This action might not be possible to undo. Are you sure you want to continue?
COGO Group (Nasdaq:COGO) Date Written Current Price Estimated Value Per Share 05-252011 6.07 0 Market Capitalization Long Term Debt Total Cash Short % of Float (As of Apr 29, 2011) 218.36 M 72.06M 101.7M 1.60%
The American listed Chinese RTO space has been a lucrative area for short sellers. Companies like China Agritech, China Media Express, and Tongxin International have all been delisted due to fraud and there are many more Chinese RTOs that have been alleged frauds but they have not been halted or delisted yet. Most of these Chinese listed companies already have a very high short interest, one of the companies that currently does not, but in my opinion does deserve one, is Cogo Group (Nasdaq: COGO) I believe the company has dubiously sold insider shares, bought companies in related party transactions to siphon cash and their accounting practice is suspect of manipulation. 1. History of hiding Insider selling When the company first went public in 2004, there were three original shareholders. • • • 13,163,199 shares: Comtech Global Investment, controlled by the CEO JingWei (Jeffrey) Kang 5,467,790 shares: Ren Investment International, controlled by CEO JingWei (Jeffrey) Kang 1,620,086 shares: Purple Mountain LTD, controlled by Yue (Justin) Tang
Shares of Ren Investment International would all be sold, but not before Ren Investments oddly changes the director of the company from JingWei Kang to Kang Yi, the CEO’s brother. Comtech Global Invest now owns 9,711,524 shares according to the last 2010 10K . Purple Mountain LTD are no longer listed as a major shareholder and presumed to be sold out of their position.
2. Insider transactions (Viewtran)
http://walrusvalue.blogspot.com (firstname.lastname@example.org) Page 1
As per the 2004 10K on page 46, the CEO, Jeffrey Kang, owned a 6.1% interest in Viewtran. Viewtran was eventually purchased in 2007 for 58,529,00 RMB. Which is a hefty sum for a company that “has no assessable profits up to 2006” according to the 2007 10K and 47,649,00 RMB was attributable to goodwill and 7,151,000 RMB was attributable to intangibles. Nowhere in the 2007 report do they disclose the CEO had an interest in Viewtran before they bought it.
3. Enlarged share count 2004
Shares outstanding have increased 40.9% since going public.
4. Poorly designed website The website, http://www.cogo.com.cn/, looks too basic for a company doing 400 million in revenue. The site show old technology and a poor investor relations page. This is a bad reason to short, but it does not look right. For a company saying they are going to release “COGO 3.0”, a supposedly sophisticated website for buyers and sellers of technology, you would think their main website would be bit more sophisticated.
5. Buying companies with a massive amount of goodwill relative to assets After the large capital raise in 2006, the company used that money to make acquisitions and pay down debt. Here are some of the acquisitions.
In 2006, COGO purchased Viewtran Technologies (company with ties to the CEO) for 58,529,000 RMB. Of this purchase price, 47,469,000 RMB was in goodwill and 9,707,000 was in intangibles (of the intangibles, 6,610,00 was in customer relationships).
In 2006, COGO purchased the remaining 40% Shaghai E&T for 16,000,000 in cash. Of the purchase price was in 4,264,000 goodwill and 5,467,000 was intangibles assets (all from customer relationships) http://walrusvalue.blogspot.com (email@example.com) Page 2
In 2007, COGO purchased the remainder of the 45% interest in Comtech Broadband for 113,193,000 RMB (2/3 in cash, 1/3 in stock) 47,561,000 RMB of this was in Goodwill and 74,578,000 RMB (66,202,000 was in Customer relationships) for the Intangibles.
In 2007 COGO purchased Keen Awards for 66,032,000 RMB, of which 73,007,000 was in intangibles and 63,009,000 RMB was in customer relationships.
In 2008, COGO purchased a 70% interest in Longrise for 60,921,000 RMB. Of that, 21,422,000 was in Goodwill and 34,567,000 was in intangibles.
In 2009 COGO purchased Mega Smart Group for 122,415,00 RMB (paid in installments) Of the purchase price 80,226,000 RMB is attributable to goodwill, and 50, 526,000 RMB to intangibles with 24,580,000 attributable to customer relationships, and 8,876,000 attributable to supplier relationships.
In 2011 COGO purchased MDC Technologies for 144,372,000 RMB. Of this purchase price, 49,669,000 RMB was in goodwill, and 113,417,000 RMB was in intangibles assets. Including 21,786,000 for customer relationships and 90,443,000 RMB for non-compete agreements.
None of these acquisitions give a break down of the past profitability of these companies, as a stand-alone company. Only Viewtran technologies had a blurb about the past profitability, which was Viewtran “has no assessable profits up to 2006” I am suspicious the company is purchasing these companies at irrational prices in order to surreptitiously move capital from COGO to acquiring companies for sweetheart deals. I have already pointed out an obliquely disclosed purchase with Viewtran where the insider interest was not disclosed at the time of purchase; I think it is likely the insiders had interest in other companies that were acquired without disclosing it.
6. Obvious typo in the 10K
http://walrusvalue.blogspot.com (firstname.lastname@example.org) Page 3
This might be a small matter, but there was an obvious typo on page 61 of the 2007 10K where the CEO’s name is miss spelled from Jeffrey Kang to Jeffrey KING. This might be nothing but I think it shows the lackadaisical manner the company releases information to the shareholders.
7. Changing of the Auditors Deliotte & Touche to KPMG, no explanation why In 2007, COGO dismissed the auditing firm Deliotte & Touche and hired KPMG. There was no explanation for this change on either of the 8Ks that were released regarding the change of auditors, nor was a disclosure made on the 10K
8. Funky accounting (net income vs. cash from operations)
For most companies, operating cash flows are higher than net income. Sometimes net income can be higher than operating cash flows for a while, but not in perpetuity. With COGO, there is a significant disconnect between their operating cash flows and their net income. (All numbers are in ‘000 RMB)
Net Income Cash from Operatio ns
2010 113,05 5 (22,258 )
2009 83,16 9 (33,51 0)
2008 97,16 2 97,46 2
2007 152,4 43 46,41 5
2006 123,2 75 202,8 38
2005 86,84 2 (35,07 4)
2004 62,20 2 (60,33 9)
2003 28,48 3 (25,40 6)
Total 746,6 31 173,1 28
There is a dramatic difference between the company’s net income and operating cash flows. This was seen with other Chinese RTO frauds like China AgriTech and RINO. The company was able to make all their acquisitions due to excessive use of cash from financing.
Reasons for the discrepancy of Net Income and Cash from operations (all numbers are in ‘000
2010 – COGO adjusted their net income 43,676 RMB due to a net gain of settlement trading, where COGO received the additional 30% of Long Rise COGO did not own for free, http://walrusvalue.blogspot.com (email@example.com) Page 4
in return Long Rise shareholders were free from their non-compete agreement. COGO also had an increase of inventories of 109,267. It should be noted that inventory from 2009 to 2010 increased 71% whereas revenues only increased 23.5%.
2009 – Cash flow from operations was decreased due to a 50,309 RMB increase in inventories and a 155,560 increase in receivables.
2008 – Cash flow from operations equaled net income
2007 – Cash flow from operations decreased due to a 156,297 RMB increase in accounts receivable and a 59,104 increase in inventories.
2006 – Only year cash flow from operations was significantly better than net income. This was mainly attributable to a 22,608 decrease in bills receivable and a 26,870 decrease in inventory.
2005 – Cash flow from operations decreased due to a 100,086 increase in accounts receivable and a 94,860 increase in inventories.
2004 – Cash flow from operations decreased due a 71,588 increase in trade accounts receivable and a 64, 032 increase in bills receivable.
2003 – Cash flow from operations decreased due to a 24,662 increase in trade accounts receivable, a11,437 increase in inventories, and a 11,137 decrease in trade accounts payable.
Cash from Financi
2010 352,28 3
2009 105,9 13
2008 2007 (180,64 217,31 9) 8
2006 72,69 5
2005 45,21 2
2004 72,69 5
2003 45,21 2
Total 730,6 79
http://walrusvalue.blogspot.com (firstname.lastname@example.org) Page 5
Cash flow from financing mostly came from issuance of shares up until 2009 when the cash flow came from bank debt.
9. COGO does not own the equity in the main subsidiary ShenZhen Comtech, instead has a contractual agreement with the vice president of Comtech and the CEO’s mother
Cogo group does not own the equity of one of their main operating subsidy ShenZhen Comtech. Instead, COGO has a “contractual agreement” with Honghui Li the Vice President who owns 99% of ShenZhen Comtech and Huimo Chen, who owns 1% of the interest of ShenZhen Comtech and is the mother of the CEO Jeffrey Kang. According to the 2005 10K, it is possible for the COGO group to own the equity interest in Comtech but it “requires special approval from the PRC Ministry of Commerce, which is time consuming to obtain.” I believe it highly unlikely US shareholders would be able to obtain their economic interest in ShenZhen Comtech if there was ever a problem with COGO.
10.What the business does exactly is unclear. Press releases & management is gobbledygook. According to the filings, COGO is in the business of providing customized modules and subsystem design solutions. I have no idea what this means. Yet, looking at the financials it seems the company is really in the business of reselling electronics not in providing their some sort of value added engineering expertise. According to their recent 2010 10K, 2,554,991,00 RMB comes from product sales and only 53,307,000 comes from service revenue. Yet, if you read their press releases it makes it sound like they are doing high end technology announcing contracts for wind turbines, tablets, smart grids, high speed rails, COGO 3.O online strategy.
11.Questionable stock repurchases due to “negotiated transactions” http://walrusvalue.blogspot.com (email@example.com) Page 6
Although for most companies, stock repurchases are a sign of company giving back investor capital. I am suspicious that COGO’s stock repurchases were not made on the open market but instead through “negotiated transactions.” Since the company has a large insider ownership and a couple acquisitions have been made with stock, I am very skeptical these were made on the open market.
12.Dividend released before the company went public like CCME The company has not released a dividend to shareholders since going public in 2004. Although before initiating the transaction to go public, COGO released 41.4M RMB in dividends to shareholders. China MediaExpress also released a dividend to its shareholders before going public. COGO has no plans to release a dividend I in the future and says it will have difficulties due to regulation on Chinese currency. I believe this is a dubious argument, in which COGO hides behind for not paying a dividend.
13.Extremely hard to contact management Contacting management is extremely hard. There is no IR contact on their website, either via e-mail or phone. The phone number listed on their SEC filings is to their ShenZhen Comtech office where the workers speak very little English. The company does have a quarterly conference call, but no way to get a hold of management other than the quarterly calls.
14.Heartland Advisor is a shareholder, they have also been duped on a Chinese RTO (the car one) One of the major shareholders on record is Heartland Advisors, a value based mutual fund. Although most of the time it is good seeing fellow smart investors as part of the shareholders, Heartland was previously duped by another Chinese RTO called Tongxin (TXIC), in my opinion Heartland’s ownership is not a sign of confidence.
In conclusion, my opinion is there is a large amount of evidence showing suspicious activities inside COGO group. Although I do believe COGO is a real operation, I do not believe in the company’s accounting practices or trust the company is making acquisitions in good faith for the shareholder’s interest. Since this company has no intent on paying shareholder dividends I believe COGO’s intrinsic value is zero. I think it is unlikely COGO will ever go to zero, but I think it’s likely it will trade for far less in the future. I am planning to exist my position around $1.50 a share. Catalyst http://walrusvalue.blogspot.com (firstname.lastname@example.org) Page 7
1. Company is unable to list in Hong Kong or never ends up listing. 2. SEC doing investigations in Chinese Shorts 3. Resignation of KPMG because they don’t want Chinese RTO risk. Risks 1. Company successfully lists in Hong Kong 2. A private equity firm like Bain Capital makes an offer on the company.
Disclosure: I am short shares of COGO. Please do your own due diligence. This is not investment advice nor am I a financial advisor. I may choose to cover my short at anytime. Note: This is currently my second draft of my analysis of COGO; I am planning to update my thesis as time goes on. I welcome feedback and in fact, it would be greatly appreciated.
http://walrusvalue.blogspot.com (email@example.com) Page 8
This action might not be possible to undo. Are you sure you want to continue?
We've moved you to where you read on your other device.
Get the full title to continue listening from where you left off, or restart the preview.