GeoTeam Notes from September 2010 Rodman Conference

by Maj Soueidan, President GeoInvesting

I wasn't sure what to expect at the Rodman conference this year. In September 2009, I approached this event with an uncontrollable urge to find reasons to put all my chips in the ChinaHybrid sector. This September, my focus was on finding which companies, if any, to place my chips in. A good majority of the attendees I spoke with were on a mission to assess the risk position of their portfolios, rather than to beef up their China holdings. This was evident by numerous conversations I had with investors regarding the relevance of SAIC filings, probing into which company's filings I have pulled and cliff notes from Zack Buckley's trip to China.

Overall, I was once again impressed by management's ability to articulate their "growth strategies," but unimpressed with their of lack of attention to address or understand the issues surrounding the current financial integrity debate and unwillingness to use internal funds to fund growth. Since the conference, the ChinaHybrid space has firmed up, maybe in response to companies and investment banks improving their efforts to address investor concerns.

My take a ways from the meeting:

1. Investors, fund managers and Investment banks were still unclear or unaware of the relevance of SIAC fillings and corporate structure issues.
2. Equally, management of many companies are still unaware of the recent financial integrity issues that are taking place in the sector.
3. I spoke to a few companies that acknowledged that SIAC filings should match. But admitted that differences often occur to shield companies from tax payments. Not doing so, they inferred, can put them at a competitive disadvantage.
4. Under reporting income is cultural in China.
5. In general, these firms may still raise money at below average multiples, something to be aware of as prices rise.

I have included the first batch of GeoTeam notes from the meeting. (Please understand that we are not offering an investment opinion based on the following interviews and do not attest to the accuracy of company comments).

China Jo-Jo Drugstores (NASDAQ:CJJD)

• Believes SEC filings match local PRC filings. (We are in the process of verifying).
• Hope to have 49 stores by end of October and on pace to have 60 stores by end of fiscal 2011.
• Plans to issue guidance in the near future.
• Possible 10% to 15% dilution, over time, from employee compensation plan.
• Margins are roughly 22%, but temporarily declined to around 17% due to going public expenses.

China Marketng Media (OTC BB:CMKM)

• Professional magazine specifically targeted to sales and marketing professionals. Was publishing one edition per month, but now doing three.
• Demand for print media still exists in professional magazines.
• Also operates an online retail portal.
• Advertising in magazines drives traffic to site for online sales of electronics, cosmetics and apparel. Will be adding additional product lines.
• Also advertises via credit card statements through agreements with banks.
• Margins on online sales are thin, but CMKM makes money on magazine advertising. Gross margin for online sales are 10 to 13%, advertising margin 70%.
• CFO has been with company for two months.

China Armco Metals (NYSE AMEX:CNAM)

• Recycling operations will be disrupted due to electricity restrictions. The restrictions could run up to 30 days (or even longer?). Product not produced in QIII won't be available for sale in QIV. Quarterly results may remain lumpy.
• Testing and adjustments played a part in the recent slow down in recycling shredder in past quarter.
• Slow down the in September will effect 3rd and 4th quarter
• The downgrade in guidance was worst case scenario
• Next 12 months should see significant impact from new facility
• Awaiting drilling results of Australian mine venture. Should be known by end of year.
• With respect to SAIC, SAT and SEC reporting, explained possible differences between US and Chinese GAAP, impact of VAT accrued and paid and intercompany transactions; but didn't know if there was a problem reconciling the filings or not. They understood this is an issue that has to be dealt with.
• 1.5 million warrants with exercise price of 5.00
• 1.5 million warrants with exercise price of 7.50

GeoInvesting Question:

Please address the fact that, as referenced in the below excerpt from your filings, you require funds to complete recycling expansion. How are you going to pay for this?

"We need additional financing to fund expansion of our recycling facility and working capital for our metal ore business which we may not be able to obtain on acceptable terms. We need to raise additional capital to carry out our plans to expand the capacity of our recycling facility and increase the volume of our purchases of the metal ore we resell."

Company Response:

With regards to the financing, the company did a Guaranty Cooperation Agreement with a steel company to free up its balance sheet to help deal with receivable and trade financing credit lines. See June 17, 2010 8k

China Pediatric Pharmaceutical (OTC BB:CPDU)

• Has 16 OTC pediatric products targeting 1-14 year old children. 300 million children in China.
• estimated 11.3% CAGR for pediatric medicine growth in China between 2010 and 2015
• profit margin 60% gross and 20% net
• 10 years in marketplace, have core brands
• Up-listing to NASDAQ is a near term goal.
• Don't feel current market conditions are favorable to issue equity. Also, might complicate up-listing efforts.
• Potential use of proceeds would include strong advertising and promotion initiatives to build brand identification with consumers. Also, to fund R&D for new product development programs.

Skypeople Fruit Juice (NASDAQ:SPU)

• New pear fructose production line began operating in September. Will produce up to 10,000 tons @ $800 or $8 million revenue potential with 35%-45% margins.
• Will double apple processing capacity from 10,000 to 20,000 tons @ $1,000 or $10 million incremental revenue with 20%-28% margins.
• Growth strategy also focused on beverages, with a longer term target for beverages to account for 50% of revenues. Beverage revenues will make the overall business less seasonal.
• Five new series of beverage products to hit market in 4^th quarter.
• Pear fructose should double in revenue in 2011, adding about $6 million in revenue. Apple products could add $10 million to revenue this year and possibly $25 million next year.
• Only company in China that can produce concentrated kiwi juice at large scale to meet production needs. 45% to 55% margin on kiwi products.
• Have enough working capital for next two years.

When discussing SAIC, SAT and SEC filings, CFO said SPU's chairman observed that you can tell a good Chinese company by official government certifications, government financial support and the ability to get bank loans. "We have all of these."

GeoTeam Observations:

• Investors should exclude income from government subsidies when applying valuation models.
• We are still perplexed that SPU completed an offering after essentially implying that they wanted to wait for market conditions to improve and believed that the stock was undervalued. They offered stock near where they did about year ago. Balance sheet and cash position are strong. Why not do a combo of equity and internal cash or some debt to put forth a respectable growth plan?

Company Response:

SPU is in a highly competitive business. SPU needs to have an aggressive growth strategy to keep its position in the industry. The loans from banks are only for working purposes, and it is difficult to obtain loans for capital purpose. SPU's total capital expenditures are expected to be in the range of $60 million for 2010 and 2011, and it plans to get its expansion projects ready for the squeezing season of 2011, so that they can contribute to the revenue and net income of 2011. The timing of the offering is very crucial for the Company. The Company has postponed its offering twice due to the market conditions. If the Company postponed the offering a third time, it may miss the good opportunities that the Company currently has.

TPI Tianyin Pharmaceuticals (NYSE AMEX:TPI)

• Has 56 products with a combination of patented medicine, modernized Chinese medicine, branded generics and other pharmaceuticals. Products are successful because of their efficacy in treating high-incidence healthcare indications in China and little side effects. TPI is the sole manufacturer of several revenue-driving products and most of which are eligible for government reimbursement.
• Introduces 7 to10 new products each year
• Usually takes new products about 3 years to reach maturity
• Revenue expectation for new products is $500,000 - $1 million revenues for the first year and gradually increasing, possibly to several million dollars in the following 3 to 5 years.
• 70% of the revenue was contributed by prescription medicines in Tianyin's portfolio; more than 30% of the revenue was contributed by the patented biopharmaceutical.
• China health care sector is growing about 15-19% annually
• current tax rate 18%
• No acquisitions in works
• Will be working to call in warrants. Have around 9.0 million outstanding including 3.8 million at $1.60, another 4.3 million at $2.5 and the rest at $3.25 to $4.50.
• CFO, CBDO and Director, James Jiayuan Tong, formerly with Rodman & Renshaw and has been tracking the progress of the company since its U.S. listing in early 2008.Joined company in April 2010. Recruiting him into the company was a more than two year process so he knew exactly what he was signing up for. He is a PhD and MD. Very impressive individual.

Weikang Bio-Tech Group (OTC BB:WKBT)

• Growth coming from new product lines. Should have 7 new products begin by the end of first quarter 2011
• There are three phases to launch a new product. Phase one is getting approval of product. Phase two is applying and getting license for product. Phase 3 is product launch.
• Time frame to get a product from phase 1 to 3 varies, but usually takes several years.
• New products reach maturity within 2 to 3 years. Most products have a 5 to 7 year life span. When demand slows we lower price to increase demand.
• May look to raise capital to fund our growth needs, mainly for acquisitions and remove debt from its balance sheet that originated from addressing capital funding requirements dealing with its reverse merger. (The GeoTeam had originally surmised that no near term funding arrangement would be on the horizon).
• Weather disruption in the second quarter of 2010 which effected top and bottom line growth for the quarter. It was a one time event, which effected most businesses in the area. We had delays in shipping which effected revenue for the quarter. However, the orders were filled and should be reflected in the third quarter.
• Main risk factor is our competition. Our research and development team and our founder is what separate us from our competitors. He is very well respected in the industry.
• We sell through 6 major distributors in 5 different provinces. We also have 60 smaller city distributors.

ZSTN Zhengzhou Shenyang Technology Co., Ltd. (NASDAQ:ZSTN)

• Management had targeted GPS to contribute 20% of revenue by year end. They are already there.
• GPS generates revenues from hardware sales, installation and the service center. GPS will provide recurring revenues and drive margin expansion.
• Growth area is in GPS division
• GPS to be 20% of revenue by end of year
• Too early to determine how fast and how much GPS could grow. (was very bullish)
• Cap ex and cost of revenues one in the same. Manufacturing all outsourced to OEM suppliers.
• Strong commitment to internal controls. Management working with BDO to achieve full SOX compliance, although they are not yet required to do so.
• CFO stated he is aware of SAIC, SAT and SEC filings issues and that companies should be cognizant of this issue. He said the companies that get in trouble with local filings do so because they are being too aggressive limiting their liabilities.

Excerpt 1:

"Based on an evaluation carried out as of the end of the period covered by this quarterly report, under the supervision and with the participation of our management, including our CEO and CFO, our CEO and CFO have concluded that, as of the end of such period, our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were not effective as of June 30, 2010."

This seems like a downgrade from just one qtr ago, when controls were effective. What happened?

Company Response:

Internal Control: We have retained UHY as our internal control consultant and we look to be SOX compliant by year-end. The original assessment was based on our previous auditor's recommendation. However, we do not believe it would be reasonable for us to make the same assessment while retaining a SOX consultant to improve our internal control policies at the same time. Therefore, we are actively communicating to investors our continued effort to be as transparent as possible to the highest standard required by a Nasdaq listed company.

Excerpt 2:

"The cash and cash equivalents is enough to meet our day-to-day requirements at current operating level. We may need to seek for external financing resources to supplement operating cash flows if we successfully expand our GPS related business rapidly

Is there a reason to be concerned with respect to above statement?

Company Response:

The language is for disclosure purpose. The management currently do not have plan to access the capital market for a equity financing

KingTone Wireless Info Solution Holding Ltd.(NASDAQ:KONE)

• As of 4q there are 14 million outstanding shares.
• Calling for .66 to .70 eps for the year.
• Have 16 million in cash as of 3q.
• Year end earning call will give EPS guidance for next year.
• There are only three major telecom companies in China and KONE works with all 3. 
• Volatility in quarters is from nature of business. They are paid on completion of projects.
• Software sales will be main focus of business, because of higher margin.s
• Differences between SAT and SEC: will certainly be transparent going forward.

Please address the following statement from your filings:

"The title transfer for the Kingtone Center has been delayed because certain transfer taxes and fees have not been paid by the seller. A further delay could also delay our possession of the Premises." 

Problem has been resolved as outlined in a July 7, 2010 press release:

Kingtone Wirelessinfo Solution Holding Ltd. today announced that it recently obtained the building ownership certificates for its "Kingtone Center", a six-story, approximately 20,000 square-meter warehouse and industrial facility in Xi'an, Shaanxi Province. The building will house over 500 employees in three years as business expands with an upgraded Research & Development center and a customer support center. It will also assist sales and marketing with a showroom for demo customer applications.

Disclosure: Long CMKM, CNAM warrants, WKBT

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