BBMG Building Materials Company Up 34.7% Thanks to Economic Zone Frenzy

Data source: Bloomberg

Three magic words sent a boring cement company up 34%. The three magic words were: Beijing, Tianjin and Hebei. (aka Jing-Jin-Ji).

The rocketing rise for this 2009, hong kong listing was definitely not due to its latest earnings report.   (It’s Shanghai listing didn’t move thanks to a mainland holiday). Following its earnings announced on 3/29/17, the HK listing actually fell slightly from 3.39HK$ to 3.24hk$.  (Shanghai went from 4.83rmb to 4.66rmb and had barely budged year to date.)

Ruling out the earnings and a lack of other news – the sole blame is the frenzy created by the PRC’S weekend announcement of a new economic zone: Xiong’an New Area.  (Less catchy than Shenzhen but maybe there is a reason for that Xi.)

Per Caixin,

The Xiong’an New Area, located about 130 kilometers (80 miles) to the south of Beijing and Tianjin, forms essentially an equilateral triangle with the two municipalities. It consists mainly of three counties in Hebei province and initially covers 100 square kilometers. The plan is to ultimately expand it to 2,000 square kilometers.

Xinhua said the Xiong’an New Area is the first to be of the same national significance as the Shenzhen SEZ and the Shanghai Pudong New Area, the first national new area, which was opened 25 years ago. It didn’t explain the difference between a SEZ and a national new area.

The new area’s mission is to deepen institutional reform, explore ways to build smart and ecologically friendly cities, develop better infrastructure and efficient transportation networks, and pursue further opening-up in a comprehensive way, Xinhua said. Non-governmental functions of Beijing will be moved into an appropriate part of the zone, Xinhua said.

The details are vague and reportedly surprising.  Nonetheless, it appears to have convinced the market that BBMG is poised for an outsize benefit.

BBMG isn’t a growth company.  It’s an enormous, state-controlled company producing a commodity product in an acknowledged over-capacity industry.  Thanks to a recent forced absorption of less “profitable”, (read lower losses), company Jidong, it has increased its work force as well as its assets and liabilities with undocumented synergies.  Indigestion in the form of lower margins, higher debt payments and unwieldy employment costs from this recently absorbed acquisition is sure to follow.

BBMG Overview

BBMG is primarily a cement producer in an over-capacity sector which does a side business in property development and management.  While it showed an increase in revenue of about 16.6%, its net before taxes and various extraordinary, non-operating items rose only 1.5 %. (Even with a drop in business taxes of 28%, unexplained).  It’s a behemoth of a company, majority owned and controlled by the state, which has grown from 28,619 employees to 49,721, thanks to the forced integration of Jidong. Meanwhile, its gross margins have shrunk.

As the above shows, operating profit only increased by about 1.5% despite a revenue increase of 16.6%.  Despite the increase in most operating items, business tax and surcharges actually declined by 28%.  The announcement fails to address this difference but without it, there would have been a decline in operating revenue.

Other Income: Subsidies  

The company met its impressive 38% growth in profit thanks mainly to non-operating income items, (which it partly classified as operating, I’ve re-organized).  Although no real details are given on the fair value increases or investment gains, subsidies continue to be a given. (From its annual results announcement).

Cement Volume Sales

As noted, revenue increased by 16.6% for 2016.  During that time, BBMG reported to selling 28.9% more cement and 14.1% concrete.  Segment results from the annual are condensed as follows:

While the increase in revenues in cement is notable, the profits for this segment were a fraction of the revenues, reflecting the overall pressure on price.  The more profitable sectors of property development and property investment showed an alarming decline. These segments taken separately and combined present weak evidence for investing based on profits and growth.

Asset Quality

As can be seen in the segment reporting above, assets in the cement segment have increased by more than 190% while liabilities have surpassed that change with a 274% increase.  The asset quality is also under pressure and opaque.

Once again, there is little detail on either Goodwill or Intangibles, which have grown significantly.

Asset quality in terms of receivables, showed an increase in bad debt and maturities.

While the economic zone designation could help BBMG in terms of increased demand for that region, it is a national player which has had marginal growth and minimal margins. The overnight rise smacks of speculation and is unwarranted.

 

Developer China Evergrande’s Backdoor Listing May Have Hit a Speed Bump

 

China Evergrande, 3333 hk, may have hit a speed bump on its race to its backdoor listing in Shenzhen.  In a brief, 2 page Hong Kong exchange announcement, Evergrande stated that the original agreement from December, 30, 2016  would be amended to change an intended strategic advisor’s legal entity and amount to be invested.  While on the surface it appears innocuous, the change indicates that since this investor would be raising its investment as part of the 30 Billion rmb capital injection, ($US 4.3 Billion), another investor would be potentially decreasing its investment.

The original agreement with 8 investors included the following:

With the revision, assuming all pre-existing investors maintain the original investment amount, the capital to be raised would be 30.5 Billion rmb.

China Evergrande has reason to expect this backdoor listing to occur, since on 3/16/17 it transferred its 14.1% voting rights in China Vanke, 2202 hk, to Shenzhen Metro Group, sacrificing its voting rights to augment Shenzhen Metro’s voting rights from 15.3% to 29.3% to surpass barbarian Baoneng’s 25.4% shares. (No mention of money changing hands for the transfer, although Evergrande was able to use the shares as collateral  for financing with Citic Securities).  Shenzhen is both a major entity in the Evergrande capital raise and the China Vanke controlling shareholder changes.

Although China Evergrande appears to have done everything necessary to seal its backdoor listing, this latest change implies it may not go as smoothly as it hoped.

China Evergrande, 3333hk, chart

Chart Source: Bloomberg

China Bank Rally Takes A Breather

After a series of moves and reviews, the big 5 Chinese banks blasted upwards in February, outpacing the rocketing Hang Seng.  Over the past couple of days, however, they’ve retrenched.   If Morgan Stanley and Short trading interest are to be believed, this is a temporary reversal.

The banks include:

Name	Acronym	HK symbol
Industrial & Commercial Bank of China	ICBC	1398
China Construction Bank	CCB	939
Agricultural Bank of China	ABC	1288
Bank of China	BOC	3988
Bank of Communications	BOCOM	3328

Despite rising Non performing loans, shrinking net interest margins and capital requirements, these banks have surpassed the rising Hang Seng thanks to interest rate rises, increased lending, China stimulus and PPI rises.

Timeline of positive factors:

1/24/2017 – Interest rates raised on medium term rates on loans.

2/03/2017 – Interest rates raised on short-term debt, reportedly in the interests of liquidity due to perceived resulting from the Chinese New Year.

2/14/2017 – Morgan Stanley published a bullish report on China Banks. Banks.

2/15/2017 – Bloomberg reported that options trading reacted positively to the bullish stance of Morgan Stanley on the big 4 banks, (all of banks listed above excluding BOCOM, which isn’t included in the  big 4).

None of these banks have reported annual earnings.  While earnings seasons has just about ended in the US, annual earnings reports for Hong Kong listed stocks are trickling in.  Regardless of the annual earnings, they won’t reflect the February 2017 change in interest rates and producer price inflation which Morgan Stanley reports.

Given the significant decline in short-term selling ratios for all but BOC, 3988 HK, the recent drop could signify a temporary drop versus a long-term decline.  At least for the short-term.

 

 

 

 

Index Changes HSI and HSCEI: In with the New, Out with the Old

Old Timers Li & Fung, 494 HK and Tsingtao Brewery, 168 HK  will be booted out of Hong Kong Indexes due to poor performance and or international dealings.  They’ll be replaced by home-grown Geely, 175 HK,  and infant IPO Postal Savings Bank, 1658 HK, favoring made in China and SOE investments, respectively.  The stock performance and market caps give a clue to the underlying reason but don’t explain it all.

Data Source: Bloomberg

The mature, 50-member Hang Seng Index, HSI, loses Li & Fung, a member since 2000, as its profits and core earnings continue to drop.  It’s last reported interim statement showed a gross revenue drop of 6.4% and a core profit drop of 14.2%.  Li and Fung, a Wal-Mart and Marks and Spencer supplier, most recently reported getting 62% of its sales coming from the US.  It’s being replaced by Made In China and Sold in China: Geely Auto.  As Li and Fung’s stock has dropped, Geely has shot upwards, helping it achieve a market cap 3 times the size of veteran Li and Fung.  Geely’s sales climbed 50% in 2016, fueled by a 50% drop in the sales tax on cars with less than 1.6 liter engines.  While Geely’s annual sales climbed 50%, it reported on January 6, 2017 a preliminary profit climb of over 100%.

Geely has apparently kept the pedal to the metal with January year on year sales reported at an   annual increase of 71% although down 5.15% from December.  This increase is astounding, with the Lunar New Year starting in 2017 on Jan. 28 vs. 2016 in Feb. and Ford and GM both reporting yoy China drops of 24% and 32%, respectively, from HK filings.

As Home town Geely replaces exporter Li and Fung; Tsingtao Brewery, the first China incorporated  H-listed stock in history, is being removed from the younger Hang Seng China Enterprises Index, HSCEI; to be replaced by recent IPO Postal Savings Bank.  Tsingtao has faced declining sales; its last reported revenue drop of 5.3%.  However, perhaps more importantly, it has also been hit by rumors that Asahi Breweries of Japan is hoping to dump its 19.99% ownership interest. (The majority-holder of Tsingtao is Qingdao SASAC).  An index removal could reflect the  dissatisfaction of the effects of outside interests on Chinese companies.

The possible rationale for replacing Tsingtao  with Postal Savings Bank is more difficult  to explain than Geely replacing Li and Fung.  While Geely has been climbing, Postal Savings Bank has actually declined in price since its September IPO.  It’s first half report for 2016 was uninspiring, with loans increasing but net interest margin dropping significantly and a low core ratio.  It’s non-performing loan ratio of .78 is difficult to believe as world behemoth China’s Industrial and Commercial Bank,  1398 HK, ICBC, reported a npl ratio of 1.55 for the first ½ of 2016.  In the first half, ICBC had a capital adequacy ratio of 13.11 vs.  Postal Savings Bank’s first half CAR of 10.04% .

Postal Savings Bank had a less than spectacular IPO, heavily dependent upon its mostly majority state-owned cornerstone investors, which purchased over 75% of the offering.

 

 

Source: HK filings

*Acquisition Loans “may be” financed by SOE China Banks: China Construction Bank, 939 hk, Bank of Communications, 3328 hk, and Agricultural Bank of China, 1288 HK.
**One of 4 asset management firms set up in the 1990’s to deal with bad debt, related to the big 4 banks.  China Great Wall was linked with Agricultural Bank of China.

Rather than a strictly index-related move, the inclusion of Postal Bank could be more to the aid of those cornerstone investors,  which would face an expiration of their 6-month lock-up period close to the time of the index inclusion.  Whether this will give Postal the boost it needs remains to be seen.

 

 

 

 

 

ICBC of China Issues 117 Million Credit Cards in 1st Half, Why It Matters

As a tantalizing pre-cursor to 1st half earnings, ICBC HK 1398, stated that it issued over 117 million credit cards with 1st half consumption of 1.4 trillion yuan, ($211.25 Billion). However you look at it, that’s a lot of plastic.  However, in relative terms, it’s not quite as stunning.  Particularly for consumption dollars, the increase is substantial, compared to the 1st half 2015 filing:

Why it matters. In terms of market cap, ICBC is the second largest bank in the world after Wells Fargo Bank.  In China, it’s the largest.  Its credit card issuance and consumption therefore give a view of credit card growth in China, which has historically had a higher dependence on debit cards. It’s also a window to consumer credit use in China and the growth of an important revenue source for ICBC.

For ICBC, and the majority of banks in China, debit card issuance has far exceeded credit card issuance.  Based on the last 2 annual reports, ICBC’s credit cards as a % of total cards has inched up , although growing more than debit card issuance.

Based on the annual report, confirmed by the 1st half 2016 results, Chinese consumers who do have credit cards are getting more comfortable buying on credit.  This should be good news for Chinese banks, since they’ve been squeezed by lower net interest income after multiple interest reductions by the Central bank.

Source: Reuters

Add to that a market slowdown and increasing, NPL’S, and banks are grasping for sources of income other than net interest.  ICBC , despite its size and  international holdings, needs that extra income.  The last quarter showed minimal growth in net profit, with commission and fee income representing a consecutively larger part of revenue.

Source: HK filing

While quarterly filings don’t break out bank charges, the last annual showed them to be about 5.6% of gross revenue.

Comparing this to the increase in annual card issuance, the 12.5% increase in annual bank cards issued brought about a 7.3% increase in total revenue.  While the latest statement mentioned only credit cards, the increase bodes well for an increase in a significant portion of income.  With a trailing p/e of 5 and below, it needs all the help it can get.  Judging by historical filing, we should see if this assumption holds around 8/27 of this month.

 

 

 

 

 

China Steel Drops on US Tarrifs

China Steel Companies, already reeling from Chinese market turmoil, over-capacity and flagging demand, dropped further as the U.S. attacked with 5x tarrifs.  These 5 steel stocks dropped more than the local market, with the exception of the Shenzhen listings.

 

Chinese Airlines Soar on Cargo Capacity Lift

China Eastern Airlines, 60015 SH, 670 HK,  CEA NYX, China Southern,  ZNH NYX,            1055 hk,   60029 sh, Air China, 60111 sh, 753 hk,  all up thanks to in cargo strengthening in the first quarter.  Since cargo load factors are still low, over-exuberant rise.

China’s Largest Construction Firm Defies Rebound

China Construction Communications Co., CCCC, 1800 hk, 601800, dropped another 5% + in Hong Kong.  It has now dropped over 10% in Hong Kong since 4/21/16 on disappointing 1st quarter new contracts. The latest drop has been less severe in Shanghai, but has shown a greater year to date drop of 13.7%.

Source: Bloomberg

While much has been made recently over a China rebound, thanks to construction activities and commodities related to a housing price resurgence, (primarily in tier 1 cities), market optimism has not spread to this mainly infrastructure construction company.  (Infrastructure revenues = 86% of 2015 annual revenues).

The latest price drop has been blamed on q1’s new contracts, which showed only a 2% increase from the prior year.  This drop brought a downside risk prediction from Nomura,  which projected a target price of 10.06 at buy.  Despite the lower year on year increase, CCCC reportedly held onto its guidance which was a 9.6%% increase in new projects and a 6.0% increase in revenue, stating that the start of the year was not reflective of the full year.

In fairness, historical quarterly earnings have fluctuated based on the quarter, with the final quarter at the highest.

Historical Data based on hkex filings; 1Q 2016 from press report.

While the company may state that the first quarter is its slowest, as is born out in historical comparisons, the decline of 2014 and minimal growth from 1q, 2014 indicates good reason for skepticism.

Full quarterly results have yet been released for 2016 on the Hong Kong Exchange. However, its last annual release showed a continuting downward trend in ROE.

Source: Morningstar

A summary of the annual report of this 112,000 employee firm follows:

*Helped by effect Tx rate drop – from 21.1% to 19.1% due to “high-tech” enterprise qualification

**Mid term Note, MTN – ISSUED 12/14; INTEREST GENERATED BUT NOT DECLARED; COUNTED AS EQUITY

Source: HK Filings

The company has limited means to match its 2015 performance growth or its projected goals. While it has been pushing to add international exposure, revenue outside of China represented only 19% of the total for 2015.  The company has primarily been investing outside of China in Hong Kong, Macao and Africa but has been prohibited from working on any road projects funded by the World Bank until 2017, due to fraudulent practices found on a road project in the Phillipines in 2009. The company is therefore primarily dependent upon infrastructure projects in China, which have approached saturation, are heavily indebted and have questionable ability to repay debt let alone turn a profit.

Conclusion – CCCC, the dominant China infrastructure SOE company has dropped significantly over the last 12 months but uncertainty in future earnings adds extreme risk to its valuation.  Comparing Financial Times projections to Company projections, shows the Hong Kong listing price to have room to fall, particularly since the company itself projects only 6% annual revenue growth and with 2% year on year for the first quarter.

 

China Indexes Go Red

China Indexes slipped after yesterday’s exuberant rise. The drop left traders scratching their heads.

Given that the indexes are still above the start of the last 30 days, it could be a short-term correction.

(1 month – Shanghai Comp Orange; Hang Seng Index Blue)

The decline was felt pretty much across the board.  For the Hang Seng, 76% of its members dropped.  The small positive group of 18% consisted  mainly of property related companies. The HSCEI, which declined 1.19% also had negative members dominate at 88%. The four positive movers were: Wanda Commercial, hk 3699, China Vanke, hk 2202, PICC 2328 and Air China, HK 753. The only one of these linked to news was PICC, with UBS expecting a positive improvement in the Property and Casualty Financial Service Industry  in China, lifting its target price of PICC to 17.2 and rating it a buy.

Telecoms – Telecoms continued yesterday’s slide despite the biggest, China Mobile, announcing that its 1st quarter saw a net addition of 7.61 million mobile customers. Net profit was up only .5% and the company noted the growth rate for the whole year would be challenged, ” in the first quarter of 2016, ARPU of mobile customers was RMB57.6 and recorded a slight increase compared to last year. “China Mobile, 941 HK, down .949%; China Unicom,  762 HK, down 2.977% with UBS noting its profits are under a lot of pressure and cooperation with rival China Telecom is minimal. China Telecom, 728 HK, down 3.118.

Insurance – China Life, 2628 hk, down 1.837%, announced its first quarter profit could decrease by 55% – 65% due to a decline in investment income an a change in accounting methods. China Life has had a dismal run, down 49.6% over the last 12 months and 12.19% year to date.

China Life H2628 HK, Orange; Hang Seng Blue

Overcapacity and Cement

Asia Cement, 743 hk, up 2.9%, one of the smaller players in the cement industry, continues to produce despite negative earnings and government edicts to decrease production in cement nationwide. Today’s filing revealed an 11% decline in revenue, coupled with a drop in gross margin from 16% to 9.9%.  First quarter NOI losses after Taxes were -62.8 million rmb from NOI of 1.4 million rmb the prior year. The company continues to churn out product despite obvious declines in demand, upping sales tonnage by 17% while prices dropped by 24%. The pledged decline in overcapacity industries in China appears to be a myth.

Ping An, 2318 HK, released its 1st quarter financial statements for its banking subsidiary. At first pass, results are impressive with net interest income, commission and fees all up. As noted in the filing, these increases were due to an emphasis on Mega: “This is to establish a platform for “mega investment banking, mega asset management and mega transaction” supported by the four engines of growth, namely “corporate banking, retail banking, interbank banking and investment banking”.

However, while revenues were up 33% year on year, net income after tax was up only 8.1% thanks mainly to a doubling of asset impairments.

Not surprisingly, the NPL ratio and Loan loss provision increased dramatically.

It’s interesting to note that despite interest rate drops by the Central Bank, Ping An has actually increased its net interest margin, thanks to a slight drop in yield on interest earning assets more than offset by a decline in interest rates on liabilities.

 

 

China Indexes Stall

China indexes stalled, with slight drop despite gdp meeting estimates.  Apparently, after earlier export data, all the good news had been absorbed.  Both indexes held onto impressive gains for the week.

China met projected gdp growth target of 6.7% for the first quarter, down from last quarter’s 6.8%.  (Compared to full year 2014 gdp growth of 7.3%). Growth fueled by debt, primarily for SOE’S and local government infrastructure. Per WSJ,

Higher investment in property and infrastructure is also providing a boost to many of the industries that are beset by the excess capacity government has vowed to eliminate.

While investment in factories, buildings and other fixed assets grew 10.7% over the quarter, the rate was up 23.3% for state-owned firms and only 5.7% at private firms. China’s state-owned enterprises tend to be less profitable; last year their profits fell 21.9%, compared with a 3.7% increase for private companies. And the government has made nurturing the private sector—and the job growth it brings—a priority.

Cement production rose 24% year on year in March compared with an 8.2% decline in January and February combined, while crude steel rose 2.9% last month, compared with a decline of 5.7% in January-February.

Both of these industries are on the “over-capacity” list of industries which the government has promised to curtail.  Unfortunately, the conflict of interest between SOE majority ownership in these industries and SOE reform makes that less than likely.  For steel alone, the China Iron & Steel Association, CISA, reported that China had a capacity surplus of around 400 million tons, with utilization rates falling to 67% in 2015.  To put it in perspective, publicly traded steel major Arcelor Mittal, MT, NYX, in 2015 stated that capacity rates of it’s 4 large US hot strip mills, running at 70%, were well below optimal and would require some sort of change. (Andy Harshaw, CEO Arcelor USA).” It is not sustainable to operate multiple HSMs at low utilization rates when the same volume of steel could be produced by fewer HSMs at higher utilization rates.” Arcelor Mittal shipped 84.6 million tons of steel in 2015 per the annual report.  In that same report, it was stated that China exported 112 million tons, up 18 million tons from the prior year. This was on an overall reported production decline in China of 2%.  Exports were made to offset the Chinese consumption yoy decline of 4.5%.

Filings

Jiangxi Copper, HK 00358, down .922%, announces delay in circular from 3/18 to 4/15, now extending to 5/12/2016.  Delay reportedly related to financial details regarding its new share issuance and confirmations over “indebtedness statement.”  Got approval to issue new, non-public shares at last annual board meeting.  2016 has brought no clarity and lots of red flags:

• Profit to Owners decline of 93%.
• CFO resigns: 2/26/2016
• Litigation: 3/22/2016: Trial over monies owed to Jingxi Subsidiary.  Principal and interest owed of 392.5 and 33.2 million rmb, respectively.  Court ruled in Jiangxi’s favor but plaintiffs appealed.  Ability to pay is another story.

See my weekend edition for more insight into this company.

China Shanshui Cement, HK 691, suspended. saga continues.  The company, which has had trading suspended since May 2015 in a brutal ownership fight, filing states that corporate seal held by former directors is invalid.  Is applying for new seal.  In the meantime, everything signed with that seal, (origination date is unclear), is invalid – including any and all filings.  As of the announcement, the company was aware of 102 lawsuits from creditors.

Great Wall Motor, HK 0233, down 2.446% responds to questions over declining gross margins from first quarter to last, risks on reliance on SUV’S.  Answers aren’t pretty. Promotions and competition are the underlying causes. Haval H8 & H9, were released in 2014 and 2015 but weren’t shown under specific sales.  Company states they were below expectations, with no material impact on earnings.  Haval H7 was projected to launch in 2015 – no explanation had been given why it didn’t. Company stated it adjusted the schedule to April, 2016. It was also asked to explain why the gross profit margin decreased from 26.6% in q1 to 22.9% in q2. Company stated it was focusing on its SUV sales, 82% of 2015 sales, which required promotions and employee compensation increases.