• Skystar is one of the leading manufacturers of veterinary vaccines and medications for distribution in the rapidly growing Chinese market where the demand for veterinary medicines currently exceeds supply. Skystar’s current product offerings include over 70 products with more than 50 new products currently in development.
• The Company has already established a strong early track record of revenue and net income growth that we believe moves it past the highest risk startup phases and positions the Company for strong continuing growth. Revenue and Net Income have exhibited CAGR (Compound Annual Growth Rates) of 124% and 346% respectively over the last 3 fiscal years.
• The Company’s products target significant animal diseases that not only often cause significant economic loss but can also present significant health risks if transmitted to humans.
• A recent tripling of production capacity with a new GMP approved facility positions Skystar to address a larger share of the estimated 70 billion dose annual market for animal vaccines and medications. The overall revenue opportunity in the Chinese market is estimated to exceed $2 billion.
• Several key products in development including a highly efficient Avian Influenza Inactivated Vaccine for poultry and birds have the potential to not only provide important solutions to major health problems but put Skystar on a higher growth and visibility trajectory.
• Primary risks to our valuation include rapidly changing highly competitive markets, regulatory and political uncertainties associated with the evolving Chinese economy and the need to successfully complete clinical trials and regulatory approval processes for new products in the pipeline.
We are initiating coverage of Skystar with a Buy rating based upon the Company’s diversified product line, very large available markets in the rapidly growing Chinese economy and a strong documented recent track record of revenue and earnings growth. If as we anticipate, management is able to continue producing rapid growth in revenue and earnings the shares are expected to trade at multiples afforded emerging growth stocks of more established listed companies. We are projecting FY2007 revenues of $13.96mm producing EPS of $0.21. Our DCF model based upon these estimates produces a 12-18 month price target of $2.75 and we therefore rate the shares Buy with a projected return of 83% from recent prices.
Leading contender in rapidly growing Chinese markets
Skystar is emerging as a strong competitor in the PRC (People’s Republic of China) biopharmaceutical and animal health market segments. The Company has been doing business since 1997 in the PRC through its variable interest entity (“VIE”), Xian Tianxing Bio-Pharmaceutical Co., Ltd which will be discussed in more detail later in this report. As an established player with a proven track record of growth, owner of a new GMP Certified manufacturing facility that effectively doubles capacity and certified as a “new or high-technology enterprise” located in a high-tech zone we believe Skystar is well positioned for future growth. We expect the diverse current product portfolio combined with a robust development pipeline to produce a CAGR in revenue for Skystar that is likely to exceed the overall market growth rate of 8.4% through 2008. The demand for veterinary medicines and vaccines in China far exceeds the supply. The current addressable market in China for veterinary, livestock and poultry vaccines is over 70 billion doses; however the market supply is only 32 billion doses. The current addressable market in China for micro-ecologics is 3 million tons, while the current supply output is 200,000 tons. According to the Chinese Agriculture Ministry, the demand for vaccines for livestock and poultry increases at a 15% annual rate. We believe Skystar’s current addressable market exceeds $2billion and could be significantly greater as new products are introduced.
Products target large animal populations with serious disease conditions
The Company currently manufactures and sells over 70 products segmented into four product lines. Many of the currently available products focus on diseases or parasites that represent not only serious risks to the health of large animal populations but in many cases pose major risks to human populations if the diseases are not properly addressed and transmission from animals occurs. As China’s economy grows rapidly the demand for food from animal sources is expected to rise dramatically and become an increasingly critical element in the future economic development of the PRC. The large potential losses from animal disease outbreaks and attendant health risks to human populations make this an area of critical focus going forward. Many serious animal diseases must be prevented with vaccines or supplements because they can not be effectively treated once an outbreak occurs.
Development pipeline offers significant additional growth driver
Skystar has approximately 50 new products under development including a number of new products that could have “blockbuster” type potential impact on the growth of the Company going forward. A prime example is an effort currently underway to develop an inactivated H5N1 Avian Influenza Vaccine for animals. Skystar is designing a new technology that is based on a multi-surface cell propagating system. This technology offers a process that is more controllable and can more easily keep up with the virus mutations. The process is more efficient and as a result can be mass-produced to keep pace with high demand. We believe that the major global pharmaceutical companies are focusing on vaccines to prevent people from contracting avian flu. Skystar's novel approach is to focus on vaccines to be administered to farm chickens and other poultry to prevent them from catching H5N1 Avian Influenza. This type of vaccine is well within Skystar's current scope and expertise and could potentially prevent an epidemic/pandemic by controlling an outbreak at the source (the poultry).
Broad distribution network-Diverse customer base
Skystar has the advantage of a strong and well established strategic distribution network of over 400 independent distributors that cover 27 provinces including the vast majority of the available geographic markets in China. Skystar sells to over 70 major direct customers in addition to coverage through its distributors and has no single customer that represents even as much as 1% of total revenue. In fact the 3 largest customers together recently accounted for only about 3.3% of total revenue and the top 10 less than 6% which eliminates any concern about customer concentration or potential pricing pressure due to a few large customer accounts.
Experienced management with strong track record in a fragmented market place
Skystar is led by an experienced management team that is focused on achieving a leadership position in the vaccine and biopharmaceutical markets. Senior management has demonstrated the ability to generate strong revenue and earnings growth and many team members have long industry specific experience even prior to forming Xian Tianxing.
Financial Condition & Forecast
Although Skystar will need to raise additional capital to support the Company’s rapid growth and management’s aggressive growth strategy the Company has already established the foundation of a strong and growing multi-product revenue stream. This is one significant advantage of participating in a high growth market for the last several years and having gained significant market share providing an anchor upon which future growth can rest. Due to the relatively dynamic conditions in the Chinese market and constant change in the biopharmaceutical industry we are modeling only through 2007 on our coverage initiation and will be adjusting our model as the story evolves.
The Company is building from a strong performance in 2006, with the first 9 months already reported and management guidance recently issued for 4Q06. For 4Q06, management expects revenue in the range between $1.80 million and $2.00 million. This would represent an increase of between 28% and 42% over the $1.41 million in sales reported for the fourth quarter of 2005. For fiscal year 2006, Skystar estimates revenue of $9.12 million to $9.32 million, an increase of 54% to 57% over the $5.94 million recorded for all of 2005. Management’s confidence in these numbers is supported by the completion of its new facilities, which provides increased production capacity to bring supply in line with rapidly growing market demand. This increased demand is driven by the combination of reduced competition due to the stringent new GMP Certification Standards and the completion of Skystar’s new GMP Certified facilities. This puts Skystar in a strong competitive position going forward which we expect to support continued rapid revenue growth. Our estimates are at the high end of management guidance for the 4th quarter due to the documented track record of growth over the last several quarters. We are projecting 4th quarter revenue of $1.99mm which produces EPS of $0.02.
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