Is This Stock a Buy?

If you follow growth stocks, small-cap stocks, China stocks, or some combination of the three (small-cap China growth, anyone?), chances are you noticed earlier this month that VisionChina Media (Nasdaq: VISN  ) closed down almost 50% -- and it's dropped further from there.

When a stock drops that much, it gets my attention. That's because dumpster-diving can be a very profitable activity. Consider that while Ford (NYSE: F  ) , Advanced Micro Devices (NYSE: AMD  ) , and Mercadolibre (Nasdaq: MELI  ) all dropped more than 50% in 2008, they more than tripled in 2009.

It is not, however, a sure thing. Citigroup (NYSE: C  ) , General Electric (NYSE: GE  ) , and Valero (NYSE: VLO  ) were down big in 2008 and went right on dropping in 2009.

So what's the outlook for VisionChina Media? And is it a buy?

Meet our contestant
VisionChina's business, in which it distributes television content and advertising to buses and subways in China, was appealing to investors for a number of reasons.

First, it was fast-growing. Sales were up more than 250% in 2008 and more than 70% through the first half of 2009. Second, it was capital light, with operating expenditures checking in at less than 20% of sales in 2008. Third, it had a strong balance sheet with more than $100 million in net cash. Finally, it was wildly profitable, with better than 60% gross and 40% operating margins in 2008.

All of this propelled the stock up to more than $20 per share. Then, however, the advertising market in China began to weaken and Vision's results began to suffer. The stock was trading for less than $10 at the beginning of this month and closed yesterday at less than $5.

What happened
As advertising rates drop in China, Vision's sales are slowing and profit margins are narrowing. In fact, sales were up just 3% in the fourth quarter and the company's gross margin dropped to 45%.

This problem was compounded by the company's decision to purchase DMG Media, the operator of digital mobile TVs in the Shanghai subway system, for $160 million in cash and stock. That move dramatically increased the company's fixed costs and weakened its balance sheet at a time (the present) when it doesn't look prudent to have done either of those things.

All of this resulted in the company issuing first quarter 2010 guidance of "no less than $22 million" in sales, and analysts suggest that portends a significant net loss. Put it all together and VisionChina is no longer fast-growing, no longer has a strong balance sheet, and is no longer wildly profitable. So you can understand why the market has soured on the stock.

So is it a buy?
My problem with VisionChina's guidance is that by my estimate it implies a near 50% drop in the rate it charges advertisers. We all know advertising is a cyclical industry, but that's a pretty violent decline.

Further, it's unclear where the rate will settle out as the advertising environment rebounds in China. While the company's networks in Beijing and Shanghai are premium assets that should command premium prices, the company's network growth has largely been in tier 2 and smaller cities such as Harbin and Chengdu.

The fact is that consumers in these cities are not nearly as wealthy as those in tier 1 cities such as Beijing and Shanghai and therefore not as attractive to advertisers. As a result, they will drag on the company's average rate. Yet it's the magnitude of that drag that is so difficult to know, and any valuation of VisionChina will vary widely depending on our ad rate assumption.

If we believe in the Chinese consumer and that industry consolidation will lead to Chinese companies trying to build well-known nationwide brands in China, then we would forecast a brisk advertising recovery in all markets -- and should buy VisionChina stock at today's prices even if we have to ride out a rough first quarter.

If, however, we believe that it will take a much longer time to bridge the gap between China's rich and poor, then VisionChina's stock still doesn't quite look like a bargain.

There are no called strikes in investing
I'm holding off on VisionChina for now and continuing to gather information. My thesis is that the best performing part of China this year will be rural China, and that tier 2 and tier 3 cities will continue to struggle given all of their excess capacity in real estate. That would mean a rough ride for VisionChina, its ad rates, and its investors.

If, however, I got your attention with my rural China thesis, then I encourage you to check our Motley Fool Global Gains special report The China Rural Boom Basket: 5 Ways to Play the Fastest-Growing Niche in China. It's free to download from our website with a free, 30-day Global Gains guest membership. Just click here to get started.

Tim Hanson is co-advisor of Motley Fool Global Gains. He does not own shares of any company mentioned. Mercadolibre is a Motley Fool Rule Breakers recommendation. Ford Motor is a Stock Advisor pick. The Motley Fool often anthropomorphizes its disclosure policy, but that hurts its feelings.


Read/Post Comments (12) | Recommend This Article (118)

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 March 27, 2010, at 7:34 AM, micahingalls wrote:

    I have been an adherent to Motley Fool for some time, and have on the whole been very pleased with the wit and wisdom which can be found in these reports. One thing I have found a little troublesome seems to be a phenomenon of institutional memory lapse. MF is in general quick to post the record returns which have been realized by its various stock picks. Conversely, when companies which it has idenfitied as 'bright new future prospects' go south, MF seems to forget they endorsed them. VISN is a good example. Almost two years ago, under some convincing advice from MF I bought VISN. It is now down 78% from when I purchased it, with yet no sign of recovery (at a personal loss of several thousand dollars). New articles dealing with previous picks, it seems to me, would be enhanced by situating them within the context of MF's own history of advice on the particular stock. Even an occasional 'it seems we were wrong about this one' would be a bit of candor much appreciated.

  • Report this Comment On March 27, 2010, at 12:01 PM, woodytmc100 wrote:

    RE; artical dated March 26, 2010 Is This Stock A Buy?

    After reading a comment by micahingalis, I now understand why this was written. I agree it is a little late. The point I would make is that my time is very important to me and I would rather see articles written on stocks to watch or reccommend to buy now. However its also important to recommend a time to sell. Most of us know that we need to do our own research on reccomendations.

  • Report this Comment On March 27, 2010, at 1:54 PM, billgreen342 wrote:

    General Electric (NYSE: GE) is a good stock for 2010, have you bought it?

    http://top-penny-stocks.blogspot.com/2010/03/which-stocks-sh...

  • Report this Comment On March 27, 2010, at 7:18 PM, deeandjay100 wrote:

    Dawson (dwsn) had a nice run. took some profits, and am wondering what lays ahead for this company?

  • Report this Comment On March 30, 2010, at 10:16 AM, TMFMmbop wrote:

    @michingalls

    We have no previously endorsed VISN in any way at Global Gains. As for other analysts at the Fool, I don't know, but keep in mind we are a motley organization of different views and don't have an institutional party line on any stock.

    Tim Hanson

  • Report this Comment On April 02, 2010, at 11:59 AM, bossmanhoss wrote:

    I think this sounds like it's worth trying. I'll buy a 100 shares and if it goes up for three days straight buy another 100. See What happens.

  • Report this Comment On April 02, 2010, at 3:32 PM, olee100 wrote:

    RE: DWSN - don't - SLB does more, has better financials, and a world-wide market. And, yes, HAL is a good second choice.

  • Report this Comment On April 02, 2010, at 5:55 PM, TMFBreakerRob wrote:

    @michingalls

    Tim already answered your question, but let me answer it in a slightly different way to clarify a bit how the Fool works:

    * The Fool has a number of subscription based newsletters where recommendations to buy and sell are made. Frequently, the particular recommendations become public, but the reasons do not always come out and seldom is the information timely.

    * The Fool also pumps out a great number of articles every day. They are written by a....motley....assortment of individuals with their own opinions and own viewpoints. If you wanted to "bet" on anything, the safe bet is that these opinions do not reflect *any* Fool newsletter position.

    * The various Fool newsletters have independent viewpoints with different strategies. I've seen one newsletter recommend "buy" and another one "sell" in the same month, presumably driven by the strategies.

    All that being said, VISN may have appeared in an article, but it was not a Fool recommendation on any newsletter I'm aware of....and I read a *lot*. As with any investment, perform your own due diligence...and don't "assume" that a favorable opinion on a company is necessarily conclusive.

    Good luck in your investing!

    <By the way, everyone can take a free 30 day trial of the various newsletters....not a bad idea if you're thinking of committing money to something you believe is being discussed by the subscribers and newsletter advisors.>

    Rob

  • Report this Comment On April 02, 2010, at 9:11 PM, gccard wrote:

    Do you really believe in the accounting of these Chinese companies? Most of the numbers are cookied depending on what the management team want.

  • Report this Comment On April 02, 2010, at 9:14 PM, gccard wrote:

    I am originally from China and never invest in any Chniese stocks since I do not believe in their accounting and reports at all.

    What I heard is that there always three books in these companies, one for Chinese govenment, one for stock investors like you, and the third one for the management team!

  • Report this Comment On April 02, 2010, at 9:22 PM, jlclayton wrote:

    I bought GE at $7 a share and am very pleased with its performance. I am surprised that it is still being touted as an underperforming stock in articles. Ford has had a good run and those who took a chance and got in near the lows are very happy investors. But, in my opinion, Ford was much more of a risk at it's lows and GE was a very diversified company with greater potential for a solid comeback. So I'll take my 157% return from GE, ride out the downturns, and keep smiling.

  • Report this Comment On April 04, 2010, at 1:04 PM, jbird94558 wrote:

    I considered VISN when MF first discussed it over a year ago an fortunately elected not to purchase it.

    I did however, purchase another stock MF discussed, AAV, while it was still paying dividends.

    I still own the stock and it has done well, dispite its conversion from a fund.

    Does any of the MF still own or follow this stock, and have any opinions?

    JBIRD94558

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