The parent company of Sino-Forest is listed in Toronto although all the company’s assets, 230,000 hectares of forest plantations, are in southern China. That has prompted Allen Chan, the company’s colourful CEO to announce plans to spin off the plantation assets for a Hong Kong listing, which could raise between $70-100 million dollars. However, there are no comparable companies listed in Hong Kong, meaning the company’s valuation will require plenty of investor education, says Chan.
Even international comparisons will be difficult because while Southeast Asia has plenty of timber companies, there are not any that deal with the management of plantations. Most companies in the regions carry out their logging activity in government reservations, which involve cutting down ‘natural’ forests.
One banker formerly working for in ING Baring private equity agrees the sector is full of surprises.
“We invested RMB 126 million ( in a company called Everbright Timber in 1996. It turned out to be a flop though, because of all the ultra cheap, smuggled timber coming from Malaysia, Burma, Indonesia and Cambodia,” he comments.
Chan counters that the scale of the smuggling is not that great.
The company originally listed in Canada in the mid-1990s when China fever was at its height, making any China-related stock attractive. That quickly changed after the Asian Financial Crisis in 1998 and the company’s share price duly went south.
But Chan feels that investment is swinging towards China again, and perhaps surprisingly to some, gives the example of the way the mainland government handled the SARS outbreak as evidence the country is has made great progress in response to international investors.
He also points out that technical reasons prompt the change means that Asian emerging market funds find it difficult to invest in a Canada-listed company, while Canadian investors tend to be ignorant.
With the holding company, of which he is one of the founders, keen to retain maximum control, Chan reckons the shares sold will be close the limit imposed the Hong Kong stock exchange main boars, around 25-30%.
In Toronto, the company has traded at very low price to earnings multiples. After 1998, the P/E ratio fell to less than three, and now trades around six. The stock price is around C$2.90 after dropping to around C$0.80 in 2002.
The average IPO in Hong Kong is around 6-9x, although it’s not clear what index sector Sino Forest would be classified under.
He says that looking at the company’s discounted cash flow is more appropriate than looking at the company’s earnings and making a judgement based on the price/earnings figure.
“Ours is a very cyclical business. We harvest every five years and reinvest then harvest again five years later. That means we foresee our earnings growing strongly in the future,” he says.
Chan believes focusing on the cash flow could result in the company’s p/e ratio rising for the IPO, in line with the IPO average band.
The Toronto-listed entity has never paid a dividend. Chan says he is contemplating a dividend pay out policy for the Hong Kong unit, but has not yet come to any conclusion.
“If we pay out a dividend in Hong Kong, we would have to pay one in Canada. After all, they have been waiting for ten years!” he says.
The IPO would play an important role in providing the cash for the company to fund more tree growth, since he believes the area will continue to grow strongly. However, Chan says the company doesn’t buy the land. It uses the land for its plantations and pays a rent in kind of 30% of the trees to the owner.
“The Pearl River delta is a good place for us to become one of the leading suppliers. It has good logistics and infrastructure, and many companies are moving there,” he comments.
The company’s net income was $2.7 million in the first quarter of this year, compared to $2.6 million in the same period last year.
Debt levels are ‘safe’, he says, but he’s not especially interested in raising more debt, despite historically low interest rates. Raising the company’s profile in the Pearl River delta region is the main object.
The company has had loans in the past, mainly from European development banks impressed by its foray into environmentally logging. Earlier this year, it also put out a convertible bond of $14 million in a private placement to Taiwanese and Japanese investors.
It was the positive response from the mainly Asian investors which encouraged Chan to plan a Hong Kong IPO.
Timber is a huge growth industry in China, now the second-largest importer of logs in the world, second to the United States. But China banned logging domestically in 1998 after illegal deforestation caused terrible floods. In addition, certain trading nations like Indonesia have also slammed on the brakes on illegal exports of timber.
That means China is casting around for alternatives, and plantations are one of them. They are more environmentally friendly than natural forests since the latter’s ecosystem can be damaged by even moderate felling.
