As of this writing, China Marine Food Group (CMFO) is the only company in my individual stock portfolio that does not pay dividends. As such, I am not performing a dividend stock analysis on the company, but this is a mini-analysis constructed to show my investment thesis in this company.
My portfolio strategy is to invest mostly in growing dividend paying companies, and then to allocate a smaller percentage of my money into smaller, faster-growing companies that may or may not pay a dividend. Either way, I focus on long-term investing. Smaller, growing companies give my portfolio the chance to experience better annual returns, but they also add extra risk and volatility, which is why they are kept to a smaller part of the portfolio.
China Marine Food Group (CMFO)
China Marine Food Group, Limited, is a small Chinese company that sells brand-name seafood snacks throughout many regions in China through numerous retailers including Wal-Mart. They also sell wholesale fresh catch, and after a recent acquisition they now sell algae-based health drinks. The fish that they use in their products are wild caught.
The revenue growth of China Marine was 34% between 2007 and 2008, and 42% between 2008 and 2009. This is excellent.
Earnings growth for China Marine was 28% between 2007 and 2008, and about 28% again between 2008 and 2009. Earnings growth is extremely strong.
The company has zero long-term debt.
Although CMFO is a recent addition to a major stock exchange (it’s only been on since 2009), the company has been around for a while. The Chairman and CEO, Pengfei Liu, founded the company back in 1994 and has been running it ever since. He owns a significant percentage of the company, so you can be sure that he has shareholder’s interests in mind. He’s using the capital raised from the IPO to take advantage of tremendous growth opportunities in China to expand his business, and also offered a second, private offering to boost capital (and dilute shares, to the chagrin of some shareholders).
How the company is using the capital it raised:
-China Marine used its IPO capital to double its output capacity from 10,000 tons to 20,000 tons in the third quarter of 2009.
-The company began work on a cold storage facility at a major Chinese port right outside of their operating facilities. Currently, CMFO has to rent cold storage from other places at the port, but after its completion in the first half of 2011, the facility will be able to hold 20,000 tons of frozen catch for CMFO. In addition, CMFO will rent out space to buyers for an estimated $8 million in sales and $4 million in annual net profit.
-In late 2009, CMFO loaned money to Xianghe, the producer of “Hi-Power”, an algae-based health beverage and acquired an option to acquire most of the company. In January 2010, CMFO exercised this option and purchased an 80% stake of the company for around $28 million. In order to finance this, the company issued about $28 million worth of shares. This money seems to be put to good use, however, because CMFO expects $20 million in revenue from this acquisition with a 20% net profit margin. This leads to an expected profit of about $4 million. Effectively, this means that CMFO paid about $28 million for an investment that is expected to return $4 million net profit per year. This gives the purchase a P/E of about 7. Assuming the estimates of management are valid, as a shareholder, I think they used my money well.
Going forward, China Marine’s most recent statement sets 2010 guidance at revenue of $100 million with $21.5 million in net earnings. This implies over 40% revenue growth and over 25% earnings growth. Analysis share these views and expect large EPS growth in 2010 and 2011.
After all this, China Marine is trading at a P/E of about 11.
Why is the P/E so low? Isn’t this a no-brainer? Well, it depends. Based on the business, this investment should be obvious. The PEG ratio is less than 0.5, while a fairly valued growth company is expected to have a PEG of about 1, meaning that this stock could double and still be reasonably valued with this metric. The balance sheet is clean, the business is easy to understand, and the founder and manager has been running the business for years and years. Taking all this into account, there is still significant risk.
The first risk is that small Chinese companies can have faulty reports. Look up the stock symbol FUQI to see what I mean- FUQI is a former holding of mine, and it recently was shown that it had faulty earnings reports and shares plummeted in value. I sold my stake before this occurred (for other reasons), and even if I hadn’t sold, I still would have been sitting on double my original investment, but that’s because I bought with a huge margin of safety. There are fewer safe-guards for investors when it comes to these kinds of companies. So while the numbers look excellent, we can’t be 100% sure that the numbers are accurate. For this reason, when investing in these small foreign companies, it’s important to provide yourself with a huge margin of safety. For this kind of growth in CMFO, I’d theoretically pay up to 20x earnings or so (meaning a P/E of 20), but I provided myself with a large margin of safety and purchased when the P/E was about 7. I probably wouldn’t pay more than 12 or 13x earnings for this company at the most. It isn’t all bad news, though. The CEO of this company owns such a large part of the company that you can be sure he wants to increase shareholder value in the long-term.
Another risk is that, while the company manager is indeed very experienced, he may or may not be able to use the raised capital effectively. He ran the company very well when it was private, but can he do the same when it’s public? Based on recent actions, I believe so, but only time will tell.
A third risk is simply that because it’s in China, there are regulatory risks and currency risks.
Overall, I think China Marine is a good bargain. It’s got superb growth, a low valuation, and an easy-to-understand business. I’m a buyer under $8 per share. This company is worth a look, but only if you have a place in your portfolio for volatile, potentially risky growth stocks. It doesn’t fit everyone’s investing goals.
Full Disclosure: I own shares of CMFO.
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