Man Wah - A multi-bagger in the making?

I come across a US fund manager who has holdings in Man Wah. It is called ZPR Investment Manager Inc, a small cap value manager. Here is how they describe their investment style in their website: Why Small Cap Value? * We Like Bargains * We Like Low Risk * We Can Understand Value ZPR\'s Small Cap Value * Risk Averse Small Cap Stock Pickers * Contrarian Stock Pickers * Low Correlation to Benchmark (True Diversification) * Genuine Small Capitalization Portfolios * Value added with SKILL; not Indexing * Low correlation with the general market. (.52 to S&P 500) * Can move in the opposite direction of the market. In their Jan 2008 investment report, they described their holdings of Man Wah: MAN WAH WE HAVE all heard about the \"evils\" of outsourcing and cheap imports putting workers out of business. This one would make Lou Dobbs scream. (He should go read Adam Smith - Wealth of Nations.) Man Wah produces leather sofas in Hong Kong and is listed on the Singapore exchange. In the first half of fiscal 2008, (their year ends in March 2008) revenues were up 82% and net profit up 80% and they increased their dividend 80%. (That\'s what I like - show me the cash.) Its corporate tax rate is 4%. (In two years it will rise to 25% as the Hong Kong/Chinese tax holiday rolls off. However, their Macau subsidiary is tax exempt.) In Contrast, the US has one of the highest corporate tax rates in the world at 35% - so those furniture factories in the Carolinas don\'t have a chance. The US needs to slash corporate taxes and end double taxation of dividends otherwise capital will go to where it is loved and not punished. Sales to North America were therefore up 138% and we should not be one bit surprised. Sales to Europe, which has a lot more import restrictions, duties and VAT, were up only 78%. They also are getting into the retail business in a big way increasing their stores in PRC from 131 to 170 for a 142% gain in revenue. They plan on another 50 stores soon - and the retail market of the Peoples Republic is huge. Nevertheless, the stock fell in November like other Singapore stocks from .73 to .61 SGD. I estimate they will earn .10 SGD in the current fiscal year ending March 2008. The average stock on the Hong Kong exchange is about 50 PE, Shanghai it is 80 PE compared to our 6 PE for rip roaring growth. Its name brand sofa called \"Cheers\" is \"red\" hot. It has no debt. By mid 2008 it will be 4 times cash flow; have a 5.5% dividend. Nothing like a comfy sofa (stock). Of course there is the political element, but that\'s why we buy only Singapore base companies with British rules and full transparency and accounting. We won\'t buy any Chinese companies directly until they become a free democracy with full property rights of ownership - Not \"B\" Shares. We are the A Team and we only own Grade A stocks. If you had owned these stocks at the beginning of November, you would have been down more than 14% for each. That\'s the way it often is. That\'s our opportunity to steal them for a song. We hold a lot of great US, Thai, and Singapore stocks. It is just amazing how stellar fundamentals get ignored in selloffs. It was a lot of work to go through hundreds of Singapore stocks to find these, but then I know what to look for. And that translates to winning in any stock market.\" Based on their investment philosophy they should still be holding Man Wah. This is the latest comment on Singapore small caps in their Aug 2008 investment report: \"SMALL CAPS in Singapore have been a disaster and relative strength has never been worse. While the FTSE All Share Index fell 1.68%, the FTSE Small Cap Index fell 5.21% and we plunged 9.67%. For year to date, the Small Cap index is down 32.17% and our Singapore stocks are off 33.94% (estimate). Ridiculous. There is a 5.71% currency gain for the Singapore dollar, to offset that. There is no political unrest in Singapore like there is in Thailand, yet we are off 34% there versus only 7% in Thailand for the year in local currency. Many Singapore small cap investors are foreign investors who also have money in Chinese stocks. The Shanghai Stock Exchange has fallen 42% this year. It\'s contagious.\" Source: www.zprim.com

One of the risks I identified for Man Wah is the trade barrier US may impose on Chinese goods. Today\'s Business Times report is quite reassuring that in my view this worst case scenario for Man Wah is unlikely to happen in the near future. \"Business Times - 20 Aug 2008 China making \'progress\' on currency: Paulson WASHINGTON - US Treasury Secretary Henry Paulson on Tuesday welcomed China\'s progress in allowing its currency to rise and called for more Chinese investment in the United States. \'Congress has been satisfied that we\'re making progress\' in encouraging China to allow the yuan, or renminbi, to appreciate, he said in a teleconference with reporters... ...The Treasury chief said the United States is trying to negotiate a bilateral investment treaty with China as part of the US-China Strategic Economic Dialogue, a series of high-level economic talks. \'There\'s a lot of US investment in China and to get the protections that our investors need is something that\'s important and difficult to do ... on the other hand there\'s very little investment that the Chinese have in the US and we think it would be a positive for both of our countries to have them have more investment in the US....\' - AFP\"

I have found a Man Wah\'s video advertisement on Cheers sofa in their HK retail website: morewellfurniture.com/cn/gg.html

Today, Man Wah announced an acquisition of Famous Bedding, a company owned by CEO Wong Man Li, his wife and Non-Executive Director Yu Tung Wan. The implied purchase price is RMB 83m for a guaranteed net operating profit RMB 15m. Assuming this is close to net profit after tax, this transaction values Famous Bedding at 5.5x PE. This is not excessive but is slightly higher than Man Wah\'s current PE. No cash is paid to Yu Tung Wan for his 30% stake of Famous Bedding. Instead, about 3.3% new Man Wah shares (worth RMB 25m) will be issued to him. Like Li Jianhong and Francis Lee, he will then have a stake in Man Wah. For their 70% stake of Famous Bedding, CEO Wong Man Li and his wife will get in exchange a 16% interest of Man Wah Shenzhen (the PRC subsidiary), currently a 100% subsidiary of Man Wah. In addition, they are to to inject RMB 4.4m cash to Man Wah Shenzhen to complete the transaction. This move makes sense to me: 1. It consolidates two complementary businesses owned by Mr Wong. 2. No cash is used in the transaction and in fact RMB 4.4m is added to Man Wah by Mr Wong. 3. Mr Yu Tung Wan becomes Man Wah shareholders. 4. PRC retail outlets are instantly enlarged by 60% to more than 370 and aiming to hit 500 by Mar 09. Marketing synergy and cost efficiency are the likely outcome.

The transaction price of RMB 83m is calculated based on the contribution of the earnings of Famous Bedding for the 18-month period ended 30 June 2008 (the “Relevant Period”) to the combined earnings of Famous Bedding and Man Wah Shenzhen for the Relevant Period. This is a fair basis and it doesn\'t penalize existing Man Wah shareholders. The earnings of Famous Bedding was RMB 8.3m for FY07 and RMB 7.3m for HY08. Hitting 15m in FY08 shouldn\'t be a problem given the strong growth in H1. Their current stores stand at 140 so after the \"merger\" with Cheers with a combined store to hit 500 next year, I will expect earnings to increase substantially in 2009. From this angle, the purchase PE on 2009 earnings will be around 3x. The new Man Wah shares to be issued to Mr Yu will be at an issue price to be based on the weighted average price from 26 Aug 08 to within 14 days after the Special General Meeting. So if Man Wah share price increases from now on, Mr Yu will get less shares and vice versa. In other words, management didn\'t fix the issue price in this depressed market when Man Wah is trading so low. There is good reason for existing shareholders to support Man Wah share price so as to minimize the dilution effect! This transaction demonstrates to me we are dealing with fair and honest management.

OCBC Research on 27 Aug 08: Acquisition to boost PRC business. Man Wah Holdings Ltd (MWH) announced its plans to purchase a 100%-stake in Famous Bedding, a PRC mattress and bedding accessories company. Contingent on Famous Bedding’s net profit, MWH will be paying an implied consideration of RMB83m, representing 10x historical PER and an estimated 5.5x forward PER. Famous Bedding is co-owned by MWH’s directors, namely Mr Wong Man Li (70%) and Mr Yu Tung Wan (30%). The purpose of the acquisition is to strengthen MWH’s PRC business via inorganic growth with the eventual goal of spinning it off. Famous Bedding’s products are expected to complement MWH’s leather sofa products and boost revenue growth and operational synergies for the group. Exact impact for existing shareholders remains vague. For now, the exact impact of the acquisition remains vague given its preliminary nature. On the bright side, the acquisition will help MWH to leapfrog in terms of the group’s combined market penetration, product offerings, and earnings. More importantly, should the enlarged PRC business be listed as a separate entity, this could unlock substantial value for existing shareholders. On the other hand, however, the acquisition comes at a price. Shareholders can expect dilution arising from the issuance of new shares as part of payment for the acquisition. Exact details of the capital enlargement and potential listing have not been firmed up and are still pending approvals from shareholders and regulatory authorities. Potential catalyst: Spin-off of China business? The key motivation for MWH’s acquisition is to strengthen its PRC business, with the eventual goal of spinning it off as a separate listed entity with MWH remaining as its major shareholder. While management refrained from elaborating on the spin-off citing its preliminary nature, we are of the view that Shenzhen or Hong Kong could be potential listing destinations given their relatively higher valuations and proximity to the ground. This listing could spark an upward re-rating for MWH’s stock in the longer term. BUY rating and S$0.51 fair value intact. Regardless of whether the spin-off materializes, we expect the acquisition to have an overall positive impact on the group’s earnings. We estimate the proposed acquisition could bump up our operating profit forecast by 6%. Nevertheless, we are keeping our forecasts and fair value estimate unchanged until we obtain concrete details and greater clarity on the group’s plans. We maintain our BUY rating and S$0.51 fair value estimate on the stock.