China Sportswear Companies: Approaching end of de-stocking

Store visits in Xiamen. We visited retail outlets of Li Ning, Anta, Xtep, Kappa, China Hongxing and 361 at Zhongshan Road, the busiest shopping area in Xiamen, between 7pm and 9pm on 2 Sep09. We were surprised to see substantial product discounts across all brands at all outlets.

Industry-wide de-stocking is likely to end before Nov09. The big discounts are meant to clear summer inventories before the full-scale launch of winter products, in our view. Thus, price discounting should not extend into November.

Industry prospects are improving. Retail sales growth in China is on an uptrend on a y-o-y basis, and the Business Climate Index for clothing and footwear showed a strong rebound in 2Q09 after 6 quarters of decline from its peak in 3Q07.

Upgrade China Hongxing to BUY, TP raised to S$0.31, based on 12x FY10 P/E or 30% discount to Anta’s FY10 P/E, with no change in earnings estimates, for we expect the valuation discount to continue to narrow to its normalized level as we have correctly foreseen in May09.

Maintain BUY on China Sports, TP raised to S$0.33, based on 6x FY10 P/E or 40% discount to Xtep’s FY10 P/E, in anticipation of normalizing valuation discount along with economic recovery.

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Delong - New Deal For CB Holders

As the company will not be able to meet their convertible bondholders (CB) requests when the CB holders have the option to require the company to redeem their bonds (worth RMB1.532bln) on 8 June 2010 the company is proposing to amend the terms and conditions of the bonds.

The new bonds will be similar to the existing bonds except that the new bonds will repay 100% of the principal at maturity in June 2012 and will not allow bondholders to force the company to redeem by June 2010, but in return, the company will pay an annual interest of 5% (paid semi-annually). As well, the old conversion price of S$4.455 will be reset to the equivalent to the average price from 17 Aug ’09 to the trading day prior to the closing date and there is no restriction on the convertibility of the new bonds.

An EGM is expected to be held on 2 Oct ’09 for shareholders to vote and at least 75% of positive votes are required to put the deal through.

The new deal sounds like a good deal for existing CB holders as they would be able to gain 5% annual interest as well as lower conversion price. The only downside is that if business at Delong remains in the doldrums, the CB holders would only be able to get the 5% annual interest and not be able to participate in the rise in share price and remain stuck with their CB until June 2012. However, this sounds like a better deal than see the company go into receivership for not being able to meet their debt obligations.

While Delong has underperformed most other SChips by rising the least from its low (shown in our table yesterday) we maintain that at 1.8x price to book it remains overvalued compared to China’s largest steel producer (Baoshan) which trades at 1.4x and the industry remains in the bad books of the government given overcapacity & pollution problems, hence maintain SELL.

China XLX Fertiliser - 2Q09: The worst has passed

Worse-than-expected 2Q09 results due to lower product prices and one-off loss. We expect profit to recover in 2H09 given the production ramp-up at new plant. Maintain BUY with target price of S$0.57 based on 8x 2010F PE.
China XLX Fertiliser’s (XLX) turnover was up 7% yoy to Rmb545m, mainly due to the launch of the new urea plant in mid-Apr 09. Gross margin and EBIT margin slid 13ppt yoy to 10.8% and 6.7% respectively, due to declines in the prices of urea, methanol and compound fertilisers, as well as one-off start-up costs for the new plant. Net profit plummeted 75% and 60% yoy respectively to Rmb23m in 2Q09 and Rmb82m in 1H09 (vs our full-year forecast of Rmb226m).


We believe the worst to be over in 2Q09, and earnings could recover in 2H09, due to the smooth launch of the new plant, as well as the stabilisation of urea prices and methanol prices. In 2Q09, the company registered substantial one-off start-up costs for the launch of Phase III in mid-April. The start-up costs will not be repeated in 2H09. With the production ramp-up at the new plant, the company’s urea capacity has increased from 0.72m tonnes to 1.25m tonnes. The company expects the new plant’s utilisation rate to increase throughout the year and reach full capacity next year. Unit cost is lower than that of the two old plants, which helps to drag down overall cost. Urea prices in China have stabilised at Rmb1,600-1,700/tonne due to a rebound in international urea prices and the reduction of urea export tariff, which opens the profit window for Chinese urea exports.

The loss from the methanol segment will narrow as XLX is streamlining facilities to produce less methanol and more urea, as well as reduce the cost of production. Adding to the boost is the rebound in methanol prices. Though net profit for 1H09 reached only 36% of our full-year forecast of Rmb226m, we maintain our profit forecast for 2009, due to the aforementioned factors. Management is going to hold a conference call today so we will provide updates later.

XLX is trading at 6.9x 2010F PE, much lower than the over 10.0x for domestic and global peers. Despite the industry headwinds in the near term, we remain upbeat on XLX, given its strong position amid industry consolidation in the medium to long term. Maintain BUY with a target price of S$0.57 based on 8x 2010F PE.

China Zaino - 2Q09: Disappointing results but signs of recovery emerging

Signs of recovery are emerging despite the lower-than-expected results, suggesting the worst is over. Growth will be driven by its enhanced market leader position and continuing healthy financials. Maintain BUY.

2Q09 sales dropped 8.9% yoy with net profit contracting to a record -34% yoy on the back of lower consumer spending amid the economic downturn and a higher base last year. However, there are good signs emerging: a) under a tough environment, 1H09 sales increased 4.7%, suggesting the company has been able to maintain its market share, and b) then luggage segment reported good sales, indicating the company’s efforts to enter a new market so as to offer a better product mix has worked well.

We believe the stock might come under selling pressure today as the results came in lower than expected. But we recommend investors take advantage of price weakness before the market gradually realises that the worst is over,underpinned by a continuing recovery in the economy which will lead to an increase in consumer spending in 2H09. Also, management has guided that net margin has touched its base line and they are not going to compensate further for higher sales volume as its market leader position has been enhanced in the downturn and its product mix has been structurally adjusted.

Li & Fung - 1H09: cost cutting spurred profit, too much growth is priced in

1H09 results came in better than our estimates due to cost saving, but worse than market expectation as a result of drop in turnover, with net profit up 13% yoy to HK$1.4b. Valuation is too expensive. Maintain SELL with fair price of HK$18.8 based on 18x 2010F PE.
1H09 results came in better than our estimates due to cost saving, but worse than market expectation as a result of drop in turnover, with net profit up 13% yoy to HK$1.4b. The earnings growth was solely attributable to cost cutting. Due to dilution from the two share placements in Sep 08 and May 09 respectively, EPS only grew 6% yoy.

Despite its numerous M&As and outsourcing deals, turnover unexpectedly dipped 2% yoy to HK$46.3b in 1H09, mainly due to insolvency of its customers, order cuts and price deflation. Ytd, 10 customers of L&F have already filed for bankruptcy, compared to six for 2008. Besides, existing customers cut their orders for destocking purpose, as most of them saw a double-digit sales decline.

SG&A as a percentage of turnover dropped to 8% in 1H09 from 8.3% a year ago, due to the Group’s cost cutting measures. As such, EBIT margin rose 32bp yoy to 3.6% in 1H09. For 2009, the Group targets to reduce its operating expenses by US$100m or 10% of the 2008 cost base (excluding acquisitions).

Effective tax rate fell to 5.9% in 1H09 from 8.6% a year ago, due to tax management. Combined with an improvement in EBIT margin, it boosted net margin by 40bp yoy to 3.0% during the period.

Based on the larger than expected cost savings and lower effective tax rate, we raise our EPS forecasts for 2009, 2010 and 2011 to HK$0.88, HK$1.04 and HK$1.23 respectively. Our expected 27% EPS growth in 2009 is solely based on acquisitions (or outsourcing deals), operating cost savings, as well as tax expenses. The benefit will fade from 2010 onwards. We anticipate an 18% EPS growth for 2010-11 to factor in the new outsourcing deals, like Talbots.

Raffles Education - Victim Of Negative Media Report.

Raffles Education (RE) said that a website in China known as China’s 21 st Century Herald had on 25 Aug’09 published a speculative report indicating that a number of teachers in its 100%-owned China unit Oriental University City (OUC) have false accreditations.

RE said that while it is not the company’s policy to comment on speculative reports, management have decided to advise its shareholders and the investing public that the media report contains a number of inaccuracies and misleading facts and figures. Their 2 colleges at OUC are bona fide schools with all the requisite approvals and permits in place.

Management also cautioned against the wilful circulation of the media report and reproduction of the untruths and misleading facts and figures. And that it would not hesitate to seek legal redress against anyone found doing this.

The date of the negative media report was coincidentally released on the same day that RE released its full year ended June’09 resultswhere its performance came in below market expectations due to higher than expected costs, slower than expected student growth rate and start up costs of new colleges. This had resulted in a few downgrades and target price reductions by analysts.

At the same time, technically the stock breached its short term uptrend in place since Mar’09.

Since 3Q ended Mar’09, the company had stopped its usual quarterly dividend payment. At 50.5 cents this morning, market cap is S$1.324bln, trailing PE is 26x, price to sales is 6.5x and price to book is 2.5x.

China Precision - A Fair But Not Compelling Offer

China Precision’s Chairman and major shareholder Zhang Zhongliang who owns 66.24% of the company is proposing to take the company private at 28 cents a share, valuing the company at S$102.259mln.

This is at a 19% premium to its last traded price, 180% premium to its low reached in Jan’09, but at 2 cents discount to its IPO price of 30 cents (June’06) and 44% discount to its all time high of 50 cents hit shortly after the IPO.

This translates to a trailing PE of 8x, price to sales of 0.7x and price to book of 1x. Its 4-year historical average PE range from low of 4x to high of 10x, price to sales 0.4-1.1x and price to book 0.5-1.5x, hence the offer price values the stock roughly in-between the historical average valuation range.

An additional 9.7% of shareholders (Zhang Hongman, the treasury manager of the company, Lu Hong, the HR director, Zhang Qing Lin, director and GM of the company, Lou Yiliang is close business associate of the Chairman) have given irrevocable undetaking to vote in favour of the offer, giving the offeror a stake of 75.94%. There are no institutional shareholders with more than 5% of the company. (China Precision has not been a well-traded stock with average daily vol of about 150,000 share in the last 6 months).

An EGM will be held for shareholders to vote on the proposed privatisation offer and having already achieved the minimum 75% approval needed, the delisting proposal would be put through if not 10% or more shareholders vote against it.

We view the offer price as fair compared to Elec and Eltek’s which valued the stock at only 0.6x price to book (resulting in the independent advisers rendering the offer as too low), but not as compelling as Sihuan’s offer (the last privatisation offer) which valued the company close to its all time high share price and valuations (price to book of 3x, price to sales of 3.6x and PE of 9x).

This should be positive for other S-chips given that the offer price was done at 19% premium to its last traded price and 8x PE, 0.7x price to sales and 1x price to book is double that of the lows it hit and about in line with the average historical trading average.

A sell recommendation on Cosco

Cosco faces similar difficulties as shipping companies. Currently, there is excess capacity in the shipping industry and shipping companies are laying up vessels. As a result, the shipping companies are not placing orders for new vessels. In some instances, the shipping companies reschedule and/or cancel the orders for new vessels. Cosco has seen its share of reschedules and cancellations, and we believe that the trend will continue for the rest of this year and early next year.

Earnings estimates. The reschedules and cancellations are expected to cause the profit to decline from S$302.6m in FY2008 to S$174.2m in FY2009F. We expect improvement to begin towards the second half of next year, which is likely to lift the profit to S$193.0m and S$230.9m in FY2010F and FY2011F respectively.

From the list, we note that the average P/E and P/B for the industry are 13.30 and 2.60 respectively. Cosco is currently valued at 9.10 times P/E and 2.41 times P/B.

Recommendation. We have a sell recommendation on Cosco with a fair value of S$1.14, which is 2.2 times book value for FY2009F. We feel that Cosco may face further downward adjustments in profit and cash flow due to more reschedules and cancellations of vessel deliveries. Moreover, we expect only a few, if any, contracts for the construction of new vessels given that shipping companies are still idling vessels.

Longcheer - Leveraging on the 3G theme

Results inline with forecasts; Maintain BUY. Mobile handset solutions provider Longcheer reported 4QFY09 results that were inline with our expectations. We continue to expect Longcheer to be able to leverage on the 3G theme – BUY recommendation is therefore maintained while target price is increased to S$0.865 (from S$0.56 previously) based on 7.6x FY10 P/E.

Net earnings were almost on the dot. With reference to Figure 1 & 2, Longcheer saw 4QFY09 revenue of RMB634.6m (+8.7% QoQ, -18% YoY) while net profit came in at RMB38.3m (+34% QoQ, -15.5% YoY) as lower demand for 2G handset solutions in China affected the company. Nevertheless, this was generally inline with our estimates as we were forecasting top and bottomline at RMB534.6m and RMB38.0m respectively.

Outlook remains bullish. We continue to like Longcheer due to the following:
(i) Strong net cash position of 28 S¢ per share as of FY09, representing slightly less than 50% of its current share price.
(ii) A growing 3G market in China where the three Chinese telcos are expected to spend RMB280b from 2009 till 2011 to upgrade their 3G networks – Longcheer’s 3G products jumped more than fivefold YoY to exceed 1.0m units in FY09 and we are forecasting no less than 2.3m units to be shipped in FY10.

(iii) Strong cash flow generating attributes – we expect Longcheer to generate full year operating cash flows of no less than its corresponding net profit in FY10F and FY11F respectively.

(iv) 1QFY10 results to at least match 1QFY09’s revenue and net profit of RMB905.3m and RMB48.9m which still translates to sequential growth of at least 42.6% and 27.7% in top and bottomline respectively.

Valuation. Our forecasts remain generally unchanged given that its results and outlook were inline. We maintain our BUY recommendation and continue to peg our target P/E to a 30% discount of the industry average – target price is therefore increased to S$0.865 (from S$0.56 previously) based on 7.6x FY10 P/E.

Epure - New projects in the pipeline

Epure’s 2Q09 results were in-line with our estimates, with earnings rising by 28%. With RMB900m worth of contracts currently under negotiation, our confidence in its ability to secure more future projects and grow its order books is reaffirmed. Maintain BUY, with revised fair value of S$0.75 (S$0.51 previously).

Stronger 2Q earnings from tax credit. Epure’s revenue was up 26.7% YoY to reach RMB303.4m, on the back of higher contribution from major turnkey projects and sale of customised environmental equipment from Hi-Standard. Gross profit margin was slightly weaker YoY, from 32.2% to 30.3% - this is due to the difference in the timing of recognition for the various projects. Consequently, earnings rose 27.9% YoY to RMB66.7m. We note that this was boosted by confirmation of tax incentive for Epure’s subsidiary, bringing income tax expenses down by 90.2% YoY to RMB1.1m in 2Q09.

Potential contracts ahead. We understand that there are ~RMB900m worth of contracts that Epure is currently negotiating for. In addition, there have been enquiries from other overseas countries such as Philippines, where there is apparently strong construction demand for water infrastructure. We believe that these potential order flows will help maintain, if not boost, order books, which currently stands at RMB1.2b.

Lower effective tax rates a booster to earnings. With the transfer of some existing EPC projects into Epure International Water, the company will enjoy lower tax rates of 0% tax for this year and 7.5% next year. This compares with the higher 15% tax rate without the transfer. Thus, we are lowering our effective tax rate forecast from 16% to 10% in FY09 and to 12% in FY10. This pushes our earnings estimates upwards by 7.2% to RMB270.2m in FY09 and 4.8% to RMB314.2m in FY10.

Maintain BUY, new fair value of S$0.75. With the positive industry outlook, we are expecting continued growth in revenue from Epure’s project wins. Applying a P/E of 14x (in line with its peers) to Epure’s FY10 earnings, we derive a new target price of S$0.75 (S$0.51 previously). We maintain our BUY rating.

China Automation is the largest provider of safety and critical control systems

China Automation expects its railway signalling and petrochemical system businesses to continue growing at 40-50% and 20-30% per annum, respectively, on rising demand in the next few years. It expects to win a few contracts, with confidence in the contract for Beijing metro, which will be announced in 2H09.

China Automation is the largest provider of safety and critical control systems in China, specialising in the petrochemical and railway signalling industries. The company’s business development hinges on the fast-growing Chinese railway industry. It foresees rising penetration given growing consciousness for railway safety. Management expects the railway signalling business to continue growing at 40-50% per annum in the next few years. Management expects city metro to offer exciting growth opportunities. Contract sizes for metro-line stations of Rmb200-350 mn are much larger than those for nationwide railway projects. Over 30 cities are planning to construct 85 city metro lines. Management expects the company to win a few contracts, with confidence in the contract for Beijing metro, which will be announced in 2H09. As the demand for safety and critical control system from the petrochemical industry is increasing rapidly, China Automation expects its petrochemical system business to continue growing at 20-30% per annum in the next few years.

Sinotel Technologies - ADR gains momentum

Since our previous report in August, a couple of developments have taken place. First and foremost there was a new contract win worth RMB15.3 million to provide 3G Distribution & Management System to China Unicom. At first glance, the figure seems small relative to its order book but it serves as a significant milestone in our opinion. The 3G Distribution & Management System basically keeps track and assist in managing China Unicom’s 3G sales and distribution channels between them, the distributors and exclusive third-party vendors across 31 provinces. This opens doors for Sinotel in terms of the opportunity to work with China Unicom’s 31 branches nationwide when deploying the system.

A second significant news update is the submission of American Depository Receipt (“ADR”) application to the US Securities Exchange Commission. ADRs represent ownership in the shares of a non-US company and trades in the US financial markets. It enables US investors to buy shares in foreign companies without undertaking cross-border transactions as ADRs carry prices in US dollars, pay dividends in US dollars and can be traded like the shares of US-based companies. Each ADR issued by the depository bank (The Bank of New York Mellon in this case) represents a fraction of a share, a single share or multiple shares of a foreign stock. For example, if the ratio is 1 ADR to 10 Sinotel shares in SGX, for each ADR a US investor purchases, 10 Sinotel shares will be delivered to the investor by buying from the open market of the Singapore Stock Exchange without a need to issue new shares.

We are very bullish on this event as ADRs provide increased liquidity to its shares, attract foreign investors and allow the company to carry out future fund raising activities when required. This greatly complements the Group’s participation in the prestigious Rodman & Renshaw Annual Global Investment Conference on 11 September 2009. This conference is expected to draw more than 2,500 investment professionals from around the world and Sinotel will have the opportunity to participate in the corporate presentation and daily networking sessions. We do not see any difficulty in the application of ADR to US SEC as, at this level, it is relatively straightforward and mainly requires that the company be listed in one or more stock exchanges in a foreign jurisdiction. We believe that with the approval of the ADR and the increased awareness derived from its roadshow in the US would give significant upside to Sinotel’s current share price.

Lastly, the Company has recently (4 September 2009) announced a placement of upto 28m new ordinary shares at a placement price of S$0.5052 per share. The placement will be placed to interested investors of which Providence SOGF Limited is one. The placement shares at full subscription represent 10% of Sinotel’s existing issued and paid up share capital of 280m ordinary shares. When completed, the placement will increase the issued and paid up capital to 308m. This has reduced our EPS forecast for FY09 from 10.72 SG cents to 9.27 SG cents.

Maintain BUY call at fair value estimate of S$0.93. Sinotel’s share price when we issued our report in August was only S$0.275, it has run up to S$0.585 since and we attribute the main reason to the announcement of the ADR. With the ADR just round the corner, we are pricing Sinotel closer to its US listed peers such as China Grentech Corp Limited and Telestone Technologies Corporation (Fig 2), which are currently trading at a PE of 13.53x and 6.66x respectively. With US investors likely to come in, the view that Sinotel is priced at a discount versus its peers is not unlikely. We thus move our PE to 10x FY09 forecasted earnings. This gives us a fair value of S$0.93, maintaining our BUY call. From the last traded price of $0.585, this represents an upside potential of 59%. As mentioned earlier, we view the ADR as a significant catalyst to the recent run up in share price, approval of which provides US investors a channel to purchase Sinotel shares that is still trading at a significant discount versus its peers.

China Banking - August new loan growth rebounded to Rmb410b, beating market expectations

New loans rebounded to Rmb410b in August, loan-structure continued to improve August's new loan-growth figure was well about market expectations, which was anticipating roughly Rmb300b of new loans for the month. In addition to strong headline numbers, the structure of loan growth continued to improve as well.

There was a total of Rmb159.1b of new corporate loans. Short-term loans increased by Rmb50.9b, medium- to long-term loans increased by Rmb367.5b, and discounted bills decreased by Rmb276.4b. Retail loans also saw strong growth in August, with a total of Rmb251.3b, which was largely driven by strong residential-mortgage loans. Medium- to long-term retail loans increased by Rmb180.6b for the month.

Strong August loan numbers will ease market concerns over liquidity The strong August new-loan figures will ease market concerns that there will be significant shortage of liquidity over 2H09. The continued improvement in loan structure shows that loans are being to finance economic development rather than speculative activities.

Given the CBRC's revised proposal to allow banks to deduct cross-held sub-debt over a series of years, joint-stock banks will be able to resume RWA expansion. The continued decline in discounted bills is also in-line with one of our major themes that will drive NIM expansion over 2H09.

China Hongxing is a leading domestic sports brand in China

China Hongxing expects a lacklustre 2009, due to weak demand and inventory issues. It plans to improve the situation by focusing on same-store sales. One of the strategies is to increase the store space (for fitting rooms) to cater for higher sales of sports apparel, which carry higher margins.

China Hongxing is a leading domestic sports brand in China, selling a wide range of sports footwear, apparel and accessories under its brand Erke. Management expects a lacklustre 2009, due to weak demand and inventory issues. The company plans to improve the situation by focusing on same-store sales. One of the strategies is to increase the store space (for fitting rooms) to cater for higher sales of sports apparel, which carry higher margins. Furthermore, Hongxing aims to expand its network and have 4,100 outlets by 2009 (+8%), 4,600 by 2010 (+12%) and 5,400 by 2011 (+17%). In the long term, management targets to have advertising and promotion-to-sales ratio reduced to within 20% while sports apparel to account for 60% of sales. Management remains optimistic that Hongxing will continue to gain market share.

China - September/October Property Market Development Remains Key

A-share market saw the biggest single day decline in 15 months — On 31 August, the domestic A-share market took a 6.7% tumble, the biggest single day fall in 15 months and breaking the psychological support level of 2,800.

What's behind the decline? — Speculation on reasons behind the fall include: 1) August lending is rumored to be below the market expectation of RMB400-500bn; 2) State Asset Bureau ordered SOEs to look into their outstanding derivative contracts, which could potentially lead to renegotiations with counter party foreign investment banks; and 3) Large IPOs being announced.

What do we think? — We believe the fundamental reasons behind the fall are as highlighted in our 18 August report1 that: 1) incremental liquidity is seeing decelerating momentum as bank lending slows, 2) maturing discounted bills rolling into longer term loans, 3) IPOs resumption, and 4) pick up in restricted shares selling off.

High property prices triggered the policy adjustment — We believe the area that triggered the government’s adjustment in its loose monetary policy was the high property prices which in first tier cities have already surpassed their 2007 peak. In order to reign in the ‘run away’ market, banks have made second mortgages much more difficult to obtain. Also rising prices start to cut into people’s affordability. As a result, transaction volumes peaked out towards the end of July in some areas.

September/October will become key months to look out for property market development, which also has a significant implication on stock markets — As we believe property remains the leading sector for both the Chinese economy and stock markets, whether we will see recovery in the upcoming peak season of property launches in September/October will have a deciding impact on market direction. We believe volume recovery has to be driven by some pricing declines. Thus, a more realistic approach from developers would likely please the government and invite buyers back. Otherwise, it could lead to further constraints from policy, which could also hurt stock market liquidity flow and sentiment.

Beauty China - Winding-up order against the Company

The Board of Directors of Beauty China Holdings Limited (the "Company") refer to the Company’s announcements made on 12 March 2009, 22 June 2009, 26 August 2009 and 31 August 2009 in respect of the winding-up petition against the Company on 18 June 2009 by the High Court of the Hong Kong Special Administrative Region (the “High Court”) presented by Industrial and Commercial Bank of China (Asia) Limited together with Banco Weng Hang, S.A., CIMB Bank Berhad, Hong Kong Branch, MCL Global Portfolios SPC Ltd - MCL Focus Opportunities Segregated Portfolio Fund and Public Bank (Hong Kong) Limited.

The Company wishes to inform shareholders that a winding-up order against the Company was made by the High Court on 7 September 2009 appointing the Official Receiver in Hong Kong to act as the provisional liquidator to the Company.

The Company will continue to keep shareholders informed and updated on material developments in respect of the status of the Company. Further announcements will be made as and when appropriate on a timely manner.

China Hongxing - Trading Close To Net Cash

Management said that while JF Asset Management (JFAM ) claimed that they faxed the change in their shareholdings in Jan ’08 and Feb ’09, internal checks review that the company did not receive those notifications.

Given that these transactions were quite sometime back, verifications can no longer be made.

Management said that they only received the shareholding changes from JFAM at the end of July ’09 which they subsequently released on 6 Aug ’09.

Management said that they have now strengthened their internal procedures in this respect and will ensure that it will not occur again.

When the media first brought up the discrepancy regarding the change in JFAM ’s shareholding on 24 Aug ’09, instead of reacting negatively to the news, the stock had risen 1 cent to 21 cents and had continued to rise to hit an intra-day high of 26 cents on 30 Aug ’09 before consolidating around the 25 cents level.

This is likely due to the company reporting that they had received RMB888mln worth of new orders at the 2010 Spring/Summer collection trade fair held in Xiamen on 24 Aug ’09 as well. While this represents a 26% yoy decline, it is up from May ’09’s RMB440mln, Mar ’09’s RMB800mln and Oct ’08’s 650mln. Management said then that the orders would have been flattish yoy if not for held back orders and rebates provided to distributors to weather the downturn in 1H 2009.

Management also said then that they were heartened by the recent signs of stabilization and believe that they will start to see more signs of stable performance next year, a reversal from their more pessimistic view since 4Q 2008, after the collapse of Lehman Brothers.

With management’s latest clarifications and strengthened internal controls to ensure that such an event will not recur in future, coupled with almost 90% of its share price being backed by cash & management’s target of collecting the outstanding RMB604.6mln of prepayments by the end of this year, we maintain BUY.

China - Still a bright spot;

We believe China remains a bright spot globally on the back of its strong growth potential, reflected in our economists recently upgrading their GDP forecasts to 9.4% and 11.9% for 2009E and 2010E, respectively, from 8.3% and 10.9%. We think the market concerns about a near-term “exit strategy” appear premature as the government remains pro-growth and real interest rates are still near the historical highs despite a significant re-leverging in 1H09.

We expect HSCEI and CSI300 to reach 16,800 and 4,300, respectively, by end-2010E, implying 44% and 36% potential price returns. The incremental upside from the new targets is mainly driven by our EPS growth rollover, but we believe the monetary policy will be the swing factor to valuations and hence equity returns. We set out two scenarios to model the potential market returns in different liquidity conditions.

We see investment opportunities emerging from the private service sector, including healthcare and education providers, as the govt undertakes deregulation to catalyze sustainable growth. Sectorally, we like domestic demand and would overweight banks, insurers, property around our core holdings of internet and solid consumer names.

Raffles Education Corporation: Muddied waters; downgrade to HOLD

Difficult year. Raffles Education (RLS) posted FY09 revenue of S$202m (+6.3% YoY) and bottomline of S$51.1m (-48% YoY). The poor showing was primarily impacted by weak student growth numbers coupled with the full S$33m impairment of Oriental Century and higher bad debt provision. Higher taxes were recorded due to tax incurred from its disposal of land as well as withholding taxes as it mobilised cashflows from overseas subsidiaries. RLS did not declare any final dividends in a bid to conserve cash.

Addressing concerns. With the market concerned about its ability to pay its short term loans and meet its Oriental University City (OUC) deferred payment obligations, RLS recently embarked to raise capital of S$131.3m via two tranches of fresh equity offerings. RLS has also restructured its outstanding RMB1.2b debt with OUC with 75% repayable only after Dec 2012 with an intended public listing. Post listing, the provincial government will likely own a significant part of OUC. We think that it would still keep a stake seeing that it can be a cash producing asset that has been turned around by Raffles. As education is largely driven by regulators, the government's stake in the listed entity will be seen as an advantage for Raffles.

Muddied organic growth. Although it has addressed debt concerns, RLS will not experience the growth of prior years. Management has guided for revenue to grow 15-20% and hopes to achieve net profit margin of 40-45% by FY12F. Student enrolment growth will also be stifled by a weakening Chinese market for private education as students put off longer and more expensive courses for shorter ones. Uncertain and haphazard regulatory changes to the education system have also introduced a murky outlook for organic growth. RLS will be setting up eight new colleges this year with breakeven timelines of 2-3 years each, depending on its locality.

Wait for clearer earnings drivers. We have adjusted our estimates to cater for a smaller topline coupled with higher operating costs and taxes. This offsets the absence of negative exceptional items for FY10F. With its funding issues addressed, we have bumped up our peg to 18x FY10F (prev 12x). Our fair value is tweaked to S$0.60 (prev. S$0.57). With the limited upside, we downgrade the stock to a HOLD.

Sinomem: Sizeable BOT player in China

Plant visit to Xiamen, China. We recently visited Sinomem Technology Limited (STL) at its headquarters in Xiamen, China. STL is a leading wastemanagement solution provider - it develops advanced membrane materials and has recently branched into BOT (Build-Operate-Transfer) waste-water treatment plants in China. We were given a tour of its membrane production facility and visited three of its waste-water treatment projects - two industrial and one municipal.

Sizeable BOT player in China. STL made inroads into the BOT wastewater treatment segment in 2006 and is currently building/operating ~20 such municipal/industrial wastewater treatment/recycling plants across China. Based on the total combined capacity of over 560k m3/day, STL has become a sizeable player in the BOT segment in China. We understand that STL has invested (or will invest) more than RMB500m for these projects initially using internal resources; some of these projects come with expansion clauses and could see STL investing an additional RMB450m.

Focus on North China and India. We note that the bulk of its BOT projects are located in North China and according to management, it is a strategic move given the scarcity of water there. STL believes it will not only be able to treat waste water but can also recycle the water using RO (Reverse Osmosis), thus deriving four revenue streams from these projects - the first from EPC (construction of the plant); the second from waste-water tariffs (with guaranteed minimum uptake and inflation escalation clauses); the third from membrane sales; and finally from sale of recycled water. Meanwhile, STL is also venturing into India to expand its waste-water treatment business. STL is currently working with its Indian partners and will provide the membrane technology and EPC works.

Near-term convertible loan overhang. On the financial front, it faces a potential overhang from the redemption of its convertible loan notes. While STL is sitting on a sizeable cash hoard of S$71.2m (as of end Jun) and generated an impressive S$23.1m cashflow from its operations in 1H09, the redemption may curtail its financial ability and flexibility to go after more BOT projects. As for its 52%-owned listed unit Reyphon Agriceutical, STL has almost fully written down its investment (took a S$13.2m impairment charge in FY08), which dragged its net profit down to just S$3.3m from S$30.6m in FY07; for 1H09, STL posted a net profit of S$10.6m. We do not have a rating on the stock.

Hongxings Sport - Signs Of Stabilization

The company received RMB888mln worth of new orders at the 2010 Spring/Summer collection trade fair held in Xiamen on 7 Aug ’09.

While this represents a 26% yoy decline, it is up from May ’09’s RMB440mln, Mar ’09’s RMB800mln and Oct ’08’s 650mln.

Going forward, the lower base effect would make yoy comparisons more favourable.

And according to management, it would be comparable yoy instead of the 26% decline if they take into account the orders held back and rebates provided to distributors to weather the downturn in 1H 2009.

While the overall environment remains challenging, management is heartened by the recent signs of stabilization and believe that they will start to see more signs of stable performance next year. This is a change in management’s outlook since the collapse of Lehman Brothers in 4Q ‘08.

With management having delivered on their promises of prepayment & debts collections on time, signs of stabilization in their orders going forward and the stock still trading below its net cash of 19 cents per share (currently at 18.5 cents), we maintain BUY.

Li Heng - Prospects Are Looking Brighter

The key message during the plant visit last week was that 3Q ‘09 bottom-line is expected to continue to recover from 2Q ‘09 (RMB38mln), 1Q ‘09 (RMB10.2mln) as well as 4Q ‘08’s (loss of RMB8.7mln) depressed levels, but still not enough to reach 3Q ‘08’s high base of RMB 259mln.

We estimate 3Q ‘09 bottom-line to recover 32% qoq to RMB50mln (no forex gain included versus forex gain of RMB13mln in 2Q ‘09).

This in turn reflects sales volume remaining steady as new local customer additions (+17 yoy to 195) help to offset weakness from export customers, while average selling prices recover 27% sequentially on the back of stronger demand as well as higher raw material costs.

While raw material prices are also expected to increase, fortunately, the company buys 2 months worth of inventories, hence will benefit from the lag effect of lower cost inventories.

As a result, gross profit margin is expected to recover from 2Q ‘09’s 10.6% to about 15% in 3Q ‘09, but still down from 3Q ‘08’s 31%. (Gross margin was 9.2% in 4Q ‘08 and 12.9% in 1Q ‘09).

The new polyamide chip plant which is used to produce part of their raw materials is expected to help them improve overall margins by 2-3% points when it ramps to full utilization in 1H 2010. The cost of the plant is about RMB571mln with depreciation per year estimated to be between RMB55-60mln (to start accounting for depreciation in 4Q ‘09).

Due to improved prospects, management has restarted their previously stalled expansion plans, targeting to add 70,000 mt of new production capacity by 1H 2010, increasing total production capacity from 167,000 mt to 237,000 mt.

The capex cost of RMB200mln is not a problem with the company’s net cash holdings of close to RMB1bln. Management said that they will maintain their at least 20% payout ratio at the end of the financial year.

The number of analysts visiting the company’s plant is down significantly from the one organized in early 2008, likely reflecting the company’s dismay operating performance and problems associated with S-Chips in general. However, we believe that as the company continues to deliver on their improving bottom-line performance, successfully executes its expansion plans and delivers on their dividend promises, investor interest will return.

While the stock has risen 19% since our upgrade last week, we still see upside potential given its improving prospects (especially with easier yoy comparisons due to low base effect from 4Q ‘08 onwards) and 0.7x price to book despite improving bottom-line and ROE performance, hence maintain BUY. (Founder and Chairman Chen Jianlong owns 42.7% of the company, CEO Chen Feng owns 10.32% while David Loh of UOB owns 10.47%).

China Fishery: Conservation of quota to 4Q

2Q09 net profit up 6.6% YoY to US$25.1m despite fall in revenue. This is in line with our expectations. However, growth in net profit was due to cost savings. Revenue on the other hand fell 21.7% YoY to US$107.4m due to a 30.6% (US$32.5m) YoY fall in 2Q09 trawling operations revenue. We raise FY09 net profit by 11.1% to US$117.4m. Target price is raised from S$1.20 to S$1.38. BUY maintained.

2Q09 trawling revenue fell as a result of conserving fishing quota to 4Q09. Reason for this allocation includes higher operational efficiency as they even out their vessel utilisation. They also hope to benefit from higher fish and fish roe prices towards the end of the year as the economy picks up.
Operating cost decreased 30.9% YoY to US$66.1m in 2Q09, due to the introduction of the ITQ system in Peru since Apr 09, allowing them to operate more efficiently. Lower fuel costs also contributed to the decline. Selling expenses declined 29.0% YoY in line with lower sales volume, hence net margins increased to 23.4% in 2Q09 compared to 17.1% in 2Q08.

FY09 net profit forecast raised. We have increased FY09 North Pacific trawling ASP from US$1,750/MT previously to US$1,850/MT due to better than expected ASP in 1H09 (US$1,884/MT). This is partially off-set by a US$9m increase in selling expenses forecast for FY09, as 1H09 selling expenses of US$14.7m turned out higher than expected. Our FY10 net profit has been lowered to US$162.4m from US$169.2m, due to increased FY10 selling expenses.

Target price is raised from S$1.20 to S$1.38. We raise our target price to S$1.38 from a previous S$1.20 based on 5.1x FY10 P/E, which is derived from peer Pacific Andes’ FY11 P/E of 5.1x. We note that since 2007, China Fishery has been consistently trading at a premium to Pacific Andes, with a P/E average of 11.7x versus Pacific Andes’ P/E average of 7.1x. However, our valuation is more conservative as we consider the Group’s inexperience in South Pacific fishing, as well as possible disruptions to their fishmeal operations due to a severe El Nino.