China-Biotics (NASDAQ:CHBT)

Added to the GeoBargain list on July 14, 2009 @ $9.70

Catalyst: Had a strong EPS outlook; Was exceeding analyst estimates; High anticipation of the benefits of a new facility to increase production capacity.

Peak performance: Reached a high of $19.74 on March 25, 2010

Current Price: $11.96

Current road block: Short investors have attempted to discredit CHBT by illustrating inconsistencies in SEC filings compared to filings located in China; The next two quarters may pose challenges for short-term investors who hold CHBT shares as analyst estimates for the next two quarters call for non-GAAP EPS growth of less than 30%, due to dilution:

• June Fiscal 2011 First Quarter Estimate: $0.31 vs. $0.27 for the comparable period.
• September Fiscal 2011 Second Quarter Estimate: $0.35 vs. $0.31 for the comparable period.

The good news for long-term investors is that EPS growth estimates for the back half of fiscal 2011 remain over 30%:

• December Fiscal 2011 Third Quarter Estimate: $0.44 vs. $0.24 for the comparable period.
• March Fiscal 2011 Fourth Quarter Estimate: $0.49 vs. $0.36 for the comparable period

Short term and risk adverse investors should be aware of the quality issues currently present in the ChinaHybrid Space, questioning the validity of what seem like solid fundamental stories. It is beginning to get ugly so be cautious and understand that more pain may have to be endured, as ChinaHybrids are easy prey for short investors. The broad brush that is being applied to theses stocks appears unfair, but we can’t ignore the psychological impact this can have on investors’ portfolio decisions. If history is our guide, fear will eventually create an immense opportunity to invest in the companies that prove they can meet quality litmus tests enact shareholder friendly moves. Credibility can also be restored if independent legal/SEC opinions validate accounting practices currently in question.

CHBT is a story we want to be involved in. However, given that one of our philosophies has been to generally avoid companies that face controversies with regards to "ethics", we will sit on the sidelines until we gain additional clarity. We will monitor the company's enforcement of its decision to commence a share buy back program enacted to instill investor confidence. Please note, that a buy back program does not obligate a firm to purchase stock, which is why we typically view insider buying as a stronger measure of confidence during controversial times.

Liquidity seems intact:

"We had cash of $155.6 million and working capital of $145.3 million as of March 31, 2010, and cash of $70.8 million and working capital of $55.0 million as of March 31, 2009. Cash generated from operations was $28.2 million for the fiscal year ended March 31, 2010, and $23.1 million for the fiscal year ended March 31, 2009."

"Our business is not capital or labor intensive. Taking into account our current cash position and our anticipated cash flows from operations, we expect we will be able to meet all our funding needs in the next twelve months, including payments required to settle our contractual obligations and for our construction of our new plant.

Let’s hope CHBT does not blindside us with an offering as so many other management teams have. This seems unlikely given its recent initiation of its stock buy back program.

Our intent over the short-term is to build a check list to assess the perceived risk position of firms in the ChinaHybrid space. For the time being this will consist of the following: (this list is likely to grow substantially

-Is the company's auditor ranked in the top 100?
-Is the auditor located in the U.S.A? If located in China the PCAOB (Public Company Oversight Board) may be denied access to investigate the practices of the auditing firm.  Short sellers have been using this information as a tool to validate their opinions. 
-Are the company's internal controls satisfactory?
-Are their any outstanding legal issues?
-Do the company's top ten customers represent less than 10% of revenues?
- Operating cash flow divided by current liabilities is greater than one. The higher the better.

- Cash divided by current liabilities. This is an the most conservative liquidity ratio. The higher the better

- Is the company buying back stock?

Criteria	Meets Criteria	Notes
Top 100 Auditor	No	BDO Limited
Auditor Located in U.S.A.	No	Hong Kong
Satisfactory Internal Controls	Yes	"Our management, including our principal executive officer and principal financial officer, concluded that our disclosure controls and procedures are effective"
No Legal issues	Yes	None Found
Customer Concentration	No	A substantial percentage of the Group’s sales are made to a small number of customers that accounted for more than 10% of total gross sales. For the year ended March 31, 2010, there is one customer that accounted for 13% of our sales revenue.
Cash Flow Ratio is Greater than 1	No	0.71
Cash Ratio is Greater than 1	Yes	2.02
Buying Back Stock/Insider Buying	Yes	July 7, 2010 Release

China Biotics reported its 2010 fiscal year end results this morning which, as expected, portrayed flat fourth quarter EPS growth:

4Q10 Financial Highlights:

-- Revenues were a quarterly record $25.5 million for a 64.4% year-over-year increase;
-- Gross margin was 69.4% versus 68.5% in 4Q09;
-- Excluding the non-cash losses from change in fair value of convertible bonds, non-GAAP net income for Q4 was $8.8 million, or non-GAAP diluted EPS $0.36 vs $0.33 for the comparable period.
-- GAAP net income was $2.9 million, or $0.13 per diluted share;
-- Cash and cash equivalents were $155.6 million.

Fiscal Year 2010 Highlights
 
-- Annual net revenue increased 50% year-over-year to an annual record $81.4 million;
-- Gross margin was 70.4%;
-- Operating income rose 62% to $35.3 million from $21.8 million in 2009;
-- Excluding the non-cash losses from changes in fair value of convertible bonds, non-GAAP net income for the fiscal year 2010 was $27.8 million, or non-GAAP diluted EPS $1.28 vs. $0.88 for the comparable period.
-- GAAP net income was $15.6 million, or $0.80 diluted per share.
-- Free cash flow $14.4 million.

The company also issued guidance which is a little less than analyst revenue estimate growth rate of 55% yoy:

"For fiscal year 2011, the management is expecting net sales to be at least 50% year-over-year growth. This target is based on the Company's current views on the operating and market conditions, which are subject to change."

Mr. Jinan Song, Chairman and CEO of China-Biotics, stated, "With our established state-of-the-art facility in Shanghai and our growing capacity utilization, we believe that we are well positioned to ride the wave of rising market demand and increasing government support for probiotics. We will continue to broaden our distribution network as well as diversify our retail portfolio through launching new products. We also look forward to winning more bulk customers as we have received encouraging feedback from potential customers during the initial trial period."

The next two quarters may pose challenges for short-term investors who hold CHBT shares as analyst estimates for the next two quarters call for EPS growth of less than 30% due to dilution:

• Fiscal 2011 First Quarter Estimate: $0.31 vs. $0.27 for the comparable period.
• Fiscal 2011 Second Quarter Estimate: $0.35 vs. $0.31 for the comparable period.

We will keep CHBT coded as GeoBargain for long-term investors as EPS growth estimates for the back half of fiscal 2011 remain over 30%:

• Fiscal 2011 Third Quarter Estimate: $0.44 vs. $0.24 for the comparable period.
• Fiscal 2011 Fourth Quarter Estimate: $0.49 vs. $0.36 for the comparable period

China-Biotics came through once again reporting improves third quarter financial results, exceeding analyst estimates by $0.10.

Qtr. Ended September; Fiscal Yr. Ends in March	2nd Quarter 2010	2nd Quarter 2009	Period Change
GAAP Revenue	$17.1 million	$11.5 million	52.2%
GAAP EPS	-$0.20	$0.26	n/a
Company Supplied Non-GAAP EPS	$0.31	$0.13	138.5%
Fully Diluted Shares	19.2 million	19.2 million	0.0%

Source: PR Newswire (November 17, 2009)

These results are encouraging and give us hope that the company will be able to work the potential dilution of a recent stock offering.

 

 

Recall comments from our previous note on July 14, 2009:

Further due diligence confirms the company meets 8 out of 10 GeoBargain criteria.  However, the company does not meet the minimum 30% earnings per share (EPS) growth threshold. 

Given that it beat analyst estimates, the GeoTeam® will need to access the company's outlook to determine if it can achieve 30% EPS growth, .  We will also monitor any changes in analyst estimates.  If it becomes apparent that 30% EPS growth is currently unachievable we will re-code the stock as a GeoSpecial based on its low tax adjusted PEG Ratio (~.55).

Today the company announced strong first quarter fiscal 2010 financial results. The company easily exceeded analyst estimates giving the GeoTeam® confidence that China-Biotics may be able to achieve a minimum of 30% earnings per share growth rate for the coming year.  Before today, analyst estimates also echoed this sentiment indicating earnings per share growing of over 30% to $1.30.

See the GeoTeam®  updated valuation scenarios.

China-Biotics year end press release is now available.  In the The GeoTeam's® previous note we mentioned that it appeared that fourth quarter earnings per share growth was negative. However, the press release has shed further light on the situation and highlights that fourth quarter earnings per share, on a non-GAAP basis, was actually up 22.2% to $0.32.

Company comments also are encouraging:

"With the ramp-up of our new facility this year, we will be able to accept larger purchase orders from major dairy producers and animal feed manufacturers, which remain the most prominent sources of demand for bulk additives," Mr. Song said. "Same-store sales for Shining retail stores that have been in operation at least one year are expected to grow significantly year-over-year, and we hope to continue to expand the number of Shining retail outlets during the year. Although global economic growth remains suppressed, we believe there is pent-up demand for our bulk additive products, which should generate substantial growth in revenues and net income during the 2010 fiscal year.

The GeoTeam® will participate in the China-Biotics conference call this morning at 10:00 am EST.  The The GeoTeam® is still awaiting revisions to 2010 analyst estimates.  We will provide details if warranted. 

China-Biotics ($10.00) is currently coded a as a GeoBargain on the Radar stock.  The company just filed its 2009 10K which at first glance shows non-GAAP earnings per share coming in at $1.00.  Analyst estimates were $0.83  No press release has been issued yet. However, due to the company's apparent strong 2009 financial results, we are taking a chance and now coding the stock as a GeoBargain.  More details will be provided upon further due diligence.

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($10.55) Further due diligence confirms the company meets 8 out of 10 Geobargain criteria.  However, the company does not meet the minimum 30% earnings per share (EPS) growth threshold. 

• Non-GAAAP 2009 EPS growth was approximately 20%
• It appears that fourth quarter EPS growth was negative.
• Fiscal 2010 eps growth is currently projected to be about 17%.

Given that it beat analyst estimates, the GeoTeam® will need to access the company's outlook to determine if it can achieve 30% eps growth, .  We will also monitor any changes in analyst estimates.  If it becomes apparent that 30% eps growth is currently unachievable we will re-code the stock as a GeoSpecial based on its low tax adjusted PEG Ratio (~.55).