While QZ’s sales of RMB97.43mln was in line with management’s forecast, gross loss of RMB13mln was way below their guidance of RMB12mln gross profit. Net loss of RMB7.28mln for the quarter was also way below management’s guidance of RMB12-13mln net profit (was already brought down from its original target of RMB80-90mln in Jan ’08).
QZ also recognized an unexpected impairment loss on doubtful debt provision of RMB5.14mln, reflecting the RMB45,932,000 increase in consolidated trade receivables to RMB335,742,000. There could be more collection problems going forward with the significant downturn of the industry.
As a result of the consolidated numbers, CS’s 3Q ‘08 gross margin fell from 35.6% to only 29.2%, while net margin fell from 23.6% to only 18.07%. Because of the acquisition, short term debts increased from zero to RMB66.8mln which resulted in RMB1.432mln interest costs for the quarter, and intangible assets increased from zero to RMB249.073mln, as CS paid RMB450mln for QZ while its book value was only RMB200.927mln.
This is a huge sum of goodwill to pay for a loss making company. If CS is not able to turn QZ around soon, it may have to writedown the goodwill which will negatively impact its bottomline as well as shareholders funds.
And worse of all, the acquisition of QZ was announced at the beginning of 2008 and due to much delays, only completed in 3Q08. Since then, the chemical fibre industry has gone into a significant downturn with CS expecting its 4Q ‘08 performance to be negatively impacted by tight credit, falling demand, significant decline in raw material and selling prices, plunging export demand (estimated at 50- 60% of industry sales) and high fixed cost nature of their business (depreciation represents 15% of profits and 3% of sales). 1H2009 is also not expected to see any improvement.
No wonder that CS’s market cap is only S$195.5mln which is a discount even to its net cash position of S$217.5mln (shareholders funds excluding intangible assets total S$568.7mln). We do not have a rating on CS but have a hold rating on CS’s competitor Li Heng Chemical Fibre.
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