Small Cap update – Cathay International Holdings and Toumaz
Cathay International Holdings
Last Friday Cathay updated the market and things look very rosy indeed for the coming year. We highlighted the attractions of Cathay back in January and on Friday this little known and little traded stock did not disappoint.
The headline was ‘a transformational period with commencement of Inositol volume production and sales.’
Before we look at Inositol, let’s have a look at the other two major business that Cathay have.
At the macro level the company stated that Chinese healthcare spending is projected to grow at a CAGR of over 15% for the next five years.
The Lansen business is in a period of transition following big changes by the Chinese authorities with regards to production standards and price controls. Additional difficulties during the year were faced by Lansen due to a management team re-alignment as much of the original management was removed and replaced by higher calibre individuals. They also withdrew from a number of orthopaedic speciality drugs which affected revenues adversely and in spite of the costs associated with the above, gross profit only reduced by 4%. Significantly the gross margin on the firms three biggest products rose slightly from 75.1% to 76.1%.
The contribution from 21% owned associate Starry Pharmaceuticals was also very significantly affected by the costs of doubling production and ensuring that the new production lines met stringent quality standards demanded by their customers. Looking back through the years, before the doubling of production costs, Starry contributed around about $1.6 million to Lansen. With the doubling of production and with this being only a 21% contribution, we expect Starry’s profits for 2014 to be in the region of $10 – 13 million.
"Starry has filed an application for listing on the China A share market, aiming to enhance its corporate profile and to improve access to the capital markets for funding to grow its iohexol business"
If our estimates for profits of $10-13 million are correct and with China IPO’s being extremely well subscribed, Cathay’s holding in Starry could be very valuable indeed. P/E’s approaching 100 are not unusual for Chinese growth stocks
We expect that there will be a very significant rebound in Lansen’s fortunes in the 2014 financial year.
The hotel performed very strongly in 2013 with pre-tax profits rising 22% and all of the KPI’s up strongly. This was against a poor market backdrop and the hotel is now ranked sixth among 63 Crown Plaza hotels in China in 2013. The increase in the performance of the hotel is key as at some point we would expect it to be sold as it is a non-strategic asset. The sale of the hotel would eliminate debt and leave the business as a clean debt-free healthcare business. The hotel is currently independently valued at $138 million.
The really big driver of share price growth in 2014 and 2015 will be the Inositol business and we now have some visibility on the scale of the revenues.
This business has taken a good few years to get to a production situation and during the time that it has taken, the wisdom of what they are doing has become more and more apparent as the Inositol price has more than doubled. The group has spent the best part of $50 million getting the Inositol plant ready and it is now probably the most efficient plant in the world and Cathay owns the company (Haizi) that will be China’s second largest producer of Inositol.
The plant has a capacity of 2500 tonnes per annum and as of the end of 2013 was producing at 1200 tonnes. By the end of 2014 the plant will be producing 2000 tonnes. During the period Haizi will build another Phytin plant that will take the plant up to capacity some time during 2015.
In addition to this, the current production of DCP is only at feed grade and it is expected that DCP production will reach food grade some time during the 2014 financial year. This will increase the sales and profits of DCP dramatically.
So, what about the numbers. We only have two months to go on but it looks pretty good considering that the plant has only been going such a short time. They did $4 million during November and December for Inositol and DCP
From the chairmans statement:
"At year end, the inositol market price remained at the high end of the range of USD16-20 per kilogram, due to a supply shortage of inositol in first half of 2013. This benefited Haizi's entry to the markets and it’s marketing and selling with targeted customers. For DCP, Haizi has set up a dedicated sales team to promote and secure long term customer contracts to supply our feed grade DCP in north eastern cities of China where Haizi has a geographical advantage in transport costs."
The eventual maths are compelling. At full production they will produce 2,500,000 kilograms of inositol at $19 per kilo (current market price). That’s $47.5 million. They produce extra revenue from the DCP of approximately $1.78 per kilo of inositol produced, so this would give another $4.5 million.
The other thing that I noticed about this set of results is that management are actually very bullish for a change. I have been a shareholder of this company for over 5 years and they are rarely this bullish in their statements. They are confident. For instance the chief executive says:
"Overall we expect 2014 to be a fruitful one for the Group. Lansen is expected to pick up sales momentum and specialty prescription drugs should resume a stronger growth trajectory. We are very excited to report that Haizi has reached an annualised production rate of 1,200 tonnes of inositol at year end and is expected to rapidly ramp up its inositol production this year. Yangling should complete a new bilberry production line this year and we are hopeful the volume will return to the previous year's level. We also anticipate a continued strong performance of our Hotel."
The Chairman’s statement also contains something we have been anticipating. The Inositol business is fragmented and environmentally messy. The Haizi plant is the most environmentally friendly plant in the world. This is taken from the chairman’s statement:
"On the other hand, the Government has also shown its commitment to focus on stronger environmental protection. New economic policies are expected to align with social and environmental reforms in food, energy and water to fight ecosystem degradation. For example, Haotian (owner of Haizi) saw closure of some competitors' phytin plants because of failure to meet new environmental regulations, which resulted in a near term shortage of market supply of inositol and soaring inositol price."
An extract from the outlook, taken from the Chairman’s statement:
“With the turnaround of Haizi, and the successful transition of our new management, we expect 2014 to be a fruitful year for the Group”
“With the anticipated improvement in operating cash flow from all business segments, Cathay will focus on reducing borrowings and finance costs this year.”
Toumaz
Yesterday Toumaz produced its final results for 2013 and frankly we think the story is very strong indeed. The potential of this company is enormous and they are in a very strong position to exploit the wireless healthcare monitoring market.
They are already the world leaders in DAB technology and look well poised to be a big player in the internet of things.
If the management is correct in its assertion that hey will be ‘cash flow positive by 2015’ and will multiply revenues five fold by 2017, which means over £100 million, then they are quite simply the wrong price at these levels.
This assertion was backed up today by the Chief executive acquiring 1.5 million shares and the non-executive chairman buying 13.5 million shares.
The shares have not performed well as there has been a big seller overhanging the stock but share price movements over the past two days would suggest that the seller has finally been cleared out.
On Monday, Peel Hunt, the house broker issued a note with a target price of 8p, which we think is realistic and possibly very conservative. Do not be under the illusion that this stock carries no risk. It does. However the risk reward ratio is in favour of the investor at these levels. There has been fears that they would run out of cash. (They have about £21 million in the bank) but we believe that the business is in a sufficiently advanced state for any future cash requirements to be satisfied by debt as opposed to issuing more equity.
Definitely worth investigation. To find out more about the business, visit their website:
