Could These Tiny Stocks Inherit a $330 Billion Industry?

by Travis Johnson, Stock Gumshoe | September 15, 2009 10:34 am

“3 Tiny Stocks Stand to Inherit a $330 BILLION Industry

“These ‘proxy’ stocks could show investors gains of 1,042%, 602%, and 1,705%…

“But you must act by October 23, 2009!”

That’s the promise from the folks at Hot Stock Confidential[1], and, to try to summarize a wee bit, they’re talking about big pharma outsourcing more of their manufacturing to China[2], and the Chinese companies that will benefit.

There’s plenty of bombast here — they liken this, politically, to being a historic blunder reminiscent of the Louisiana Purchase (for France) or the Alaska Purchase (for Russia[3] — though that investment by the US was referred to as Seward’s Folly for a long time before oil[4] production began in earnest).

The actual policy background for this is what the Hot Stock folks call the “Guangzhou Agreements” … and, beyond that, some potential legislation that might come out of Congress this fall.

The Guangzhou agreements were a response to all of the Chinese food and drug safety scares of the last few years (melamine, poisoned pet food, and tainted heparin) — the agreements back then were between China and the US Pharmacopeial Convention, which sets most of the international standards for drugs … but the real changes seem to be between by the FDA[5] and the Chinese authorities, who want to cooperate more on food and drug safety, to inspect more of the products that China sells to the US, and to put more investigators on the ground to inspect Chinese factories.

Our teaser ad’s take is that the Chinese love this, because it’s a relatively inexpensive way (much of it paid for by the FDA) to get more access to the US market. And the argument is that the health care debate, with it’s pressure on big pharma to cut costs, will spur even more outsourcing — and the easiest way to cut costs in most supply chains, assuming it hasn’t been done already, is by moving to cheap-labor China.

There is new legislation that might pass this year to change the food inspection system — bolstering FDA authority, reorganizing the agency somewhat, increasing inspections and standardizing inspections and such. The bill they tease, by the way, is H.R. 2749, which passed the House at the end of June and is now in the Senate, assigned to the Committee on Health, Education, Labor and Pensions. I have no idea whether or not this ad is correct in speculating that the bill could be signed into law by October 26 — it could, of course, happen sooner, later, or not at all, this is far from being the highest profile legislation under consideration by the Senate right now.

But what we’re told to focus on is the fact that pharmaceutical manufacturing will boom in China as outsourcing increases under a stronger inspection and safety regime.

And, of course, that they’ve chosen the three companies that will profit most — Amberger calls them the “proxy” companies. Can we figure out what they are? Well, I can tell you one of them, at least, and we can do some guessing on the other two. And they throw in a bonus pick, which I can speculate at too for you.

“‘Proxy’ Stock #1: Expected Gains = 90% – 602% by Fall 2010

“Trading at less than $3 per share, this “dark horse” pharma stalwart just booked revenues of $42 million and a net income of $7.5 million in its 2009 fiscal year—an increase of 25% over 2008. They’re expecting to grow an incredible 40% in fiscal 2010—without a single nickel[6] in American pharma expat money.

“They received SFDA approval for 10 new products… and were just certified for a new production facility that’ll increase its capacity by 300%!

“This stock could hit $6 by next spring, for a 100%+ gain, merely on its domestic Chinese business. Add in the outsourced production of even a single generic Western drug and we could see $25 valuations before the 2010 elections!”

This one must be Tianyin Pharmaceutical (TPI) — we can’t be sure yet that they booked revenue of $42 million and net income of $7.5 million in 2009 (their fiscal year ended in June), but that is what they guided investors to expect and they’ll be announcing official results sometime this month. And they are also guiding for good growth in 2010, with an expected $10.5 million in net income (that guidance press release is here[7]). This stock is very cheap on forward earnings, but nearly all of the Chinese drug stocks are super cheap — TPI has a forward PE of about 7, and they certainly seem to have real products and a real marketing operation for their Chinese business. And unlike the other companies in this space, they actually pay a dividend, which is always encouraging — and it’s a decent one, ten cents a share for about 2.5% annual yield.

Now we get to the somewhat pricklier ones …

“‘Proxy’ Stock #2: Expected Gains = 120% – 1,705% by Spring 2011

“This pharmaceutical powerhouse specializes in research, development, manufacturing and marketing of a variety of narcotics and pain management products, both prescription and over-the-counter.

“It sells primarily to hospitals, clinics, pharmacies and retail and operates two manufacturing facilities in China.

“The stock costs less than a candy bar at your local convenience story… and could easily double simply on China’s health stimulus.

“Any ‘proxy’ business could push the stock to $14 and higher… for gains of 1,700%+!

I’d guess (and this is a guess) that this is probably China Aoxing (CAXG, trades over the counter) — this is a relatively small firm (about $100 million market cap) that’s unprofitable, but they have been scraping together cash lately to keep things rolling (selling off some land, and doing a private placement of stock), and they do have a new drug application in with the Chinese authorities for a codeine cough syrup — I don’t know if they’ll make money from this, or from their other manufacturing capabilities, but certainly if you’ve got an especially effective cough treatment in China you’ve hit the motherlode, that’s got to be one of the world’s best markets for respiratory problems.

Next!

“’Proxy’ Stock #3: Expected Gains = 125% – 1,042% by Spring 2012

“This specialty pharma company has established markets in United States, China, Korea[8], Taiwan. It’s a prime “proxy” candidate.

“Right now, it’s trading for less than $1… which gives it an upside of 125% by April 2010… and a realistic shot at closing in on $8 per share by early 2012!”

OK, if I was guessing on the last one then we have to call this a “wild guess” — I’ll speculate, based just on the terminology and the markets they’re serving, and the price, that this is AMDL (ADL). About a month ago, when this ad probably was formulated, the stock was trading just under a dollar, around 80 cents+, it has since fallen to about 65 cents (the other stocks we’re speculating about here are all up over the last month or so).

And we can close things out with the “bonus” pick of a fourth stock …

“BONUS: ‘Proxy’ Stock #4: Expected Gains = 200%+ – 900% by Spring 2012

“This is our favorite play. The stock currently trades at under 30 cents…. and yet this fully integrated biotech is a leader in biopharma R&D, manufacture and marketing in the world’s fastest growing pharmaceutical market.

“We see its stock trading at $1 or better by December… with a clear shot at $3 by mid-2010!”

Well, based on just the price and the terminology they use to describe the company (which reflects the claims that the company itself makes), I’d guess that this is probably Sinobiopharma (SNBP, trades over the counter). They do business in China as Dong Ying Pharmaceutical, and they seem to be working mostly on lower-cost formulations of biotech drugs, including a version of a GSK drug that goes off patent next year.

So that’s the best I can do at identifying these teaser stocks — and in some cases, as I noted, these are really guesses. I’m pretty sure about the first one, but they go downhill from there in terms of my certainty level.

And while many of these stocks look inexpensive, there are any number of Chinese pharmaceutical manufacturers and related firms that trade dirt cheap, so if you believe the general theme of this ad there are a lot of places you could look. I don’t know any of these companies well, but some of the inexpensive-looking ones are Jiangbo Pharmaceuticals (JGBO, over the counter), Skystar Bio-Pharmaceutical (SKBI, over the counter) and, one of the big daddies of them all, American Oriental Bioengineering (AOB)[9]. There are also quite a bit more that trade at somewhat loftier valuations, including Tongjitang (TCM) and Simcere (SCR).

And if you want to play the outsourcing theme more directly, probably the main publicly-traded Chinese company that does contract research for big pharma (as opposed to just manufacturing) in China is WuXi PharmaTech (WX) — there are hundreds of companies in the business, to be sure, and the big Western companies are trying to get a foothold in China as well, but many of the Chinese contract research companies are quite small and still private.

So what do you think? There have to be a few Gumshoe readers out there with more expertise than I in pharmaceutical outsourcing and Chinese drug companies — to be honest, it’s touch and go as to whether my dogs have more insight into this business than I do right now, but of those listed above I do get the fuzziest feelings about WuXi and Tianyin, though they also may have less “home run” potential than the more obscure companies. If you’ve got an opinion to share, please do so with a comment below.

Full disclosure: I have a small call option position in AOB — it’s well under water[10] and has been in my portfolio for a long time … I don’t expect it to be worth anything in the future, but you never know. I don’t own any other stock mentioned and won’t trade in any of them for at least three days.

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