Most people in the market had not noticed that IT Tech Packaging is distributing face masks in China. In my opinion, if face masks production and sales increase, the share price could increase. Notice that the company trades at only 0.5x sales, which seems undervalued as compared to peers. There are certain risks because this is a small company doing business in China. However, the upside in the stock price appears more significant than the downside.
Business
IT Tech Packaging, Inc. manufactures and distributes paper products in China. The company uses recycled paper to produce three types of paper products: offset printing paper, corrugating medium paper, and tissue paper products.
Source: Company’s Website
Source: Company’s Website
The company’s most exciting business model was announced in 2019 and 2020. According to a recent business communication, IT Tech Packaging is also a distributor and manufacturer of single-use face masks. In my opinion, if the company continues to produce and sell masks, sales could grow quite a bit in 2021. As a result, investors may see a significant increase in the company’s share price:
Launched in April, 2020, the single-use face mask production line produces 100,000 masks per day with an estimated gross margin of roughly 40%. Source: SA Press Release
On April 29, 2020, we launched a production line of non-medical single-use face masks, following the completion of raw materials preparation, trial run of the equipment and the sample products inspection. Revenue generated from selling face masks were $845,553 for the three and six months ended June 30, 2020. We sold 6.28 million pieces of face masks in the second quarter and the six months ended June 30, 2020. Source: Prospectus
IT Tech Packaging is interesting not only because it sells face masks. The company appears to be singing interesting business projects in growing markets. In 2020, IT Tech Packaging noted that it was looking to acquire a new business model to offer intelligent healthcare IT solutions. Even if the company did not close the transaction, it is clear that the management is trying to make the revenue line grow:
IT Tech Packaging, Inc. today announced that its operating entity in China, Hebei Baoding Dongfang Paper Milling Company Limited has entered into a letter of intent to acquire 60% equity interest in Baoding Huizhi Ruixing Information Technology Co., Ltd., a new high technology company with registered capital of RMB10 million focused on providing intelligent healthcare IT solutions to hospitals, medical institutions, government agencies, enterprises and public institutions in China.
Source: itpackaging
A Lot Of Property, Plant And Equipment
IT Tech Packaging reports a significant amount of property, plants and equipment. In September 2020, PP&E represented more than 73% of the total amount of assets. Cash in hand is not significant. However, the amount of liquidity increased by 41% in 2020. I believe that the company is accumulating cash because it has found new investment opportunities:
Source: Prospectus
I researched the company’s property, plant, and equipment. The company’s most valuable assets are machinery and equipment. Investors need to understand that the accounting valuation of the machinery may be below its true value. If the machinery is used to make masks, I believe that the real value is larger than that shown below:
Source: Prospectus
With an asset/liability ratio of more than 8x, IT Tech Packaging shows a solid balance sheet. However, investors need to understand that a liquidity risk may exist. IT Tech does not have a lot of current assets, and reports debt of more than $16 million along with short term debt of more than $9 million. In my view, the company needs equity financing to get engaged in negotiations with debt holders:
Source: Prospectus
Finally, notice that the company could use certain properties and equipment to negotiate with bankers. Perhaps, in 2021, IT Tech Packaging may use its extensive property and equipment to receive more debt financing:
Source: Prospectus
Sales Growth In 2020 May Be Lower Than 2021 Sales Growth
In the 9M ended September 30, 2020, the company reported growth sales of -19% as compared to that in the same period in 2019. In the three months ended September 30, 2020, sales growth was positive, but not very significant. I believe that sales growth in 2021 will most likely be higher than that in 2020. In my opinion, the sale of masks will help the company see sales growth. Notice that the company’s gross profit margin is not significant. In 2020, it was equal to 7%. However, if sales grow rapidly, investors will most likely push the share price up:
Source: Prospectus
In addition, investors need to know that in the 9M ended September 30, 2020, the cash flow from operations was equal to $2.3 million. In the same period in 2019, the company also reported positive CFO:
Source: Prospectus
The Use Of Proceeds
The company announced an offering of warrants for a total amount of $10 million. As a result, the share price declined because investors were afraid of stock dilution. I would like to remind market participants that IT Tech Packaging is producing masks. If the company uses the money and generates decent cash flow, the company’s valuation may increase in the near future:
Source: Prospectus
With that, I don’t really like that IT Tech Packaging has not clearly specified the use of proceeds. IT Tech Packaging is using the proceeds for general corporate purposes. I would have liked a lot reading that IT Tech Packaging will use the proceeds to manufacture the masks. The fact that the amount of money raised is close to the company’s short term debt is also not ideal:
Source: Prospectus
Valuation And Competitors
Some of the company’s competitors are Chenming Paper, Huatai, Nine Dragons, Sun Paper, and China Sunshine Paper Holdings. The competitors are large groups with more financial resources than IT Tech:
Source: Prospectus
Among the competitors, Nine Dragons trades in the United States, and has a total market capitalization of more than $8 billion. I believe that we can compare IT Tech Packaging and Nine Dragons. As shown in the image below, the company trades at 1.5x sales and 13x EBITDA:
Source: Ycharts
Taking into account the company’s results in the 9M ended September, 2020, IT Tech Packaging would be making close to $90 million in 2020. Given the company’s previous sales growth, I would say that 2021 forward sales of $90 million makes sense.
Source: Prospectus
If we assume a share count of 54 million shares at $0.8-$0.9, the company’s total market capitalization would be equal to $43-$48 million. It means that IT Tech Packaging trades at approximately 0.5x sales. Nine Dragons trades at 1.5x sales, so IT Tech appears to be quite undervalued as compared to this competitor. I would expect most investors to believe that 1x sales would be very appropriate for IT Tech. In this case scenario, the company would have a market capitalization of $90-$100 million, and a share price of more than $1.6. I believe that the company has significant upside potential in the share price.
Risks
Investors will be buying shares of IT Tech Packaging, which was incorporated in Nevada. IT Tech Packaging owns ownership of several subsidiaries, which own contractual agreements with the paper businesses. The government in China may stop payments to IT Tech Packaging. As a result, most investors would expect the company to see a decrease in its share price:
We are a holding company and currently conduct business through Dongfang Paper. As a result, we rely on payments from the consulting services agreement which forms a part of the contractual arrangements between Baoding Shengde and Dongfang Paper. Since Baoding Shengde is not a legal shareholder of Dongfang Paper under PRC statutes, the arrangement for Dongfang Paper to pay a substantial portion of its net income to Baoding Shengde may be challenged by the PRC government, which could prevent us from receiving required funds or making required payments to some of our service providers. Source: Prospectus
Source: Prospectus
Several shareholders of IT Tech Packaging own a significant amount of shares. The CEO also owns a large stake. Minority investors may suffer from conflict of interests arising from these equity ownerships. It is not ideal:
We operate most of our businesses through Dongfang Paper. Our Chairman, Chief Executive Officer and 18.80% shareholder, Zhenyong Liu, owns 93.39% of the equity interest in Dongfang Paper. Conflicts of interests between his duties to us and to Dongfang Paper may arise. Source: Prospectus
Investing in China can be very profitable. However, investors need to understand that there are certain risks. The directors of the company and the assets are not in the United States. Thus, it would be difficult for any judge in the United States to enforce actions against the company:
All of our directors and officers reside outside the United States. In addition, our operating company is located in the PRC and substantially all of our assets are located outside of the United States. It may therefore be difficult for investors in the United States to enforce their legal rights based on the civil liability provisions of the U.S. Federal securities laws against us in the courts of either the U.S. or the PRC and, even if civil judgments are obtained in U.S. courts, to enforce such judgments in PRC courts.
Source: Prospectus
Conclusion
With IT Tech Packaging distributing face masks, I would expect investors to get to know the company soon. In my opinion, if the production of masks increases, sales could grow up. I know that the company may not report sales of face marks once COVID-19 goes away. However, IT Tech Packaging appears to be looking for other business models. Besides, the company seems undervalued as compared to competitors.
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