China's Version of Sears- In 1960

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I don't know if it's because of the two recent Red Hot China IPOs, or if it's just time. Whatever it is, the China space is starting to perk up again, and as the larger cap stocks start moving away, the smaller ones will pick up the pace right behind them. 

Two of my top 10 picks have started to gain some momentum- CCME is up 25% in the last 3 trading days. LPH came out with year end audited numbers yesterday- $343 million in revs (up 74%), and $50.2 million net profits- $.45 in EPS after taking out the non cash stuff. LPH was up 23% in the last two days. 

Bohai (BOPH)- one of my recent ideas-ended up delivering net income of $9.5 million in FY'10, which equates to $.57 in EPS for the year. The stock is unchanged on the day, but with those numbers should be trading at twice the price.

All in all, looks to me like the China sector could be finding some legs and that's why I'm so aggressively providing new ideas. Here's the third new idea in the past two weeks, and this one might be the best. Great business model- likely to do $100 million in revs this year with nothing but growth potential out in front. Also, it's a story we can all easily relate to. 

Did You Buy Sears in 1960? If Not, Here's China's Version

If you dig deep you'll find a lot of great companies trace their roots to the most obscure events. Here's one story. In the 1880s a railroad station agent in North Redwood, Minnesota received a shipment of watches from a Chicago Jeweler intended for the local Jeweler in town. The local guy rejected the shipment. That happened 130 years ago. The shipment ended up in the hands of that local railroad station attendant, and thanks to that event, there's a company doing $44 billion in annual revenues today.

Railway agent Richard Warren Sears seized the opportunity, and sold the watches for a tidy profit to other station agents up and down the line. He then ordered more watches, and repeated the process. Out of these humble beginnings, the iconic Sears catalog was born, and the company was selling sewing machines, sporting Goods, stoves, and refrigerators by 1897 through a 532 page catalog to customers largely outside the major metro areas. Sears exceeded $750,000 in revenues in 1895- a behemoth number at the time.

In the early 20th Century Sears was by far the largest retailer in the US, and the Sears Catalog was a staple in nearly every household. The company continued as primarily a mail order catalog house until the post WWII era. As more affluent consumers started to move to the suburbs and raise the baby boomer generation, Sears was forced to open retail stores in strategic locations to match this demographic change. It paid off handsomely for investors in Sears stock- one of the "must own" stocks for the 30 year period from 1960 to 1990.

Much like Richard Sears, Mr. Liu Hailong had humble beginnings on his way to success in the appliance sales business. 20 years ago Mr. Hailong ws a 17 years of age, and running a small appliance repair shop.

Today, he is the President and CEO of a 768 location appliance store network expected to generate $100 million in revenues in 2010 and about $17 million in net profits.

China Electronics Holdings (OTC BB: CEHD): From Humble Beginnings a Behemoth Grows

It's off the radar- no one knows about it. However, if you dig into the SEC filings and take a hard look at the numbers, the growth, profits, and upside opportunity just fly off the pages.

Located in Lu'an, about 4 hours train ride west of Shanghai- CEHD is tapping into the New China's 800 million consumers.  Driving their substantial growth is the $235 billion in subsidies for China's rural households- this money is earmarked to purchase home appliances and consumer electronics over the next four years. There's also $120 billoin in savings the consumer has at their disposal.

This is the floor of one of their 768 locations.

The company has become far more profitable over the last year as sales of Solar Heaters have exploded- Solar power systems from two manufacturers represented nearly 50% of their sales in 2009. The goverment provided great subsidaries for buyers. Refrigerators, TVs, and washing machines are also in high demand.

The Anhui Province was last reported ('09) to have about 62 million inhabitants spread amongst 8 cities, 105 counties, and 1845 townships. It's big and diverse, both population wise and geographically.

Here's a few factors driving growth and profits:

  • The PRC rural areas have twice as many households as in all of the US. The third through fifth tier markets comprise 55% of China's entire 1.3 billion people.
  • Rural consumers receive a 13% rebate for purchased appliances and consumer electronics
  • The China Electronic Product Association data shows 33% of the 200 million rural households are considering their first purchases of TVs, refrigerators, washers, and hot water hearters.
  • 98% of residences in Tier I and Tier II cities have a refrigerator- only 22.7% of rural residents have one.
The majority of the company's revenues come from 3 company owned stores and 408 exclusive franchise stores. CEO Mr. Hailong is an entreprneur, and appreciates other individuals who want to follow his lead. The company helps finance the opening of exclusive franchise stores, then sells its products through those locations.

So, what does a company that has grown from humble beginnings in 2002 look like today? The growth is impressive:

Financial Performance

You have to dig this information out of the financial filings, and it's not well known or covered by anyone at this time. You have to dive into the Super 8k that describes a transaction that made this a Public Company back in July. The filing describes an RTO (reverse take over).

Found in the filing are the company's Q1 numbers, which represent the March quarter:

CEHD Financial Performance
Q'1 2010
Q'1 2009
Percentage Change
EPS (using an estimate of 17 million shares)

Here's what this idea boils down to:

If you own this stock at about the $3 level, you are getting over $100 million in annual revenues, likely close to $17 million in net profits, a 270% top line growth rate, a 300% bottom line growth rate, and you're only investing at about 3.3x '10 EPS. Another: wow eye opener valuation.

As importantly, this company is a wonderful representation of the opportunities in the "New China". The old China which ran its course in 20 years was the fast paced growth of cheaply consturcted factories, with cheap labor, very poor energy consumption profiles, and high pollution levels.

The "New China"- the one worth betting on for the next 20 years, is the "consumerization" of the largest emerging consumer class in the history of the world, and it's all contained within China. It doesn't need to be the world's cheapest manufacturer of goods to grow and prosper. The growth, fueled by government stimulus plans that don't require deficit spending, will last for some time to come as 1.1 billion citizens morph into more western type life styles.

BTW- did I mention- the company plans to open 100 more stores- CEHD recently opened 4 new stores in neighboring Henan Province- its first foray outside of the home province of Anhui.

Like Sears in 1960- but, faster growning, more profitable, and a better valuation. The chart here is not worth looking at yet. You're the first one to know about this company, but far from the last.

I've documented the issues that have led to these extraordinary values in China stocks. As the market for these companies comes back to normal, many will trade up to more traditional levels. Since 1698 when the first shares were formally traded at Jonathan's Coffee House in London, the market has rarely priced growth companies at these kinds of levels.

If this stock can find it's way to a mere 10x'10 EPS, it would trade at $10- a little more than triple the current $3 at which you can own this stock.

Disclosure: No Position- Yet

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