Hanergy Thin Film Power Group (00566.HK) has been definitely one of the hottest stocks in the market recently.
The company has seen its share price surge 150 percent since the start of this year, and mainland money has been constantly chasing the counter. It has been listed among the top 10 actively-traded stocks under the Shanghai-Hong Kong Stock Connect.
However, the company, which is involved in the manufacture of thin-film solar equipment and products, has also drawn some skepticism.
Observers point out that over 90 percent of the company’s first-half 2014 turnover of HK$3.2 billion was contributed by its parent company or affiliates through connected deals. Accounts receivable amounted to as much as HK$6.07 billion.
Also, the company’s gross profit margin hit 85 percent, beating that of technology giants like Apple Inc., fueling doubts.
Now, how about the investment value in terms of fundamentals?
To examine that, we should look at the earnings and the quality of earnings. Company profit can change with different accounting methods, but cash-flow will tell the truth better. Therefore, the easiest way to examine the quality of Hanergy’s earnings is to compare the profit with the cash-flow generated by its operation.
Hanergy has reported a first-half profit of HK$1.7 billion last year, but its cash-flow from operating activities was below HK$100 million. Instead, the company has reported net cash outflow of nearly HK$30 million in the period. Looking back, its profit amounted to HK$2 billion in 2013, while operating activities generated a negative cash-flow of HK$5.9 billion.
The company looks great in its earnings, but fails to generate net cash-flow in daily operation. That’s why the firm had to fall back on the capital market. Hanergy issued new shares twice to raise HK$5.8 billion this year and the year before, and the amount almost equals three-year profit.
Common sense is more important than special knowledge in making investment decisions. Warren Buffet often says that he only invests in companies that have simple business models that he can understand. The solar industry is so complicated, and investors might be better off staying away from companies which they don’t understand.
More importantly, a company wants money from its shareholders because although it looks profitable on the books, it fails to generate cash from operation. Is this an attractive business model? Are you willing to invest in such business?
“The stock market is a no-called-strike game. You don’t have to swing at everything — you can wait for your pitch. You don’t have to move at every opportunity,” Buffett once remarked.
Speculators might argue that it’s a great opportunity when stock price moves, and that you may miss out if you-re too cautious. However, following the trend is speculation, while understanding the value is investment. And another key difference between the two is that you will be bold enough to put in a lot of money only when you are convinced about value investing.
CHK Holdings (00001.HK) will list on the market to replace Cheung Kong, and shift its main focus from property to telecom, retail, ports, energy etc. Looking at CHK Holdings and Hanergy, would you want to invest in a company that has international presence and strong cash-generating capability or a firm which basically manufactures thin-film?
This article appeared in the Hong Kong Economic Journal on March 18.
Translation by Julie Zhu
[Chinese version 中文版]
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