Monday, October 17, 2011

Huabao and the Queen of Cashout

The Shanghai Daily (subscription required) has taken to calling Zhu Linyao as the "Queen of Cashout". She is otherwise known as the controller of Huabao - an interesting company I have previously written about.

She is the second biggest insider-seller of any Chinese stock according to this list - having cashed out about half a billion US dollars this year.

I have now emailed with many people who have an interest in Huabao. Some visited the (recently purchased) reconstituted tobacco leaf plants - and they were moderately impressed. Some visited the flavors plant (the legacy business) and they found a few blue drums and a vat full of strange liquid but nothing redolent of a business then worth over USD3 billion. They ran a mile from the stock.

The most impressive website any of the people I communicate with has found is for their Peacock brand. They sell 572 products (far less than most retail shops) including "tomato sauce" and "cheese powder". Press "new products" and you get a one word answer: "no". A similar response is given for "food flavor". Isn't this meant to be a flavors company?

This compares as I noted in my previous blog post with maybe 100 thousand pages of text on the website of the major company in this industry (Givaudan).

It is unlikely you make 60 plus percent margins reselling flavored yogurt on an obscure Chinese website. I am not joking - see this link.

The only way that the margins - almost five fold the margins of Western competitors - are possible is by selling at an inflated price to the Chinese state owned tobacco companies. And indeed that is what the bull story is as many of my readers have pointed out.

I can neither confirm nor deny the existence of those sales. My only correspondents who have visited the factories responsible for those sales found a few blue drums. But there might be a large and complex factory behind that or there may be other sites so their word should not be taken as complete.

Moreover Price Waterhouse Coopers audited the accounts and they tell me the sales are real so I presume they are. Whatever: if real it is likely that one day the State Owned Enterprises will try to renegotiate the deal which seems unreasonably favorable to Huabao...

Maybe that is why Zhu Linyao is the "Queen of Cashout".



the management said...

by selling at an inflated price to the Chinese state owned tobacco companies. And indeed that is what the bull story is as many of my readers have pointed out

Oh god help us, the old smart-dumb "oh yes, we know they're dodgy, but they're on our side, and despite never having met us, these people are going to use all their government contacts for our benefit". Did nobody learn anything at all from investing in Indonesia in the 90s, or am I just old?

John Hempton said...

You are just old.

I have gray hair too.


Nemo Incognito said...

Look, he may be an insufferable barbaric kleptocrat but if you smoke cloves in Indonesia you are smoking his. - Asian Ibanker re Tommy Soeharto circa 1995

Looks like Huabao is done. Spoke to some folks at Kunming Ciagrette Co and this is news to them, so either they:
1) Didn't know about this and are going to stop it
2) May have been on the take but can't continue doing so now or
3) Huabao straight up does not exist.

Ian Whitchurch said...

I've been doing some thinking about different sorts of dumb, centering around Bre-X and some Australian rocks that have been innocently sitting in Western Sydney for 25 years.

Its easy to be smart-dumb.

Its harder to be smart-dumb about stuff you actually know about.

Food additives and perfumes are some pretty specific organic chemistry, and frankly virtually no-one knows about how hard or what the margins are.

As organic chemistry is hard, smart-dumb is what I'd bet on.

Anonymous said...

@ Bronte Capital,

Agree with your assessment of Huabao, but there may be much bigger short opportunities in the "recovering" U.S. money center banks who are announcing bodacious earnings increases such as Wells and Citi due to "deposit and loan" increases.

The problem isn't just with the non-performing loan portfolios -- it's how they generate revenues on a retail level -- through a variety of scams. These scams involve trying to get the consumer to open needless bank accounts in an effort to get deposits. There isn't much differentiation as you might imagine for a commoditized business so if that doesn't work, the personal bankers, managers and down to the tellers are forced to open accounts for each other. This scam involves opening and closing accounts in succession so they can book "deposit growth." What happens when these retail branch people run out of "friends and family"? They get fired and the scam starts afresh.

Debit cards are also a considerable scam.

Don't believe me? Spend some time talking with retail branch operations and you'll get an interesting look.

Anonymous said...

I kind of not get the Half-Priced Hoo... oops, sorry slipped, Price-Waterhouse-coopers story. "They say the sales are real" as in "as usual, they claim to have no way of verifying that"?
I mean, I can understand getting fooled by a novel fraud, but by now it looks like the "inside guy in a bank who provides cursory confirmation about money on the accounts over the phone" trick is in the book, no? Their public audits should have "methodology" section where one can see if they at least try to avoid being fooled by stuff like this...

Regards, Dmitry.

P.S. And guess I'm old too, or maybe just too Russian :) People truly keep trying to win ( even seein it for what it is! Like that persistent urban legend that fraudsters would let "win first try" "in order to lure one deeper into the game", which people of seemingly sane mind use as a reason to make "just one bet", haha.

Anonymous said...

I think you don't understand what this or any other tobacco flavourings company actually does. As tobacco grows, its flavour alters according to the location in which it is grown, the amount of rain or sun it recieves each year and general climatic conditions, etc, just like apples or any other foodstuff. It then takes approx 2 years to dry, changing flvour all the time. What Huabao do is maintain a library, if you like, of the exact chemical composition of each brand's identity flvour and they then test each batch of tobacco and adjust the flavourings accordingly to bring it back to the brand flavour. The amounts of chemical used for this are teeny, hence minimal asset base - it's all in the knowledge. They have diversified into RTL recently as the Chinese tobacco market has consolidated, so there's not much growth in their taditional market any longer. That is why they are trying to break into the food flavourings too, but it is essentially the same model - keep a detailed chemical inventory of a brand's signature taste and replicate it to keep the taste consistent. There are lots and lots of reasons not to like this stock, but the ones you have highlighted here are not some of them.

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