The Chinese market has sold off 20% this year on worries of economic slow down and government tightening policies. Chinese stocks listed on the US stock exchanges have sold off even harder. The Chinese economy might have hit a short-term speed bump but the long-term potential for China is still strong. Chinese per capita is still only $5000 a year, less than 1/8 that of the US. The difference in per capital translates to American workers being eight times more productive than the Chinese. Clearly, there is plenty of room for the Chinese to catch up. Given China’s long-term potential, here are five stocks that have special competitive advantages to grow. The recent sell-off is a great opportunity for investors to buy into China’s long-term growth story without worrying about overvaluation.
Baidu (BIDU) – Baidu is the Google (GOOG) of China not only in appearance, but also in market share. The company has a near monopoly sized market share of 80%. It’s what Microsoft (MSFT) is in operating systems. The company has almost $1.2 billion in cash and very little debt. With Google out of China, Baidu has no real competition in the country. It’s like a state monopoly with the efficiency of a well-run company, a very rare combination. At a PE of 49, the stock is trading at a premium, but with the market volatility, if the stock drops to below $100 and PE below 40, it’s definitely a buying opportunity.
CTrip.com (CTRP) – Ctrip does what Orbitz does in the States. With $750 million in cash and no debt, the company has resources to expand. As income grows in China, Chinese consumers will travel more and that will translate into additional business for Ctrip. With more than 23% of the market capitalization in cash and a PE of 20, the stock isn’t expensive given the long-term growth potential. The stock is a strong buy right now, but given the volatility, it will not surprise me if the stock trades at 15x PE, which will be a good entry point.
American Oriental Bioengineering (AOB) – Don’t let the awkward name fool you, this is a leading traditional medicine maker in China. Its sales have slowed in recent years as the inflation in China has taken a toll on raw material cost. The growth potential of the company isn’t the brightest, but the valuation is extremely compelling. Trading at $0.62, the market capitalization is $60 million while the company's net tangible book value is around $500 million. The market capitalization is almost trading at net liquidation value, which is current assets – current liability – all debt.
Renren (RENN) – This is China’s version of Facebook. If you think Facebook is big, but valuation is too expensive, Renren might be the cheaper alternative for you. With over 500 million internet users, China has a huge market in social networking and Renren has barely tabbed the social network market in the country. Since the Chinese government has blocked Facebook, Renren’s potential in China goes unchallenged. The stock has dropped horribly since its IPO earlier this year. At $3 a share and $1.4 billion market capitalization, its valuation is becoming really compelling.
Netease (NTES) – Chinese people love online games and Netease is really good at offering games that Chinese people love. The company has almost doubled its revenue in China in just 2 years. At a PE of only 16, the company is the cheapest of all major Chinese stocks mentioned here except AOB, which isn’t a major Chinese stock. The company has a commanding position in the Chinese gaming market. With Chinese internet users projected to hit 700 million in 2013, more people will play games that Netease offers. The company is poised to benefit from this long-term growth trend.
The recent sell-off in Chinese stocks provides a unique opportunity for investors to buy quality Chinese companies at discounted prices. All of these companies mentioned above have competitive advantages that make it hard for others to imitate. Their positions allow them to generate growth in the years ahead while their valuations are trading at the cheapest in years.
Disclosure: I am long AOB.