HONG KONG -- Investors might think that with a great shortage of fundamentally sound mainland Chinese companies, any firm boasting massive market share, no long-term debt and rising margins would command some kind of premium over the rest of the market.
Brilliance China Automotive Holdings
, which doubled its earnings last year, trades at just 5.5 times trailing earnings. It generates plenty of cash, has a thumping lead in its market -- the world's most populous country -- and a developed distribution network any would-be competitors can only dream of.
So why is this fine minibus maker neglected by institutional researchers and sales staff? Mostly because its float is too small to appeal to a lot of institutions, and the international brokerage business cares little for the individual investor. Originally listed on the
New York Stock Exchange
, it first tried a dual primary listing in Hong Kong, and now has converted its U.S. stocks to ADRs. Still, the market shrugs and looks elsewhere. If that sounds like inefficiency on the part of the market, it's probably because it is.
"It's still an excellent stock, a very good story with sound management. The only trouble is that it's very thinly traded," said Joe Zhang, head of China research at
Warburg Dillon Read
in Hong Kong. That means institutions, which trade in larger chunks of shares than individuals, might move the stock price when trying to get in and out of a position. WDR has no underwriting relationship with Brilliance.
Brilliance China was once the No. 2 holding in the
Guinness Flight Mainland China Fund, but now makes up about 1% of the fund. Managers of the fund blame the thin trading of the stock for its decline in weighting. "I have no problems with the fundamentals of the company, but I would rather put more of the weighting in the bigger stocks," says co-manager Adrian Fu.
Yet his advice for individual investors is strikingly different: "If you are thinking long-term, then this is a good stock you must have," said Fu.
For individuals seeking international diversification, Brilliance China trades enough to afford plenty of opportunities. The stock's average daily volume is worth about $3 million. Considering that Chinese holdings in a neutrally weighted portfolio take up only a few percentage points of total investment, investors looking for a solid China play might want to consider the company, fusty though it may appear.
Last year, sales rose 34.8%, but this is hardly the typical Chinese state-owned enterprise story of ramped-up production of goods that no one wants. Brilliance China sells parking lots full of midpriced minibuses, so earnings (not such a common thing in China) are up too: Operating income rose 52% over 1998, and earnings per share rose 103%. Since 1995, the company has steadily increased its returns on assets and capital, as well as its net margins.
Dao Heng Securities
in Hong Kong forecasts growth in net earnings of 29% this year and 27% in 2001. Dao Heng has done no underwriting for Brilliance.
One reason Brilliance China has such a small float is that its finances appear to be so sound. Free of long-term debt, its short-term liabilities are easily covered with the cash it generates from making its dull but profitable products. Unfortunately for this well-run firm, it's being punished by fund managers because it doesn't go to the market often enough to issue more shares.
Of course, some investors worry that Brilliance might face more competition from imports if China accedes to the
World Trade Organization
. Lower import tariffs on vehicles mean that equally dull minibuses from abroad could crimp Brilliance China's market share.
Those concerns, however, may be overblown. Under the Sino-U.S. agreement reached last year on China's entry into the WTO, import tariffs on autos would fall from around 90% at present to 25% by 2006. Making cars profitably in China is fiendishly difficult, and because Brilliance uses nearly all local inputs, it stands to maintain its cost advantage over imports for some time to come, according to Norman Ho, of Hong Kong fund manager
. (The funds are not available to U.S. investors, but the firm is worth watching, as it's one of the few in Hong Kong that looks at stocks from a strictly bottom-up perspective).
With Brilliance China's minivans retailing at 100,000 yuan ($12,000) and the company using nearly all domestic inputs, imports have a long way to meet Brilliance's price point. Add on the likelihood that China's currency could be devalued in the next year, and imports have even further to catch up.
Another caveat about betting on imports allowed in by lower tariffs: As important as manufacturing is for any company looking to sell things in China, there is the question of distribution. Very few companies either foreign or Chinese can say they have national distribution networks. Brilliance China is one that comes pretty close, said Ho.