Jilin Province Huinan Changlong Bio-pharmacy Company Limited

Jilin Changlong (‘Company’) is a purveyor of Chinese medicines and pharmaceutical products. Originally set up as a state-controlled entity in 1989, it was converted to a limited liability company in 1995. It generates all its sales from mainland China.

It sells its medicines under the brand names ‘Changlong’ and ‘Qing Tong’. Its best-selling drug is ‘Hai Kun Shen Xi’, a drug for chronic renal failure that was developed in 2003.

Sales and net profits were $700m and $159m respectively for the last twelve months. Relatively high profit margins of 25% indicates the effect of patent protection.

The financial position is very strong with net cash of $818m and net current asset value of $1.1b.

The equity is selling for $835m or just above net cash, which appears extraordinarily cheap, and 5.2x earnings.

Management has been relatively stingy with dividend payouts – with only $32m (or 20% of profits) paid in the last year yielding 4%. Moreover, they have a propensity to invest substantial amounts in non-transparent ‘Wealth management’ products with no end in sight – instead of returning excess cash to shareholders.

Examining the net current assets further, we find this included hard-to-value unlisted investments of $250m, and unprovided receivables older than 180 days of $115m. Deducting these alone would take the net current asset value to $735m and eliminate it as a basis for investing in the stock.

Turning to evaluate earning power, we get a distinct sense of lack of important disclosures by the management. It is essential to obtain information on the relative contribution of various drugs to revenue, the expiry of patents, and the pipeline of new drugs to evaluate future cash flows.

Considering that drug patents in China run for a maximum of 20 to 25 years, there isn’t long before the company’s blockbuster drug has to be replaced with new earners. With insufficient information, we cannot conclude that this stock is a true bargain.