Is This Chinese Developer a Cheap Stock or Value Trap?

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Image Source: http://www.nytimes.com

Whereas Tesla is ridiculously overvalued, this Chinese house developer looks to be ridiculously undervalued and gives a 4% dividend too!

At A Glance:

Symbol: XIN:US
Price:$5.34
Market Cap: $379MM
Yield: 3.56%

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Xinyuan Real Estate is a developer of large-scale residential real estate projects aimed at  middle-income consumers / Tier II cities.  It has development projects in Zhengzhou, Jinan, Suzhou, Hefei, Chengdu, Kunshan, and Xuzhou – areas that actually have population growth and economies (unlike the reported ghost cities), but not having to deal with crazy valuations and competition in the big cities.  Sounds very much like an investment in the growing middle class of China – where folks will be living in these areas.

However, the company is also starting projects outside of this demographic – with a $162M project in Beijing; as well as three housing developments in the U.S. (Brooklyn, Reno, and Irvine – of which they recently sold  some units).

Earlier this week, the company reported Q2 earnings – coming in at $0.54 per ADS (Advanced Depository Share – basically the share trading in New York vs. the one in HK/China).  Over the past twelve months, that puts the company’s earnings per share at $1.83.  This is where even with my limited financial knowledge, all the basic financial metrics show this company to be ridiculously cheap.

  • Trailing twelve month earnings of $1.83 / share means the company sports a P/E under 3
  • Current Assets / current liabilities (indicator of how quickly a company can pay off debt) is 2.7:1
  • Cash and cash equivalents ending the quarter was $635M or $9 / share
  • Book value of $11.94 / share

So what’s the catch?  Unfortunately we don’t know.  I can speculate some reasons why investors aren’t fully on board with this company:

  1. China real estate bubble concerns; and what the government might do to tame inflation
  2. Fraud and accounting issues – recently in the news was a lot of Big 4 accounting firms in China not sending information to the SEC 

I don’t seem to have an issue with either issue – there might be a real estate bubble, but the fact that this company is targeting the growing middle class, that demographic will eventually live somewhere – and while things might get worse before they get better, there will be a bright future ahead.

In terms of the fraud/accounting issues, company insiders hold 40% of the stock; the company issues a dividend; is audited by E&Y, has an American CFO (although retiring), 4 of 9 board members are American, and the company has the projects in the United States.  In the most recent quarter, they also spent $5.8M on buying back 1.3M shares and approved the purchase of another $60M worth.  These actions doesn’t look like there is an issue with lack of cash in the company.  In fact, the company looks to have enough cash to buy the entire company back!

Investing in undervalued companies is a game in patience (sometime’s the reason why I don’t like investing in them – nothing really happens until the investment world realizes their true value).  There could be other issues that I’m not aware of, but until they’re known, I don’t mind giving this company a little action – it’s not a significant portion of our portfolio but with a 5% dividend at the time, and properly valued share price multiple times higher than the current stock price, it was hard not to take notice.

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