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  • MCOX Offers Super Cheap Opportunity To Invest With Sina And EBay Partnership

    One of the biggest losers in the US-listed Chinese Internet company is Mecox Lane(NASDAQ:MCOX). The stock price fell from IPO in 2010 at $55 (reverse-split adjusted) to only $2.00 as of today. The main reason for the fall is bad annual losses of the company in 2011-2012 and the fear of fraud in Chinese companies. But I believe MCOX is anything but a fraud. Recent JV with Giosis which is 49% owned by eBay and run by Gmarket's founder (Mr. Young Bae Ku) offers a turn-around opportunity. And at this price, MCOX is trading below its cash value in balance sheet.

    This opportunity arises due to most institutional investors liquidating their positions in MCOX. The selling pressure keeps the share price low. However, I believe the bearer has been overreacting on Mecox Lane's case.

    Company Background

    Mecox Lane was founded in 1996. It was backed by VC firm, Warburg Pincus since its inception. Warburg Pincus sold its entire stake to Sequoia Capital in 2008 for $80 million. Mecox Lane went IPO on NASDAQ on October 2010. The IPO price was $55 per ADS (It was actually $11 but ADR ratio has changed from 1:7 share to 1:35 share ratio).

    Mecox Lane operates M18.com which sold apparel and accessories. Its main target is women. But MCOX also has other sales channel including call center and physical store (both franchised store and direct-operated store). Gross Profit from Internet Sale is just 20% which is the lowest compared to other channels. The internet channel faces fierce competition in China. So the company decided to scale down its advertising expense which resulted to revenue decline in 2012. This is the reason why the company decided to pivot its platform and turn M18.com into the good hands of Giosis (Put into perspective later)

    Mecox Lane has 2 owned proprietary brands which are Euromoda and Rampage (license from ICONIX-ICON). MCOX's physical stores focus on selling these two proprietary brands. But the Call center sales are mostly for beauty and healthcare products. This resulted to higher gross margin for both stores and call center channel than the internet platform. Mecox Lane also has its proprietary brand for Healthcare named "MaxiCare"and "La Celler" brand for cosmetics products.

    MCOX has suffered annual losses since its IPO in December 2010. MCOX suffered a $33 million loss in 2011 and $22.4 million in 2012. The problem was the over-competition in Chinese ecommerce space. The CEO of Mcox indicated in several conference calls that MCOX scaled down its advertising spending because of high advertising fee which would result to declining revenue. The company also reduced the headcount but the expense did not go low quick enough .That resulted to both declining revenue and operating losses. But prior to 2011, the company had been profitable. This figure traced back to 2007 (from 20-F)

    (click to enlarge)

    Reputable Shareholders

    Mecox Lane has very reputable majority shareholders including SINA.com and Sequoia Fund. Most of the major shareholders held shares at higher cost-basis than today's price. For example, SINA bought 18% of MCOX from Sequoia at $30 per ADS (ADR-ratio adjusted). SINA puts $66 million in this investment which represents around 90% loss.

    Most of Sequoia-backed Chinese IPOs (GAGA, CCSC and more) have suffered from low-valuation level since the IPO. But none of them have been a target of the short-seller. Sequoia is one of the biggest VC firm in USA. Consequently, they might rush their portfolio companies to go IPO which make these companies to build business in unsustainable ways such as too-high marketing expenses. But all of them are far from being frauds. Vipshop.com(NYSE:VIPS) is a flash-sale website in China which made a debut last year in NASDAQ, and has made almost 300% gain from its IPO price at $6.5. Revenue of VIPS is growing rapidly but it is still operating at a loss. That is an impressive return in the stagnant market of Chinese companies in US stock market. My point is internet business is one of easiest model to spot the fraud.No one blame VIPS or BIDU for a fraud. So investors value these companies at fair price without a fraud's discount. MCOX, as the operator of M18.com which is one of the leading ecommerce contender in China, deserves a better valuation from public market. But right now it is trading below cash per share, imply that investors value MCOX as same as other fraud Chinese companies.

    Re-launching M18.com with partnership of Gmarket's founder and eBay

    The recent JV announcement with Giosis to turn M18.com from an ecommerce website to an online market place platform also provided a vote-of-confidence and opportunity to turnaround this business. This will occur mainly if investors take some time to look at who Giosis is.

    Giosis is the owner of Qoo10.com which is an online marketplace website around major Asian countries. It is run by Mr.Young Bae Ku who is the founder of Gmarket.com, a South Korea internet company which was a Nasdaq-listed company that was sold to EBAY for $1.2 billion in 2009. He later went to found Giosis to chase his ambition to make it big in Asia not just in South Korea. He moved his entire family to Shanghai to pursue an opportunity in the China internet space. That also showed the deep commitment he had in doing business in China. And 49% of Giosis also belongs to eBay (www.qoo10.com/gmkt.inc/Company/AboutComp...). The new M18.com was re-launched on 1st of January 2013. You can look at M18.com website now. It even has an eBay logo in the footer.

    (click to enlarge)

    Giosis Mecoxlane has progressed rather quickly. They have already launched a new M18.com app in both iOS and Android. I tried the iPhone version for about a week. They have new features within a couple of days. And last time I checked, they also had a lucky draw coupon which cost 1 RMB for each ticket to win an iPad Mini. The app is very well-designed and very responsive.

    The reason behind this JV is because MCOX wants to exit the internet platform war and focus on making its own product lines. Also Giosis wants a strong brand such as M18.com to target female shoppers. M18.com will be the online marketplace for Women, not the board marketplace like Taobao or Qoo10.cn itself.

    New Direction of Mecox Lane

    The company has invested around $40 million in a new distribution center in Wujiang which can handle 100,000 parcels a day. The CEO admits that the capacity is excess of current company's demand. However, the management will plan to utilize the capacity as a 3rd party fulfillment service also. The new M18.com as an online marketplace can be a driver for this initiative.

    Mecox Lane will sell its own product line into a variety of internet channel such as Tmall (Taobao) and Vipshop.com Qoo10.cn (Giosis) and also its new M18.com. This way the management believes that it can save advertising expenses. The revenue from internet platform is expected to decline in Q1 because the old M18.com also sell 3rd parties product at 20% of total sale in the internet channel. But stopping to sell 3rd parties' product will make gross margin from internet sales gets better. And the fee of usage of another marketplace to sell products will go to the selling expense line. The new JV (Giosis-Mecox lane) will be accounted for in equity method (MCOX invested $5 million and own 40% of the new JV). I expect the SG&A to decrease significantly because Mecox Lane can save on huge online advertising cost. The commission fee for using Tmall and new M18.com will go to the selling expenses line. This is a better way because commission fee for using other platform is variable to sale volume.

    Strong Balance Sheet and $10 million share buyback plan

    The company announced $10 million share buyback plan on May 2012. 3 Quarters has passed but it only bought back $572,000 in the buyback process. This is due to the limitation of the buyback by US SEC. Company cannot buyback more than 25% of 30-day average daily volume. Given MCOX has sparsely traded, so the company cannot buyback much of the shares. But the number of ADS of MCOX is around 4 million ADS (1:35 ADR share ratio) as of April 2012, according to page.84 in 2011 20-F. Given the current price ($2.00) the buyback can buyout all 4 million ADS outstanding.

    At the end of December 2012, the company had $13 million in cash and $20.6 million in short-term investment which is the structured bank deposit equivalent to cash anyway. And $5 million to invest in new JV is already booked at prepaid expenses line. No bank debt in both short-term and long-term. Total equity is $89.9 million while the current market capitalization is $24 million. It is trading at just 0.27x PB. And $24 million is even cheaper than total cash in hand.

    CEO also owns a significant stake

    Mr.Alfred Gu, the CEO, also own 18,364,525 ordinary shares which is about 5% of company. Additionally, he own 39 million options hence owning approximately 12.9 % of the company. An option has exercise price of $0.16/share which is equal to $5.6 per ADS. Major shareholder such as SINA and China DongXiang (3818.hk) has cost basis at $30 per ADS. Sequoia was able to cash out some share to SINA and DongXiang but still hold around 30% stake in MCOX. Another management staffs have the option to purchase MCOX's ADS at $5.6. It is pretty good that public investors have the entry at such significant discounts to major firms and insiders. And this is from the assumption that MCOX is not a fraud and balance sheet is still remaining strong.

    Going Forward

    If the company succeeds in reducing expenses and scale back the low-margin business segment; the call center segment does most of sale from Health Care and Beauty products and this segment attains close to 60% gross margin. I believe Mecox Lane can become profitable again. Look at the income statement for the year ended 2007-2008 which were the pre-Sequoia days. The revenue came mostly from call center and the company had net income around $3-4 million. (click to enlarge)

    Investors have abandoned ship especially Chinese ships. However, at the current price which is less than total cash per share, MCOX does not have to do much to earn investors a nice return within a couple of years. Just like Monnish Pabrai said "Heads, I Win; Tails, I Don't Lose Much" But in this case, I might say "Heads, I Win Big; Tails, I Don't Lose At All"

    Disclosure: I am long MCOX.

    Mar 12 1:37 AM | Link | Comment!
  • SearchMedia Holding. A Chinese Company with American Management

    SearchMedia Holding. A Chinese Company with American Management 

    Last September,I went to Shanghai to attend SearchMedia Holding (NYSEMKT:IDI) AGM in Shanghai.I bought this stock in my portfolio.And I came there to verify that the company is really legit. I came back impressed my CEO and COO’s presentation and  their strong intention to grow the company to be the leader in China Outdoor Advertising  industry (they are currently number five or six based on revenue). I will point out how I view this company as a good play for investors who believe in the potential in China which is expanding very quickly in past years (assuming no hard landing in Economics in the coming years) .And this company should be 100% legit.I believe we can trust on CEO which is American and was a senior management in US listed before.So you can eliminate the discount of fraud factor that appears in another US-listed Chinese companies in US stock market.

    The History of SearchMedia and Ideation

    Ideation Acqusition Corp was a blank-check company created by Dr. Phillip Frost and his nephew, Robert Fried . Ideation went public in November 2007.And it has raised about $80 million from capital market. The cost basis for initial investors is about $6.00 from form-4 filling in November 2007.  IDI acquired SearchMedia from former shareholder (Chinese managements and Chinese venture capital companies).Mr Robert Fired served as a CEO during the acquisition period.

    SearchMedia was formed in 2005. It has operation in Out-of-home(OOH) media in China. It has operation in Billboard, In-elevator and transit advertising spaces. It expanded by organic growth and also by acquisition.It acquired 11 subsidiaries in 2008.

    SearchMedia claimed that it had $88 Million as a revenue in 2008.IDI issued new shares to former shareholders of SearchMedia.The deal included 9 million shares and about 1 million in warrant ($6 conversion price).  After the acquisition finished,Ideation changed its name to SearchMedia. And Dr Philip Frost installed new management team from USA. The new CEO ,Paul Conway, was an investment banker from Oppenheimer .He specializes in OOH Industry in both US and China and has done many deal in China media sector. IDI planned to continue its growth in China market by acquisition. The Outdoor Advertising space is very fragmented .The biggest player is Focus Media(NASDAQ:FMCN) still has about single digit market share.

    But after the new management was in charged . They found that a lot of revenue from Old -SearchMedia was fabricated (Remember CCME.PK? ) . So they fired almost all of Chinese management in company and delayed the audited report in 2009. 

    Current Situation

    IDI filed new audited report and restated revenue in 2008 was down by $45.7 million (almost half of $88 million from the previous financial report ). IDI wrote down a lot so the financial report does not look pretty good.  It turned out that the in-elevator platform that SearchMedia has an operation on its own was not  as a good as the former  SearhMedia shareholder claim it was. The former team overstaed the revenue by 2 times.It was done by fake account receiveable and etc . But some subsidiaries are still have real and legit operation.

    In 2010, it was the year for rebuilding company. Mr.  Conway (NYSE:CEO) hired new auditor and changed a lot of internal control. IDI filed a lawsuit against former SearchMedia’s shareholders which own about 9 million shares(total share count is 20.9 million shares).  They amended the earn-out agreement with the subsidiaries .They decided to keep some of them because they are still real .They also acquired a profitable bill board operator (Zhejiang Continental) .

    The net income from acquired subsidiaries, which excludes the Company's headquarter elevator business and corporate expenses, was around $8-9 million in 2010

    In 2011, IDI installed new COO ,Mr. Johnny Lo to Chief Operating Officer . He is veteran in Outdoor Advertising in China. IDI appointed new director , Mr. Peter W. H. Tan to Board of Directors . He is a venture capitalist in China. I think this is very good development of the company. I met Mr.Johny Lo in the AGM ,he seems pretty smart very dedicated to the company just like Mr Paul Conway who has a vision to grow IDI to a leader in China. The management I met in AGM both CEO and COO seem to have very strong determination to pursue this goal.

    My investment thesis on SearchMedia

    1.They were duped once from very first acquisition .I expect that they learn a very good lesson and will continue to operate safely in the future. The CEO said that their plan in acquisition is to use portion of cash and stock deal. One portion will be paid instantly on the acquisition date but big portion of cash or stock will be paid upon performance of the acquired entity within 1-2 year.  So SearchMedia will have time to verify if they got the right and legit one to be in their holdings.If it is not ,they can terminate the earn-out clause.

    2.The market becomes less competitive. Mr. Paul Conway told me in the AGM that back in 3-4 years back. There were a lot of capital flowed in to back the OOH market in China. When they came to bid in a concession to seal an advertising space they bid it to insanely-level price because of easy money . And it was very hard to win with a profitable concession. The same thing happened if you tried to acquire companies. Too much competition back then. But right now, the capital is tight. Because it is harder to get company listed in Foreign capital market due to massive scam of Chinese companies .And few venture capital want to seed on this segment in China. This increased the chance for IDI to success by both  acquiring a good company that plan to list in oversea but cannot do it right now and seal the deal in renew or get the new profitable advertising space . Their competitors became less aggressive now.For example, Focus Media will not as aggressive as they were. They will put $650 million to share buyback program .  

    3.The balance sheet look weak but it mostly from the consideration payable to the subsidiaries. Which mostly in stock deal at cost basis around $6.88 per share. In latest earning release , IDI will issue 1.3 million share and eliminate $9.6 million in consideration payable ($7.4 per share). This will result a gain on financial report because share price now is a lot less than that .   And for the stock deal to pay for Zhejiang Continental (latest acquisition) .It costs $19 million in acquisition and around $10 is payable in stock .The conversion price is  average 30-day price after the audited 2011 report is release ( IDI paid about 6x net income for Zhejiang Continental) 

    4.By first half of 2011,revenue increased 36.7% to $28.3 million from $20.7 million in the prior year period . IDI turned profitable in the first half of 2010 at $0.7 million .This look very tiny but it is important step In OOH media, most of the costs are fixed which is  concession fee ,lease payment, etc. The current occupancy rate in 2010 for IDI  is 80% for billboard, 60% for in-elevator and 30% for bus and subway advertising.  If the rate increase ,it go straight to the net income line. So it is not hard for OOH company to has very high gross margin (FMCN has more than 50% Gross Profit Margin) .Actually, all the subsidiaries business are profitable by $9 million in 2010.The loss incurred was from HQ in-elevator business and corporate cost.

    5.In OOH ,the operating side can be divided into 2 parts. One to deal with obtaining new advertising space  or renew the current one. In this part, you must have a good connection with locals to succeed .So this part has to be done by local entrepreneurs .That’s why IDI use acquisition strategy to grow because it can acquire the good hand to deal with this aspect also.  Another part is to sell the advertising space to media buyers. In this part, the bigger network you have is the better. So IDI try to build a big network to sell it like all-in-one package which can yield a better profit margin. And most of the media buyer in China nowadays are from overseas. They preferred to work with a trustable company .So IDI’s CEO which is American and he brought American style management to company is a plus. That makes overseas companies feel comfortable when they work with IDI

    6.IDI is in talk with many acquisition targets. A lot of opportunity these day because it is very hard to do reverse-merger in US stock market for these Chinese companies .Mr. Paul Conway expect that a couple of acquisition that are currently in talk should boost company revenue to around $150 million next year.

    7.The company was backed by Dr. Philip Frost .The billionaire investor. He backed and managed OPKO Health (NYSE:OPK) also. He makes an investment in a lot of small cap and turn it to a profitable one.  From the AGM ,Dr. Frost currently own  2.5 million shares of IDI (excluding warrant) .His cost basis is a lot higher than current market price. And he has the history of help funding the company when it needed (look at OPK) .So he is a wildcard here if any IDI needs to raise new capital in case if China has a recession or something goes wrong.

    8.The claim against former shareholder can result in reduce the share count by 9 million share. But it takes time and it might not result in 100% cancel of their share. Because their subsidiaries have some legit operation(most of the fraud was HQ in-elevator business). Anyway, I expect the share count can be reduce by at least 4-5 million which is good anyway.

    9.The company might have to raise new capital to obtain new acquisition and pay the current obligation in lease. But it is not substantial (should be around $15-$16 million) . And we have a good backer which has good record ( Dr. Frost put new money in Opko in the offering that is not much discount from market price and he has done the offering many times ) . Despite, the new share coming they will retire some share in the claims again former shareholder also.

    10.Most of the salary for senior management team is by share option scheme which has high conversion price ( at least $2.70 and most are in $6-$7 range) .So they have skin in the game and perfectly align their interests with the shareholders.

     

    In the conclusion,SearchMedia (IDI) was ignored by market participants. Because it is too small (almost no analyst coverage) and thinly trade. It has China-based operation which means fraud-alert in US market these days. And it has very poor balance sheet.  But  by my thesis above. I think IDI presents an investor a good risk/reward opportunity to gain exposure in China Economics. Now, we all have a concern on the recession everywhere .Europe  ,USA and emerging market are no different. If China gets into recession ,the rest of the world will be too. And I feel better to invest in the country that are not as indebted  and still in the developing mode.  And in the company that is backed by famed investor who has good track record about not taking advantage from minor shareholder (IE,takes majority stake by offering new share a very low price). My investment gain will be aligned with major shareholder and the senior management team of the company as well.

     

    Source:

    Ideaion Acquestion Old Website (http://www.ideationacquisition.com/)

    SearchMedia Current Website (http://www.searchmediaholdings.com/)

    IR Unit for SearchMedia ( Email : ir@searchmediaholdings.com or Paul.Conway@searchmediaholdings.com)

     
    Disclosure: I am long  IDI

     

     



    Disclosure: I am long IDI.
    Oct 13 3:13 PM | Link | 1 Comment
  • Lentuo International Inc - Not another chinese fraud company
    LAS  - Lentuo International Inc

    This is another US-listed Chinese company.You might get bored and try to avoid investment in this space due to a lot of exposed frauds in Reverse-merger space. But I think this one is different. The fear of fraud creates a buying opportunity.

    I wrote about FFHL (Fuwei Film ) last October in my instablog . I am lucky that FFHL went up around 400%  within just a few month (I sold all my position already) . So if you take a closer look,  this Chinese stock space can give a very good reward/risk profile .

    The Company is a non-state-owned automobile retailer in Beijing, it operated six franchise dealerships.
    It went listing on NYSE on last December at $8 per ADR . But it is currently trading at $4 today.

    Here is a research from HSBC ( sell-side analyst ) http://www.research.hsbc.com/midas/Res/RDV?p=pdf&key=Z0wfJri3PW&n=288420.PDF

    Lentuo is the cheapest player on China Auto dealership business. There are another two comparable competitors which are a lot bigger . They listed stock in Hong Kong market. Both were listed last year just a few month prior than Lentuo. Both are rich valuation at these price. A lot more expensive than Lentuo.

    Zhongsheng Group (0881.HK)
    Market Capitalization - US$3.5 Billion  - 98 Dealerships ( Many dealerships are not 100% own ) $35 Million per one dealership.
    PE - 31 ( From Reuters )
     Revenue 2010 = RMB24 Billion . RMB245 Million per dealership ( This is not 100% accurate because most dealerships were just built/acquire during the fiscal year) .

    China Zhengtong Auto (1728.HK)
    Market Capitalization -  US$2.1 Billion - 22 Dealerships + lubricant oil business and logistic business (other business is 6% of revenue and 12% for total Gross profit)  I use 88% multiply by mkt capt to obtain what investor value its dealership business . This is  $1.85 Billion .So US$ 84 M per dealership.
     PE ~ 34 ( From Reuters )
    Revenue RMB7.61 Billion (excluded other business revenue ) - RMB346 Million per dealership . Not 100% accurate due to same reason as above .

    Lentuo (NYSE:LAS)
     Market Capt - $120 Million US - 6 Dealerships -  $20 Million per  dealership
    Only trading around PE ~ 5 ( trailing PE Q4-2009 To Q3-2010 ) .
    Trailing revenue is RMB2.91 Billion. RMB485 per on dealership.


    I used trailing figure for Lentuo because it is more conservative. Acutally, management and analyst expect higher 2010Q4 revenue on YoY basis.

    Base on these calculation it is cheapest among the three but also the smallest and the only one that listed in NYSE. But revenue per dealership is a lot better than its peer. So the HSBC research that claimed its single store efficiency is 3x higher than the market average is not over claimed .

    At these price ,market thinks Lentuo is a fraud .But I think it is little chance it is .
    1. Lentuo has HSBC as the underwriter for its ADR . HSBC is one of the most reputable bank in Asia and the world .This ensure Lentuo creditability also.
    2. Lentuo went listing on NYSE via ADRs not reverse merger .But this is not the holy grail to say that it is not a fraud .I understand this.
    3. Lentuo has a good reason to do ADRs listing. It needs capital because auto dealerships are capital-intensive business. And the management has a plan to expand outside of Beijing . While two biggest players ( Zhongsheng & Zhengtong ) are a lot bigger than Lentuo .So if Lentuo wants to compete in this space. It need to raise capital .Same as competitors did.
    4. Company is well controlled by another major shareholder which is Newman Investment Limited . Newman is also Chinese investor. And they just bought the shares last year before public offering. And Newman has an agreement with Lentuo chairman ,Hetong Guo , which also own 50% of the company.Here is the agreement ( excerpt from Prospectus )

    "Pursuant to an agreement between Mr. Hetong Guo and Newman Investments Limited, if our audited net income for the year ended December 31,
    2010, or the 2010 net income, is lower than RMB160 million, Mr. Guo will transfer to Newman Investments Limited free of charge such number of
    additional shares so that the shareholding of Newman Investments Limited will equal 1,510,841 shares multiplied by a ratio, the numerator of which is
    RMB160 million and the denominator of which is equal to the 2010 net income"

    So Newman Investment is not the same group as the chairman.This add up the better internal control in the company.

    Given all these facts. I think there are very little chance that Lentuo is a fraud.

    Another bad news
    1. Beijing Regulation control on new car sales
    - You can read on management on this issue on Q3 report here (http://www.businesswire.com/news/home/20110106005791/en/Lentuo-International-Reports-Quarter-2010-Financial-Results)

    IMO,This is biggest risk .But by the figure management explain. It is not that much impact on the sale . Besides, Company plan to expand to another cities. This regulation might help prevent more opening new dealership in Beijing which is good in the long term .

    2. Japan Tsunami impacts to make a shortage of car supply
    - Most of the brand in Lentuo dealerships are manufactured in China. But some parts has to be imported also. I expect supply chain problem to be temporal, should not be more than one year. So it is just a short term problem.

    Autodealership business does not have many moat around its.And it is capital intensive .Lentuo has negative cash flow between 2009-2010 which is nature of growing business in capital intensive industry. But at this valuation,it is too cheap to pass up.

    Net income so far in 2010 (Q1- Q3 ) is $16.68 Million. And management guided Q4 revenye to be about $176 -$182 Million range.Let's see what it deliver in next earning annocement. 

    Disclosure: I am long LAS.

    Additional disclosure: No position on Zhongsheng Group (0881.HK) and China Zhengtong Auto (1728.HK)
    Mar 22 2:50 PM | Link | Comment!
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