We can't see it going much higher anytime soon, although we would prefer to write out of the money call options.
What does it do?
CIIC, incorporated in Nevada, USA and headquartered in Henan Province, China, focuses on investing, constructing, operating and managing infrastructure development projects in China. The Company currently operates the Pinglin Expressway, a 106-kilometer (66 miles) dual carriageway four-lane toll road in the central province of Henan. The Expressway is an important passage from the northwest region to the southeast coastal region of China. [Marketwire]
While we have no doubt that road traffic is on the up in China, the six toll gates and a 30 year concession by itself don't seem to warrant an exploding share price. Rates are set not by the company, but by a provincial bureau.
We'll give you a few noticeable metrics:
- In just over a week, the share price four-folded
- Revenue decreased by 15% in 2010 from 2009 wile traffic decreased by almost 5% (although that was due to special circumstances like heavy weather and other disruptions)
- It has a trailing P/E of 171
- Debt is very large at $520M, giving a debt/equity ratio of 2.68
- Its market cap ($82M) is two times sales
There are some positives though (not surprising, with a quadrupling in share price):
- There are 80M shares outstanding
- Insiders own 85%
- Not surprisingly, institutional holdings are just 2%
- Operating margin is 50%
- Operating cash flow is $11M and leveraged free cash flow almost $60M
- The shares trade substantially below book value, which is $2.43
- If you're short, you'll be almost the first, there are just 10,580 share short
Note that the graph self-updates, at the time of writing (Sept 7 2011 at close of trading) the shares were at $1.03.
This doesn't seem to warrant a four-folding share price either, although management disagrees:
The board also discussed proposal of shares buy back and shares reverse split in order to comply the minimum $1 trading price requirement of NASDAQ Stock Market. The board understood the management's reasoning that the current share price did not reflect the fair value of Company's stock. The board agreed to give the management authorization to implement a share buy-back at its discretion. [Marketwire]
That $1 trading price seems to have been achieved by just announcing the share buyback program, which is of unknown size. As of yet, no reverse split. But there is more:
As indicated in the 8-K filed on July 11, 2011, the Company plans to resolve the related-party loans by writing off these loans and, at the same time, injecting a new asset proposed by the majority shareholder as a partial offset. The board reviewed the preliminary audit results prepared by the Company's auditor and the appraisal results of the intended new asset provided by an international asset appraisal company based in Hong Kong. The board also discussed details of the related party loan write-off process as well as the implementation of the new asset injection proposed by the Company's management. [Marketwire]
So we'll have to look at that 8K for some specifics:
Beginning in 2006, the Company provided working capital loans to Tai Ao Expressway Co., Ltd. and Xinyang Expressway Co., Ltd., companies which constructed and operate vehicle expressways in the PRC and are controlled by our Director, Chief Executive Officer and majority shareholder (the "Controlling Party"). On June 29, 2010, the Company entered into renewal agreements with Tai Ao and Xinyang that extended the maturity of these loans to June 29, 2011. These working capital loans were made based on the assumption that, once connecting toll roads in neighboring provinces were completed and functional, the traffic volume of the Tai Ao and Xinyang Expressways would increase significantly thereby generating sufficient revenues to enable Tai Ao and Xinyang to repay these loans in full. At March 31, 2011, outstanding principal and interest on these related party loans were approximately $83 million and $84 million, respectively.
On July 11, 2011, the Company's Board of Directors determined that adverse developments occurred with respect to these loans. This followed a review of the most recent operating performance of Tai Ao and Xinyang and the most recent traffic volume data which shows that the traffic volume on both the Tai Ao and Xinyang Expressways has not significantly increased even though connecting toll roads in the neighboring provinces are now complete and operating. As a result, neither Tai Ao nor Xinyang have been able to generate enough cash flow to pay any principal and interest of these related party loans.
In addition, on September 27, 2009, the Company entered into a letter of intent pursuant to which the Company agreed to acquire at least 51% of Tai Ao, for which the note receivable from Xinyang will be part of the consideration. The acquisition, however, is subject to the approval of the Reform and Development Commission of the PRC Central Government, which as of the date of this report has not been received and which the Board has determined may not be received. Furthermore, even if the Company were to receive regulatory approval, it is uncertain that sufficient revenues would be generated to repay the related party loans.
The Controlling Party has offered to transfer another asset of the Controlling Party to the Company in partial repayment for the related party loans. This asset consists of the Controlling Party's ownership interest in a commercial, residential real estate and retail shopping mall development project in Zhengzhou, China, where the Company's headquarters is located. The Board is currently evaluating this proposal and is seeking to engage a valuation expert to evaluate and value the proposed asset. Regardless, based on the above analysis, the Board believes that the Company is required to write off some or all of the related party loans. Until the necessary evaluation is completed, however, the Company's management will be unable to estimate the amount or a range of amounts of the impairment charge. Management does not believe that the impairment charge will result in future cash expenditures.[8K]
- The loans made to those two companies will not be repaid and as partial indemnification, the companies have offered "controlling party's ownership interest" in some real-estate development project. Ahum, we're not terribly impressed.
- Road traffic development is disappointing, although it's unclear whether this extends to the road that CIIC manages. In any case, not terribly encouraging either.
- Part of the loans have to be written off, although it's not clear how much. Forgive us, but that doesn't seem to be cause for celebration, let alone a four-folding in share price either.
We conclude that it's highly likely that the rather exuberant run-up in the share price is on its last legs. The company is barely profitable mainly because it has a large debt which it can barely finance. While this could very well improve, it will be a gradual process, so we don't see much upside in the shares for some time.
While we would prefer to write out of the money call options, alas, this is not possible. Shorting seems a good second option though, but keep in mind that this is not entirely without risk.
You would be shorting a company where 85% of the shares are held by insiders and the company has just instigated a share buy-back program of unknown quantity. The goal of that was explicitly argued to get the share price above $1 to comply with the listing requirements, so you should short only above $1.
Which brings us to another point. Why would a small Chinese toll-road operator go to the considerable effort and cost of a US listing? There seem to be plenty of funds for Chinese infrastructure investment in China and the US markets have not been too friendly to these kind of companies recently. That it got its listing through a reverse merger doesn't help perceptions either.
Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in CIIC over the next 72 hours.