Weikang Bio-Tech (PINK:WKBT)

Recall from our recent WKBT article:

Second, we cannot rule out a capital raise as the company has yet to complete a major raise as a public company. Regardless, with the low capital requirement needs of WKBT's model, we are speculating that a raise would only be required to make an accretive acquisition and hopefully at higher valuations. With $18 million in cash and an extremely low valuation, we believe a raise at current price levels would not be a great show of faith to WKBT shareholders. Then again, we must be mindful that the ChinaHybrid space has been known to blind side us with irrational equity raises.

Third and most importantly, there are minimal funding requirements that have to be met to satisfy the original conditions of the reverse merger. As part of the original reverse merger agreement on July 22, 2008 Sinary, the public shell that Weikang merged into and 98% owner of WKBT, was obligated to pay Weikang $7.6 million (RMB 57 million). So far no money has been applied to this liability.

The following passages from the most recent 10Q sums up where WKBT currently stands on this issue:

"Sinary was incorporated under the laws of the State of Nevada on August 31, 2007. On October 25, 2007, Sinary entered into an equity interests transfer agreement with the stockholders of Heilongjiang Weikang, a limited liability company in the PRC, to acquire 100% of the equity interests of Heilongjiang Weikang for 57 million Renminbi (“RMB”), or approximately $7.6 million."

"Under applicable PRC regulations, the acquisition is deemed completed as of November 9, 2007. Pursuant to the terms of the equity interest transfer agreement and the requirements of applicable PRC laws and regulations, Sinary had a grace period to remit the Acquisition Price of RMB 57 million by August 6, 2009, which was extended to June 30, 2010 pursuant to an approval letter issued by PRC government on August 7, 2009. In the event that we are unable to timely remit the Acquisition Price by June 30, 2010, the Heilongjiang Provincial Government and Heilongjiang Office of the State Administration for Industry and Commerce may revoke the approval and license of Weikang as a foreign invested enterprise, and Sinary as the 100% owner of Weikang, thereby unwinding the acquisition. In the event that the acquisition is unwound, we will not be the owner of any equity interest in Weikang, and as a result, Weikang will no longer be our operating business. Should this occur, it would have an absolutely detrimental effect on our business; the Company would most likely fail and YOUR INVESTMENT IN OUR STOCK WOULD BECOME WORTHLESS. If we are unable to timely remit the purchase price for the acquisition of Weikang, the approval and designation of Weikang as a foreign investment enterprise and Sinary as the 100% owner of Weikang may be revoked, and the acquisition of Weikang may be deemed void. Although we may seek to acquire the equity interest of Weikang through other means , we cannot guarantee that we will do so, nor can we guarantee that we will be successful if we do."

The issue that exists here is that, unfortunately, this liability cannot be legally funded via operations.. To rectify this situation, we would suggest that the company utilize debt or a combination of debt and stock, as well as urge management to buy back stock if it completes a raise. This would show a strong commitment to its shareholders.

We have asked the company to respond to this matter as it leads to the perception of a threat to the company's survival.

We also indicated in our report that we were relatively confident that WKBT would rectify this issue.

On August 10, 2010, the company issued a press release announcing that it has indeed put this issue to rest. Even more positive is that due to the structure of the agreement, no stock will be issued to meet capital formation obligations.

Our intent over the short-term is to build a check list to assess the 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)

Weikang Bio-Tech Group reported strong 2009 second quarter results after the close today.  Once again, the company was able to post solid growth in sales and earnings per share.

• Revenues increased 544% to $13.20 million.
• Earning per share increased 225% to $0.13.

Comments about future prospects were encouraging:

Our business will continue to accelerate as we enter the second half of 2009. We are seeing strong demand for our OTC pharmaceuticals and TCM products especially in the midst of China's new healthcare reform initiatives, which will secure our future growth.'

Unfortunately, as we highlighted on May 8, 2009, the company still has issues regarding its liquidity position.  Thus, an  investment decision here is a tough call.   On the flip side, the stock has a tax adjusted P/E of 7.3 and a peg ratio of 1.4.  Given the compelling valuation proposition the GeoTeam® will establish a position in WKBT realizing that there may be substantial dilution risk as management grapples with ways to cure the company's negative working capital position.   If not for the this issue WKBT would be a classic GeoBargain selection.

We have requested an interview with management.  The stock remains on the GeoBargain on the Radar list and is also an ideal candidate for consideration as a GeoSpecial.