For anyone who reads my articles, it should be no surprise that I aim to find large disconnects between market value and intrinsic value that I believe are caused by investor fears of Chinese compaines. My aim is to invest in a small basket of good Chinese companies that have been unjustly devalued by fears of the larger Chinese stock space driven by short sellers who publish words passed off as "research" while profiting from their short positions. China Wind Systems (CWS) is one company in which I am invested that has gone through two recent corporate actions that I believe add significant shareholder value by providing elevated transaperency and investor confidence. From my first article on CWS, I still firmly believe that when the shares go back to trading on fundamentals, they would be worth at least $6.50, and these corporate actions will help the shares achieve a higher valuation through providing transparency and investor confidence.
Summary of Valuation Drivers
Before I get into the two corporate actions, I would like to recap my position that CWS is highly undervalued based on fundamentals driven from its publicly filed financial statements. I believe much of the reason for its current valuation is due to general fears of financial misconduct in the Chinese stock world. While short sellers have launched allegations against other Chinese companies, none has been alleged on CWS, and the company appears to have taken large strides to preemptively instill confidence in its books.
CWS trades near its book value, or theoretical liquidation value of $57MM. Its .71x Trailing Price to Sales ratio means CWS is going to report more sales in 2010 than its entire market cap; by a lot. Between 2008 and 2010, CWS grew sales at an annualized rate of 38%, doubling sales during that time. And the company is highly profitable and still growing rapidly. CWS will earn $12MM in net income in 2010, according to management's guidance. If you apply a conservative 10x trailing P/E multiple, you would get roughly $7 per share. Even my proposed valuation of a 10x trailing p/e, which values the shares at double today's price seems conservative for a company that has doubled its sales while staying highly profitable in the last three years.
These Corporate Actions Should Increase Shareholder Value By Instilling Confidence
On January 4 of this year, CWS announced that effective immediately, it was appointing a new CFO. The old CFO left with no disagreements with the books. The new CFO is Mr. Fernando Liu, CPA. In my opinion, this is a value-adding proposition for a couple of reasons. First, My Liu is a registered CPA, a lifelong credential to which he owes intense ethical standards. He is also a partner in Barron Partners, the same investment firm that helped CWS raise capital. Given Barron's exposure to CWS, and the fact that they placed their own skin inside the company, there is no fathomable scenario I can ponder that CWS has any issues with its accounting. Additionally Mr. Liu bought 7,500 shares so far in 2011. Those shares represents about USD$27,000, which is likely not his entire livelihood but should be looked at as a positive indication of where he sees the company going from an insider’s perspective.
On January 13, CWS contracted KRC Business Consulting to help it implement a SOX 404 Compliance system. SOX 404 is a very difficult designation to achieve, and many Chinese and even U.S. companies are not compliant. In additional to CEOs and CFOs being held personally responsible for the numbers their companies report, SOX 404 establishes technological controls and testing procedures for checking, re-checking and confirming the accuracy of the financial statements. It is expensive and time consuming to implement and maintain, though once compliant, there should be no question as to the integrity of the books, as this Chinese company's books will be more scrutinized and transparent than many U.S. firms. I'll remind the readers that there is no current question as to CWS's financial integrity, and these actions represent a proactive and preemptive step. It also represents a step above and beyond other Chinese and even U.S. companies by instilling an elevated level of confidence in its operations.
I see these actions as highly positive and value-adding. In today’s volatile investing world, much emphasis seems to have been placed on financial reporting. CWS has just stepped up to the plate in a significant way by investing heavily into its corporate integrity. I have increased my allocation to this security after these developments and will wait for CWS to trade on financial fundamentals, which I believe equates to about $6.50 per share and rising with each additional contract signing.
Disclosure: I am long CWS.