China-based companies listed in the US via reverse mergers don’t get much love from investors – particularly when they don’t pay any dividends.
Ever-Glory International Group, Inc. is one such company engaged in the wholesaling and retailing of branded fashionwear. In its wholesale business, it manufactures on contract for various prominent global clothing brands. It also retails clothing under its own brands in 1,100 stores across China. The sales mix for wholesale and retail is approximately 50/50. 51% of its sales are in China, 19% in the UK, 18% in the US, 10% in Japan, and 2% in Germany.
The company generated $383m of sales in 2019 and generated EBITDA (a proxy for cash earnings) of $12m (down from $449m and $23m in 2018). It borrows regularly to finance purchase of capital equipment and ended up with bank borrowings of $30m offset by cash of $49m. Net current asset value (a proxy for liquidation value) as at December 31st 2019 is $28m.
Considering these facts, it’s extraordinary that the equity sells for just $11m. Management have explicitly stated they don’t intend to pay a dividend for the foreseeable future. Moreover, Covid-19 has decimated sales in February 2020 and large customers are re-negotiating purchase contracts with the company. A large part of the receivables ($78m) may end up being uncollectable and could demolish the basis for investing in the stock.
The company also engages in various related party transactions – including payments for guaranteeing and providing collateral for the company’s bank borrowings. Although these have been repaid in part and generate interest of 4.35%, SEC guidance requires classification of unpaid amounts as additions to equity, which dilute stockholders. These additions amounted to $15m over he last two years or 12.5% of closing book value of equity.
The principal shareholders own 73% of the stock – therefore, it’ll be difficult for minority shareholders to enforce any actions, especially as they’re based in China.
For external evidence that the stock isn’t valueless, note that the banks are lending against wholesale receivables and other assets at average interest rates of 4.5%. Further, the company issued equity to independent directors when the share prices were above $3 per share. (The price is currently at $0.76 per share.)
At less than one-tenth of net asset value and less than 2x average earnings, this business appears to be selling for considerably less than its value to a private owner.