Zhongguo Powerplus

THE ILLOGIC OF THE MARKET
Because stock and bond prices reflect the present value of future expectations, for every fact available to the market, there are ten rumors and illogical interpretations, just as there are vastly more 'paper barrels' of oil trading in the oil futures market than there is real oil available.
-- Craig Gordon

There are times when watching the stock market react to various bits of news and rumors is enough to make you require restraining in a straight jacket before you go completely mad. I experienced one such occasion recently with the IPO of a Chinese maker of handheld power equipment like weed-eaters, leaf-blowers and fertilizer sprayers called Zhongguo Powerplus.

Let me recount my experience.

The very day before the IPO launch of Zhongguo Powerplus, its Chairman, Mr. S. Y. Lim slipped up during a press interview and said that he 'promised the company would achieve strong growth over the next few years', or something to that effect. Now, the problem with this statement was that it was not included in the IPO Prospectus, nor could it be factually proven with documented evidence... which means it contravenes a MAS rule about forecasting profits (some would argue this rule does more to silence management than to help investors stay well informed, but that is another issue).
How did the market react to this situation? You might think, 'Aha, the cat is out of the bag, Powerplus is definitely on the growth path ahead of what is disclosed in the lawyer-jargoned prospectus, so shrewd investors will be buying en force'. Well, just the opposite occurred, and market participants seemed to focus on the 'controversy' of Mr. Lim's inadvertent disclosure and possible rule breaking, and the stock price opened weak and closed the first day just below its 23 cent IPO price.

But Mr. Lim appeared determined to show that he may have spoke too soon, but what he spoke was indeed the truth, and Powerplus announced its first-half June 2004 financial results just weeks after its IPO launch. How were the results? Well, sales rose 108% and net profits soared 274%. Mr. Lim was vindicated! Or was he? Instead of focusing on these sterling factual business progress results, the market again chose to focus on something less tangible, insider selling. A non-executive director from China had sold about half his stake following the IPO. Market participants decided they had better sell too (without any further information about why this non-executive director sold).

Even today, Zhongguo Powerplus continues to fall to new lows almost every day. It is now trading around 21 cents (from 23 cent IPO price, prior to the announcement of half-year results). At 21 cents, the stock is trading at only about 5-times current year earnings (assuming second half earnings match first half, which management expects to be the case). Sales double, profits quadruple, prospects look bright, and the stock price tanks. One has to wonder about the logic of the market in cases like this. What are traders thinking? Are traders thinking? Every seller at 21 cents today, given that it is a record low price, is presumably selling for a loss. Why sell at a loss at such an attractive valuation for such a promising easy-to-understand business? Oh, the painful lack of logic of it all... where is my straight jacket?!

Sage@wallstraits.com

Disclosure: Wallstraits owns shares of Zhongguo Powerplus. We found the illogic of most market particupants in this case too hard to resist, and have accumulated our holding at below IPO price for this promising little China business. You can follow all our contrarian value-oriented moves with our real-dollar WS8 Portfolio by clicking here now (and get a free Sage book).

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