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Sunday, October 30, 2005

Asia Tiger @ 23 cts ( Contract manufacturing / China ) 0 comments

(P.S: Sorry for any disturbances the advertisements above may have caused you)

Main issues

1.Margin pressure in office equipment segment

2.Diverted IPO proceeds allocation from planned digital camera capex constitutes a surprise that should be received in a negative light

3.Not exactly cheap; some doubts about its share of shredder market

4.Questionable corporate governance

Sometimes you look at a stock and it seems to have all the things going for it; all the stars are in alignment. The reverse is true of Asia Tiger; the stars are in alignment for this stock as well, but these are "malignant" stars.

China stocks have been on a correction path these few weeks, with past market favourites like China Flexible Packaging, Beauty China, even Cosco losing 20-50% of their market value, yet Asia Tiger, an IPO earlier this year with no established post-listing track record, has amazingly survived the onslaught, even with a dismal set of results post-IPO where net profit dropped by half. Chartists might call this "strength"; I would beg to differ on fundamental and valuation grounds.

Look at the latest full year (up to Mar 05) financial statement by Asia Tiger. The company ostentatiously claimed that its 50% fall in net profit was due to losses incurred in its digital camera division which it had since discontinued; that was the reason that brokerage analysts picked up and somehow portrayed as a positive to recommend the stock as a "buy". That is quite amazing. The IPO proceeds had been raised primarily for expanding its digital camera production and R&D operations; now they were to be retained mainly as working capital as the company had no backup plans! (see its announcement on SGX).

Anyway, coming back to the main point, we analyse the main business of producing office equipment and check out the segmental performance in the annual report. The office equipment segment's revenue increased from RMB153M in FY04 to RMB247M in FY05, but profit dropped from RMB55M to RMB34M. The margins had dropped alarmingly, so how can one assume that profit performance would be better for FY06 even though digital camera operations have ceased?

Kim Eng has been advocating this stock for some time in its analyst reports, and I don't understand why. The competition for manufacturing such office products is clearly fierce in China; the IPO prospectus recognised as much under its risks section; hence the declining margins post-IPO. I can't believe they actually believed management's claim that "A-Tiger controls an estimated 25% of the global market share for paper shredders" when the company only had S$50M worth of revenue in ALL product segments in FY05. More like A-Tiger's customers have a combined total of 25% of the market, which they obviously outsource to various suppliers like Asiatiger.

Valuation-wise, the stock is not trading cheaply at 13.5 times trailing PE. I still use trailing PE for conservativeness given my above doubts about its FY06 results and ability to sustain margins. Its EMS (electronics manufacturing services) peers like Surface Mount are trading at single-digit PEs of 5-6 times, and SMT is a much larger and more established company. Both are troubled by rising labour costs in Southern China where their plants are located, as well as rising renminbi concerns.

Finally, corporate governance is increasingly becoming an issue following the CAO and other scandals, especially with China companies. Does the recent change of auditors (E&Y being replaced) ring a bell? China Paper did that too; my reasoning for warning against China Paper because of that applies to Asiatiger here as well.

(1) Kim Eng report on Asiatiger 27 Oct 05




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