Why We're Buying China Yida

This article is part of our Rising Star Portfolios series.

One of the nice things about living in Washington, D.C., is that there are plenty of historical and cultural sites to visit (if that's your thing). A few months ago, I went down to Charlottesville to visit Monticello, Thomas Jefferson's old digs. Tickets cost $22 per person, and we were happily asked to pay for overpriced drinks and ice cream while we waited for our tour to start.

Frankly, I don't remember much about Monticello the house or the grounds, but I do remember some back-of-the-envelope calculations I was making in my head as we saw group after group be led from one high-margin exhibit to another, through one high-margin gift shop to many, many more. When I got home, I immediately checked to see if Monticello was a publicly traded company -- alas, it is not. But why would an investor be so interested in the first place?

Monticello is like an amusement park or a movie theater, except you don't have to build it. People visit your site and accept absurdly high prices for things that would otherwise be free ($5 bottled water, for instance). At the same time, your costs are tremendously low because you have basically no capital expenditures whatsoever: You pay your tour guides, you pay your groundspeople, and you pay your cashiers. That's pretty much it. And oh, did I mention that you can charge basically whatever you want as an entrance fee?

I think I just did
But the trouble is finding a publicly traded company that exhibits these almost dream-world economics. Monticello, like most other attractive sites in the United States, is maintained by a private, nonprofit organization: the Thomas Jefferson Foundation. And in some intangible albeit very real way, this makes sense because it just feels ethically wrong to try to profit from our third president's personal heritage; it just felt un-American.

Thus it came as no surprise to me whatsoever that a company like China Yida (Nasdaq: CNYD  ) existed. Oh, happy day! Like the Thomas Jefferson Foundation, Yida also manages, maintains, and generates revenue from operating tourist attractions. Unlike the Thomas Jefferson Foundation, however, Yida is neither private or nonprofit. In fact, it is very, very, very profitable. The company reported a 50% net profit margin in 2009, and if it were to stop spending any money on expanding and developing new sites, would probably return 45 cents of free cash for every dollar of revenue it brought in.

How is that even possible? Shouldn't the eternal laws of the market dictate that those margins be eroded away by price competition?

Not if you have a monopoly, it doesn't! Yida has exclusive management rights to the Great Golden Lake, the Hua'an Earth Buildings, and four other properties currently in development. Those names mean just as much to me as they probably mean to you (blergh?). Grand Canyon and Niagara Falls these are not, but the Hua'an Earth Buildings are in fact designated as a World Heritage Site by no less an authority than the United Nations Educational, Scientific and Cultural Organization (UNESCO). Getting that label is like winning the Nobel Prize of tourist attractions, escalating it into the same category as the Great Wall, the Statue of Liberty, and, even, the aforementioned Grand Canyon.

Yida's Great Golden Lake is a "global geopark" -- a designation it shares with other geological sites like China's Huangshan mountain range, which is also a UNESCO World Heritage site -- and ranked as one of China's Top 10 Most Appealing Destinations.

China Yida's Great Golden Lake – don't you want to go there?


Source: Company presentation.

How Yida came to possess such valuable resources should probably be a tale of intrigue and corporate espionage. The reality is much less exciting. In acquiring exclusive rights to the Great Golden Lake, Yida essentially said, "Hey, I see you've got this beautiful lake and mountain complex that you've completely ignored. Why don't you let us help you monetize this otherwise worthless resource?" And the Taining county government said, "Give us a 20% cut on entrance tickets and we have a deal!" Yida then spent $30 million on developing the site to take it from 22,000 visitors in 2006 to 637,000 by 2009. Like many other small businesses, the company spent seven years working on a single project, the Great Golden Lake site, but once it had proven its worth, it landed the Hua'an Earth Buildings contract in 2008 and three other contracts in the past two years; when it rains it pours.

About that rainmaking
One might still say it's crazy that they're able to operate at a 50% net margin -- don't they get squeezed when they try to advertise and their television-time suppliers see that outrageous profitability? (Would I have planted that question if I didn't have a good rebuttal?) The answer to both these questions is no. No to the latter because it was rhetorical, and no to the former because Yida also manages the Fujian Education Television channel, which is ranked No. 4 in ratings in the entire province. It's very convenient considering that (a) both the Great Golden Lakes and the Hua'an Earth Buildings are in Fujian province, (b) the management contract consists of a flat $1.5 million annual fee (while Yida pulls in $20 million in revenue each year by reselling advertising airtime on the network), and (c) Yida can thus advertise its tourist attractions for basically zero cost.

So this company is essentially a super high-margin monopoly -- how could anything possibly go wrong? Well, it's a Chinese small-cap that came public via reverse merger, for one. A rhetorical question to shed some context on that fact: Why would anyone ever enter a building through a back door if the front door is bigger, more convenient, and people throw money at you to do it? Suffice it to say that corporate governance may not be strong with this one.

Taking a closer look, we note that as recent as May of this year, China Yida's auditor was Kabani & Co. Not to hate, but Kabani's client list isn't exactly the most stellar, with China Green Agriculture (NYSE: CGA  ) accused of accounting fraud just a few months ago. Since May, Yida has actually switched auditors not once but twice, finally settling on Friedman LLP. Now, there are plenty of legitimate reasons for why Yida is playing musical chairs with its auditors and why none of the invited houseguests are Big Four names; but whatever the case may be, Caeser's wife Yida probably is not.

The founder/CEO/Chairman is a man named Minhua Chen. Obviously a very capable man, Mr. Chen is the vice president of the Fujian Provincial Tourism Institute (explains a lot about how he got these projects -- he is his own "government connection") and a part-time professor at the Tourism College of Fujian University. Prior to this, he was a journalist and editor-in-chief of various local and regional magazines. This is all fine and good.

Where it becomes interesting is where we find his wife, Yanling Fan, also listed as a director of China Yida. Each owns 27.5% of the company. Granted, by Western standards this isn't a great situation, but it isn't uncommon in Chinese companies. What really perplexes even me, though, is that neither of them has taken any salary or other financial compensation from Yida in the past two years (at least). You would think that's a good thing, and maybe it is, but having seen capitalist enterprise in China, I personally think it's worth raising an eyebrow for.

Still, the biggest worry (besides the possibility that this is somehow a fraud, which should not be an unrecognized risk), is that they're simply growing too fast. Mr. Chen does not have a significant business background or track record of rapidly expanding an operation as it seems Yida is planning to do. In its press releases, the company has done a good job of being transparent and predicting approximately how much capital expenditure it will be spending on its future projects. If nothing else, I expect those to be vastly wrong. That's not a terrible thing -- I don't expect anybody to predict the future with great accuracy -- but I guess I'm just wondering, "Will everything really go as planned?"

We're buying
On the whole, I'm very, very impressed with the business model and the past operational history of this company. There's still a lot we don't know about this company, and as always, even more that we don't know we don't know, but I think it's worth keeping an eye on, so we at the Dada Portfolio plan on taking a $500 nibble.

Make no mistake; this will most likely be a very, very risky and volatile position. From top to bottom, China Green Agriculture's fraud accusations have shaved 40% off its market value -- and they haven't even been proven yet! I can't guarantee that Yida doesn't have even worse in store. But I am comfortable with that risk if it is position-sized accordingly. Moreover, on the flip side, we also truly believe this company could have most of their new projects fail and still be at least 50% undervalued. If the company sees even just one or two of the parks in their pipeline "hit," this could be a 3- or 4-bagger, easy -- and if Mr. Market is going to let me wager a quarter with a good chance to earn back a buck, I'll take that bet any day.

The Dada Portfolio is a part of the Rising Star series of real money portfolios. It is co-managed by Sean Sun and Ilan Moscovitz. If you're interested in learning more about China Yida or the portfolio, click here to join us on our discussion board.

This article is part of our Rising Star Portfolios series, where we give some of our most promising stock analysts cold, hard cash to manage on the Fool's behalf. We'd like you to track our performance and benefit from these real-money, real-time free stock picks. Click here to see all of our Rising Star analysts (and their portfolios). 

Sean Sun doesn’t own shares of any company mentioned. China Green Agriculture is a Motley Fool Global Gains pick. The Fool owns shares of China Green Agriculture. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (13) | Recommend This Article (40)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 01, 2010, at 1:25 PM, Gonzhouse wrote:

    Naked shorting sounds less risky.

  • Report this Comment On November 01, 2010, at 1:47 PM, TMFSun wrote:

    Risk is how much you stand to lose if you're wrong. The probability of capital loss here may be high, but the amount of capital lost would be acceptable. On the flip side, because we're going long, our upside isn't capped and if one believes (as we do) that the potential capital gain on this stock is as high as 3-4x, then it's a worthwhile bet.

    Thanks for commenting!

    P.S. I realize you were just trying to be hyperbolic ;)

  • Report this Comment On November 01, 2010, at 3:40 PM, TMFVermont wrote:

    Sean, any guesses on why they have not paid themselves a salary for 2 years?

  • Report this Comment On November 01, 2010, at 8:18 PM, TMFSun wrote:

    Without potentially defaming anybody? No -- no legitimate guesses :P

    To be perfectly honest, I tend to be cynical about these sorts of things. With their backgrounds, I wouldn't expect either of them to be extremely wealthy from previous jobs, so it does seem a bit strange to me that at their age they'd want to work on a fairly risky endeavor with no compensation whatsoever -- especially in China which is becoming (and has been for a while really) a more and more materialistic society.

    That said, do I bar the possibility that they're just good people who do this as a demonstration of good will to their overseas investors? No. But I do believe that at the end of the day, my obligation is to protect myself (and my readers), so it doesn't hurt to be a bit skeptical. That way I can be prepared for the worst-case scenario and be happily surprised if I'm wrong :)

    Thanks for asking!

    -Sean

  • Report this Comment On November 02, 2010, at 11:48 AM, TMFVermont wrote:

    thanks Sean. btw..i totally want to go to the Great Golden Lake after seeing those fotos!

  • Report this Comment On November 03, 2010, at 12:31 PM, dargus wrote:

    Is this article properly disclosed? Has the Fool sold their shares of CGA since October 29th?

  • Report this Comment On November 04, 2010, at 2:30 PM, throwerw wrote:

    Chinese companies normally have very high insider ownership, and thus the CEOs give themselves very low salaries. They would rather keep the wealth in the company, as the impact on the bottom line is multiplied by whatever PE the stock is trading at and has a greater effect on the CEO's net worth.

    This is very similar to how Buffett has conducted business throughout his lifetime.

  • Report this Comment On November 04, 2010, at 3:55 PM, TMFSun wrote:

    throwerw: I've seen low salaries (by Western standards--which typically equates to pretty cushy salaries by Chinese standards), but I've never seen no salary.

    Keep in mind, Buffett made his money running his partnership and taking 25% of profits from his limited partners. He was a millionaire many times over by the time he started taking his nominal $100,000 salary at Berkshire.

    And I think it should be noted that the difference between $0 and $100,000 or even $50,000 is enormous. Taking in $0 income (nothing from performance incentives/bonuses either) means that you are living entirely off savings. Every hamburger you buy or gallon of gas is coming completely out of your bank account with no revenue to offset it. So either these guys had their Buffett Partnership somewhere else or something else is going on. That's where my curiosity lay.

    -Sean

  • Report this Comment On November 25, 2010, at 10:37 AM, thunderballfists wrote:

    Could be that as VP of of the Fujian Provincial Tourism Institute he gets enough to live on? It is a bit strange.

  • Report this Comment On December 22, 2010, at 10:40 PM, summitclark wrote:

    Was this a reverse merger? Who is there accounting and auditing firm?

    Chinese small caps scare me.

    -andrew

  • Report this Comment On July 18, 2011, at 9:48 PM, jasonmadruga84 wrote:

    I got this at $3.04~$3.05 and it's at about $4.05.

    I'm up about 45% now...

    Thanks!

  • Report this Comment On July 18, 2011, at 10:02 PM, soycapital wrote:

    Hope you have more fun than I did on these Chinese small caps. I'll never buy another for sure!

  • Report this Comment On February 21, 2012, at 10:26 AM, OzyKingofKings wrote:

    Never dealing with the Chinese again. It would have helped if there was anything more about this company on the internet at the time it was written. Literally anything. But somehow CNYD managed to avoid getting targeted with any allegations of fraud directly, at least through English-speaking media.

    I had been holding my position for several months hoping it was just a victim of the stigma against other fraudulent Chinese small-caps but this post

    http://messages.finance.yahoo.com/Stocks_%28A_to_Z%29/Stocks...

    on the Yahoo board pushed me over the edge. I'm closing this position at a near 80% loss. FML

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