Qihang Equipment – another China sell

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I have never written about this company before but interim results out today from Qihang Equipment (LSE:QIH) are pretty shocking and at 14.75p, the £8.56 million market capitalisation appears to be a total joke. Yup, this is another Chinese stock which brings no credit to AIM.

© Image copyright foolip

The company claims to be:  “a fast growing machine tool manufacturer including large lathe and milling machines capable of creating huge components of greater than one metre in diameter and sixty tonnes in weight. The Company is one of the few businesses which can manufacture milling machines for processing complicated screws used in the plastic and petrochemical industry in China.”

Hmmm.. In the 6 months to June 30th revenue fell by 14% to 118 million RMB (despite it splashing out 35 m RMB in January to buy ZACM which chipped in 14.8 million of sales), and gross profits slumped by 26% to 28 million RMB (with ZACM accounting for 3.8 million RMB of that GP). So I am not exactly sure how Qihang can be described as fast growing. Maybe I am just an ignorant gweilo.

Anyhow back to the maths. At a pre-tax level the company actually reported a loss of RMB 4.09 million (£400,000). Frankly I think that this number might be overstated. The company appears to depreciate its property, plant and equipment over 14 years. Does kit used in heavy industry really last that long? I am happy to be told that it does but I ask the question anyway. But back to trading, Qihang admits that

The trading of the Company has been disappointing so far this year. The effect of the general slowdown within China and the European debt crisis has been seen in both our home province of Jiangsu and also within the Machine Tool Industry throughout China and the rest of the world.  Indeed, the Economic Department of the British Embassy estimated that Jiangsu may have shown no growth at all in the summer months.”

Qihang claims that there has been some sign of improvement in August and September but China is crashing so I would not bet on it lasting. But Qihang needs an improvement. If it is lucky it might get in a few shekels when, or if, it sells ZACM back to its owners on the grounds that it has failed to meet expectations. But it needs cash. At the period end Qihang boasts that it had 62 million RMB but…

If we look at the balance sheet the period end current assets stood at 288 million RMB but current liabilities stood at 377.7 million RMB (of which 226.7 million is debt). There is also 43 million RMB of long term debt. And it gets worse. Within the current assets two items stand out. Inventories increased from 72.3 million RMB in June 2011 to 128.6 million RMB (that is more than six months worth of sales). Moreover against a backdrop of falling revenues, trade receivables increased from 82 million RMB to 98 million RMB – 5 months of turnover.

Given the crash happening in the Chinese economy ( see HERE for details) I think I’d be happy to bet you a RMB or two that Qihang will fail to convert all of that inventory and those trade receivables into cash within a year. As such I cannot see how it can meet its current liabilities as they fall due.

Is this company generating cash in any way? Er no. That is not surprising if folks seem reluctant to pay bills. The cash outflow from operations in the first half was 14 million RMB. Chuck in 10 million of interest costs and that is a hefty old bleed.

And so the bottom line is that Qihang has bills due within a year of 377.7 million RMB ( call it £38 million). In the exceedingly unlikely event that it converts all its inventory into cash and that all its customers pay their bills pronto it might have 288 million RMB ( minus any operating cash bleed) – let’s be generous and call that £28 million.  So there is a £10 million shortfall which this company has not a hope in hell of making up.

Perhaps the banks will extend the debt repayment terms. I jolly well hope so because if they do not Qihang is for the high jump. And that is why a valuation of £8.56 million for a loss making enterprise which needs a refinancing of some sort is such a joke.

This is a stonking short. If you want another couple of Chinese stocks to short ( this is fish in a barrel time right now) have a look HERE and HERE

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