Newsletter May 2006

Who’s hot among the Chinese NYSE names?   Our previous Newsletter focused on the NASDAQ names of the U.S. listed Chinese stock universe. As we said, this issue will give readers a unique perspective of the NYSE listings. As the following chart shows, we chose the twenty biggest names by revenue from the NYSE universe this time . We will compare them to make a point that not everything that shines is gold. In other words, not all the big liquid names offer investment opportunities just because China is growing fast. This is best demonstrated by looking at the average five year revenue growth chart. The range varies between 4% (CBA) and 234% (CEO). The energy sector ranked first with strong performance of all segments. Producers, PetroChina (PTR), CNOOC (CEO), and Yanzhou Coal (YZC) grew fast along with refiners like Sinopec (SNP), byproduct producer Shanghai PetChem (SHI) and power generators like Huaneng Power (HNP). Telecom giant China Mobile (CHL) solidified its leading position within the industry with only  China Unicom (CHU) keeping pace with it. Automaker Brilliance Auto (CBA), transporter Guangshen Rail and airliner China Southern (ZNH) are on the bottom of the list. Looking at the earnings growth however the picture is somewhat different. China’s firm grip on domestic gasoline prices have kept Sinopec (SNP) earnings at bay while oil producers PTR and CEO have continued to deliver strong earnings. The telecom industry is noticeably maturing as revenue growth does not translate to proportionate earnings growth anymore. Rural China offers growth potential primarily for lower margin services. Earnings growth of telecom representatives are all lagging with China Mobile keeping the number one position still, averaging a mere 23% versus 90% average for the whole stock universe. Shanghai Petrochemical (SHI) and Chalco (ACH) were able to offset increasing raw material costs while high energy prices kept earnings of coal producer YZC healthy. China Life Insurance (LFC) may be the one that raises eyebrows by delivering 380% earnings growth over the last five years. A Company with a competent sales force consisting of 640,000 individual agents, approximately 12,000 direct sales staff and a network of more than 89,000 cooperating bank branches and post offices is certainly worth to look at. Bank representative HSBC Holdings (HBC) converted mediocre revenue growth to superb earnings growth just second to oil giant PTR. And while PCCW (PCW) and Semicon. Intl. (SMI) boosted sales by triple digits, these companies have been unable to deliver  quality earnings over the last five years.                       Having said that, let’s see what does the stock market think of these results. The following chart combines revenue and earnings growth with five year stock price change. The chart gives us an opportunity to look back. This is the actual revenue and earnings growth of the last five years compared to the stock price appreciation. Clearly, the winners are companies that have consistently delivered earnings. Stocks of the energy sector recorded triple digit gains just as did Chalco, GSH, HTX and LFC. Companies with negative earnings growth have been punished such as SMI, CHU, CBA and ZNH. Sales growth alone was not enough to propel neither SMI nor CHU into higher grounds. Stocks that look interesting are LFC, GSH and HBC. LFC has demonstrated high earnings growth yet current stock price looks out of range. GSH has not delivered high growth yet the company is highly valued. And finally, HBC reported impressive growth yet stock price seems to keep lagging behind. To understand better what’s going on, let’s look at the following chart. This one looks into the future, e.g. what does the stock market EXPECT from these companies, by comparing growth factors to the P/E ratio. The market expects LFC to keep delivering high earnings growth. LFC looked somewhat undervalued based on the above chart however the stock price was just too high five years ago to start with. GHS has been valued much higher than its earnings would justify but given that the company has a payout ratio of over 80% and is doubling transportation capacity, current valuation is not so out of range anymore the stock looks very interesting. It has a demonstrated high earnings growth yet the stock price has not followed up yet. What looks very attractive in addition is the current P/E ratio that suggests the stock is moderately priced. It’s early to tell if HSBC’s 20% stake at Bank of Communications will pay out eventually but one thing is for sure: HSBC is one of the  best positioned foreign banks in the Chinese market. Another stock that sticks out is Sinopec Shanghai PetroChem (SHI), China’s largest ethylene producer. Even though the earnings growth of the Company is phenomenal, we have to remind our readers that the numbers are somewhat misleading. First, the comparative basis , e.g. earnings five years ago, was so low that results in 2004 and 2005 are out of sync. Second, Beijing and not the Company is in control over ethylene prices. As a result, earnings are extremely volatile and unpredictable. Most of us remember that SHI reported a 96% plunge in second-half earnings in 2005 after failing to pass on soaring crude costs to consumers. And again, the Company reported a net loss in the first quarter this year on high crude costs and low petrochemical product prices. Additional companies with reasonable P/E and strong earnings are and ACH and YZC. ACH  has been demonstrating a steady increase in revenues. This increase was primarily due to the increase in sales volume of alumina and primary aluminum and secondly an increase in selling prices. Over the last five years the company increased production volume of alumina and primarily aluminum by 66% and 48%, respectively. Given the current rush for natural resources and basic materials, we think Chalco (ACH) still has room to grow earnings and as such represents an investment opportunity at current prices. A somewhat similar company is Yanzhou Coal (YZC), the coal miner. The Company has demonstrated strong sales and earnings growth over 5 years and is trading at a competitive P/E ratio. Still there is a big difference between ACH and YZC. While ACH has exceeded previous production targets and earnings are astronomically high thanks to high demand for its products, YZC has not been able to fully capitalize on the opportunity that’s been presented. In 2005, the Company produced 11.5% less coal than  in 2004. The average coal sale price of the Company increased 28.3% and as a result, net sales for 2005 increased 9.6%. Still, net income attributable to  equity holders decreased  8.6% over that of 2004. Markets’ disappointment is well demonstrated by the above chart where the stock price of China’s number one coal producer, Shenhua Energy (1088.HK) almost doubled since its Hong Kong IPO whereas YZC has been trading sideways. Again, you have to be very careful when selecting potential stocks for investment. Although China is growing fast, you can still get hurt even if you buy the best U.S. listed Chinese representative of that particular industry. To access latest Newsletter and other research content, please register!