Tuesday, December 27, 2011

Diary: GNG

GNG - Geong International - Software and computer services - 15.2p/£5.8m

This one is something of a cautionary tale. In order to save any potential embarrassment, I'll mention no names. There's an investor I like to follow who seems like a source of good investment ideas. He has a knack of winkling out some interesting growth plays. GNG is certainly "interesting", but for completely the wrong reasons. Let's take a look at its sorry story.

GNG is a Jersey-based company providing ECM (Enterprise Content Management) solutions to companies of all sizes. It does a bunch of other software stuff, but let's not get bogged down in details. Importantly, Geong (sounds oriental to me right off the bat) has operations in Bejing, Shanghai and Guangzhou in China, and in Canada. The directors surnames are Wang, Thakar, Miu, Zhu, Guan, Hak-Yan. So, all very Asian, except for a guy named Stuart Christopher Lane, who sounds as British as cricket and afternoon tea.

To my mind, we immediately have red flag number one: a Chinese company with a UK listing. We also get a Canadian connection cropping up, which seems interestingly coincidental to anyone who is aware of the Sino-Forest Corporation debacle. Highly-respected investor John Paulson lost a packet on that investment; so it's worthwhile reiterating Jim Chanos' admonishment that just because a stock is owed by a great and glorious investor, doesn't mean they're not wrong.

GNG is only quoted on the LSE, and not dual-listed on the HK exchange as I half-expected. I'm not saying that it means anything, just that I thought that there'd be every chance it was dual-listed. It was floated in 2006. I guess we should pass on the issue as to why a Chinese-based business is floated on a UK exchange.

For the y/e 31-Mar-2011, the company was audited by Mazars LLP of London, who gave the accounts a clean bill of health. According to their website, they are ranked as the ninth largest UK partnership by audit fee income. On 05-Dec-2011, GNG announced a change of auditors, appointing UHY Hacker Young following a competitive tender process. According to their website, Young is an ambitious [their words] group of auditors. Looking at Accountancy Age, I see that both companies are in the top 20 group of auditors. Mazars confirmed "that there are no circumstances connected with their ceasing to hold office as auditors that should be brought to the attention of members or creditors".

OK, big problem here. I do not like seeing changes to auditors. The market doesn't, either. Yeah yeah, competitive tender, I heard you. I think that foreign companies are far too eager to change auditors, and that they would be better advised to stick with the ones they already have, even if it costs a few bucks more. Changing auditors sends a really bad signal.

OK, so maybe it's not bad as it looks, maybe they're just trying to save a quid. Still, little details are accumulating in a bad way. Let's move onto the stuff that will make you laugh, and make you cry.

Geong does, of course, have a website. It's in English. Hmmm, predominantly Chinese customers, with a website written in English. There are some Chinese symbols in the top right-hand corner, but it doesn't take you to a Chinese version of the website. Considering that GNG states that it caters for all sizes of business, you'd think that a Chinese version would be mandatory and easy to find. Hmmm. The website does quote an enquiry line: 86-400-6500447. The good news is that 86 really is the dialing code for China.

Taking a look at their half-yearly report on 20-Dec-2011, the company reports PBT up 6.0%, gross margins edged up, but fully diluted EPS down 7.7%. Their net cash has increased to £18.7m from £14.8m. Key highlights: "Smarter Internet Platform with IBM and Oracle in Asia Pacific market progressing well", and "Continued success in promoting SaaS solution".

Directors holdings don't seem high. Wang, the highest holder, owns shares to the tune of £772k. Total director holdings are £1.5m, although I must admit that looking at the absolute size of their holdings might not be too meaningful considering that the market cap is only £5.8m.

OK, let's look at some good and bad stuff from the financial records that I found on Sharelock Holmes. Number of shares in issue has expanded at a rate of about 9.5% pa - so the company isn't shy of pumping out more equity, as seems to be the style of a lot of Chinese companies. That's something I don't like to see. Revenues have increased at a rate of about 28.7% pa, and operating profits at a rate of 34.7% pa. Adjusted EPS has grown at a rate of about 20.2% pa.

Company has net cash of £5.4m, z-score of 3.28, and negative gearing. It has a NCAV of £16.9m. Compared to a market cap of £5.8m, it's a net-net, and then some!

Looks pretty good on the surface. But not so fast! It had a ROE of 28.9% in 2007, and then reduced each year to where is stands today, at 11.7%. It is on a PER of 2.49. PER has gone from 20.4 in 2007, to 2.49 today, having decreased year by year. Things are smelling fishier and fishier.

And the net-net thing? Well, the problem here is that receivables account for £17.6m. Its revenues were £11.2m for the year, meaning that it's taking over 18 months to get paid. That is just wrong! I read that some poster brushed it off by explaining that that's how they do business over there. Sorry, I don't buy it! Surely there must be some renewal fees, licenses, or something like that? Personally, I don't care why it takes them more than 18 months to collect on their debts, I just care that it does take them more than 18 months to collect. If you look back at 2007, debtors days was less than 8 months.

Another thing: look at the net cash flow to  net earnings ratio. That figure has never gone above 1. The median since flotation is 0.31. This suggests to me that much of the earnings simply aren't real.

Needless to say, I view this share as a massive avoid, even though it's a net-net, and ostensibly a growth company. I have too many doubts about the integrity and competency of management, and about the validity of the reported figures. What a real stomach-churner.

No comments: