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Why China New Borun Corporation Is Such A Promising Stock

|About: China New Borun Corporation (BORN), Includes: ALN, SORL
Summary

China New Borun Corporation is one of the cheapest low EV/EBIT stocks on the planet.

The stock has a clear catalyst: a management buyout. Currently the non-binding proposal is being reviewed by a special committee.

This proposal shows the value is there. Even if the deal does not goes through it is very likely we will see higher stock prices.

Every month I rank net-nets, most available net-nets world-wide, on criteria predicting returns. These criteria are NCAV/Market cap but also distress, liquidity and a few more. This allows me to compare net-nets systematically. A cheap net-net in the list is China New Borun Group (BORN). On a statistical basis net-nets are very good investments and this is one of the cheaper net-nets.

There is always something to dislike about a net-net. In this case it's a Chinese company AND it attracted several hit pieces in 2010. I have invested in similar stocks before. As a general rule of thumb always wait at least 3 years after the last serious hit piece. The hit pieces are from 2010 so that is long enough ago.

In the rest of this article I share basic findings and data. I have copied them from my marketplace research.

On Seeking Alpha Marketplace I share research of many other net-nets, low EV/EBIT stocks, cheap momentum stocks, cheap nanocaps and falling knives. In total I provide research on global stocks from 6 quantitative investment strategies. See also this free overview article for a more detailed description of 4 of these 6 investment strategies.

China New Borun Corporation: a merger arbitrage play

Ticker,

Piotroski

Share

Price

Market cap

EV, in millions

EV/EBIT

P/Tan B

P/Ret Earn

NCAV / MC

Liq Val / MC

US:BORN

3

1.28 USD

203 CNY

-85.4 CNY

-0.52

0.11

0.14

3.6

2

Date

cash flow

EBIT, ttm

until mrq

Cash flow

from ops

Free cash

flow

P/FCF

Yield

%

2016-12-31

129 CNY

160 CNY

156 CNY

1.3

-

China New Borun Group produces edible alcohol is the PRC.

In 2008, 2009 and especially in 2010 the company diluted much, but this was pre-IPO and at the IPO. The company became public via an IPO of its ADSs in June 2010. In October and November 2010 a reputable short seller published several hit pieces. After the first hit piece 4 directors left. These directors were appointed by 2 large western funds with stakes bought before the IPO. The short seller wrote these investors wanted to sell. He even spoke to one of them and got a confirmation.

Now the company will be bought out for 1.67 USD per ADS by the majority shareholder, which is the mother of the CEO. This non-binding proposal was announced on January 10, 2018. I think the buy-out price net of ADS cancellation fees is 1.62 USD. With a spread so wide (26.6%) I think this is an excellent merger arbitrage opportunity. It may take a full year before the deal completes though. At this stage I guess it will take at least 6 months.

The buyout proposal confirms the value is there. That said I have seen similar deals not going through such as at SORL Auto Parts (SORL, October 2015) and American Lorrain (ALN, October 2012). So far most failed deals were followed by stock prices above the buyout price.

The screener only displays annual results but the company files also interim results. The most recent interim results for the September quarter are here. Unfortunately the company only publishes a cash flow statement in the annual report.

Retained earnings are 1.464 billion CNY. Therefore Market cap/Retained earnings = 203/1464 = 0.139.

The balance sheet is strong. The combination of a fairly big cash pile with short-term debts is a red flag. The book value of the current assets is 2.14 billion CNY including for 852 million CNY of less valuable current assets like inventory and prepayments. The book value of the liabilities is 1.25 billion CNY. The liabilities are mostly short-term borrowings but also CNY denominated bonds at 6.5%. The bonds are listed in Shanghai. Therefore my estimate of Liquidation Value/Market cap = (2.14-0.5*0.85 -1.25)/0.203 = 2.29.

Substantial shareholders: the mother of the CEO owns 55.58%. Directors and the CEO himself do not own any shares.

Become a statistical investor. Investing is mostly a game of luck. Therefore it is dangerous to invest based on conviction with large positions. But investing with many small positions in undervalued stocks with statistically great returns works just as well. So that is what I do.

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Disclosure: I am/we are long BORN.