin Islands. Trunkbow would become a wholly owned subsidiary of the parent company, and shares will transfer to the owners of the parent.12

It is not clear that this is the intent of the action, but such action is consistent with the definition of a "reverse triangular merger," a variation of the reverse merger process. If this were a reverse triangular merger, Trunkbow Merger Group Ltd. would become a public company established in the U.S., and would acquire certain rights and properties it would otherwise not be able to assume.13

Treading Lightly Around the SEC

Before considering an investment in any of the above "bargains" there are a couple of cautionary notes to be made. One concerns investigations being undertaken by SEC involving the activities of the 130 China-based companies, many of which involved reverse mergers. The investigations center around the Chinese units of four U.S. accounting firms. The SEC has filed 20 lawsuits and proceedings against Chinese companies alleging "fraudulent practices." The SEC may investigate other companies represented by the accounting firms.14

Two of the companies portrayed above were represented by one of the four firms attracting SEC scrutiny: KPMG. That accounting firm has represented both China XD Plastics and Yongye International, both of which recently reaffirmed their engagement of KPMG as auditor.15 I have not been able to ascertain whether either company is being investigated by the SEC.

Soft Chinese Economy?

China's most recent PMI indicated that the Chinese economy is contracting.16 While it has seemed as though China was one of the emerging markets that had the momentum to keep growing, it has seemed as though the economy there is not as strong as originally thought. Only time will tell if China is moving towards a more consumer-driven economic model - as analysts seem to think - and, if so, what the long-term effects of such a move would be.


This article is for informational use only. It is not intended as a recommendation or inducement to purchase or sell any financial instrument issued by or pertaining to any company or fund mentioned or described herein.

Before investing, readers are reminded that they are responsible for performing their own due diligence; they are also reminded that it is possible to lose part or all of their invested money.

All data contained herein is accurate to the best of my ability to ascertain. All opinions contained herein are mine unless otherwise indicated. The opinions of others that may be included are identified as such and do not necessarily reflect my own.

1 It can happen, though. Enzon Pharmaceuticals (OTCQX:ENZN) is one company the PIC identified that is now little more than a shell company that collects royalties and distributes them to shareholders. It has no other operations, having sold off and/or returned all properties - intellectual and otherwise - that it once had. Read about it here.

2 In 2011 the SEC warned investors of the potential for fraud when dealing with companies involved in reverse mergers and implemented new standards for reverse-merger companies.

3 According to Xinhua news agency reports.

4 Yongye International, Inc. website.

5 China Green Agriculture, Inc.'s fiscal year ends on June 30.

6 China Green Agriculture, Inc. website.

7 SkyPeople Fruit Juice Inc. website.

8 Skystar Bio-Pharmaceutical Co., Ltd. website.

9 Some sources list the ticker for Gulf Resources, Inc. as "GFRE"; however, according to the SEC, "GURE" is the appropriate ticker for the company.

10 It has been claimed that in February, 2012, Shandong Haoyuan Industrial Group Co., a private business, was interested in purchasing Gulf as a step in its plan to consolidate the Chinese bromine industry. Gulf reported that it had not yet received an offer.

11 Trunkbow International Holdings Ltd. website.

12 Trunkbow press release.

13 See, for instance, Investopedia and eHow.

14 Wall Street Journal blog, 1/22/2014.

15 According to recent 8-Ks filed with the SEC.

16 See Market Watch article here. Also in Barron's here and here.

Disclosure: I am long ENZN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I hesitate to say I am "long" ENZN, but I do hold shares of the company.

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