Thu Oct 16 2014
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Forget Alibaba; This Under $6 Company Could Soar 50%


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Now that the dust has settled on the widely heralded IPO for Alibaba (NYSE: BABA), investors have a clear sense of the company’s powerful market presence. Its $ 200 billion market value makes it the world’s fifth largest TMT (technology, media and telecom) company after Apple (NASDAQ: AAPL), Google (NASDAQ: GOOGL), Microsoft (NASDAQ: MSFT) and China Mobile (NYSE: CHL).

Part of Alibaba’s appeal is its presence in the world’s fastest-growing entertainment market — China.

While Alibaba has been attracting all the attention, there’s another little-known Chinese company that is capitalizing on the increase in the country’s entertainment spending. With a market cap around $ 350 million, Bona Film Group (NASDAQ: BONA) has become the value-oriented opportunity for the Chinese entertainment sector, namely its fledgling movie industry.

Chinese Film Market Large and Growing

China is the second largest film market in the world, behind North America. Box office revenue grew 27% in 2013 to around $ 3.6 billion, but that is still roughly one-third of the U.S. take. On any given day, more than a dozen new screens are added around the country, which has pushed the total number past 20,000.

The Chinese government keeps a close regulatory hand on this industry, controlling distribution while ensuring that the content is suitable for government censors. The government is also providing ample incentives to boost domestically produced movies, which should aid the growth of Bona Film.

Bona has built a synergistic business model that leverages several of its segments. The company finances movie production, arranges distribution through other companies’ theater chains and also shows movies at its own network of roughly two dozen cinemas that collectively house around 200 screens. Management said it plans to open six to eight new theaters each year. And CEO Yu Dong walked through an extensive pipeline of upcoming film releases on the most recent quarterly conference call with analysts.

In some respects, the Chinese film industry is just getting going, as domestically produced fare starts to supplant the traditional base of Hollywood films. Merrill Lynch’s Mandy Chan notes that as China adds more movie screens, film producers such as Bona stand to benefit. “In the longer term, distribution channels across China are set to expand, which we believe will increase the value of content produced.”

Of course, Bona lacks the massive development budgets typically seen at Hollywood studios. To address that concern, Bona jointly develops films with other studios through its 30% stake in Wuhu Bona Film Investment Management. That approach allows it to produce and distribute more films than it could otherwise do with its current resources.

The company appears to be hitting its stride in terms of film releases. “In our view, 2014’s pipeline is a strong one — with productions from established producers and creative teams featuring Greater China’s biggest movie stars,” notes Chan, who sees shares rising nearly 60% to her $ 9.10 price target.

The rapid cinema industry growth is showing up on the company’s income statement. Revenue has grown from around $ 50 million in 2010 to around $ 150 million last year, and Merrill’s analysts see that figure rising to $ 250 million by 2016.

Equally important, Bona’s careful attention to costs should generate earnings leverage. Chan sees operating profits rising from around $ 15 million this year to nearly $ 30 million by 2016.

A Key Endorsement

To be sure, Bona Film toils in the shadow of state-owned China Film Group. Yet the company got a major boost in July when Fosun International, a deep-pocketed Chinese conglomerate, took a stake in Bona.

Fosun and Bona’s Yu now control half of Bona’s stock, and the two companies aim to leverage their respective industry ties. “Fosun has a lot of resources in real estate, in many industries, including the culture sector like entertainment,” said Yu on the recent quarterly conference call, adding, “our strategy globally and also in China are aligned.”

Chinese stocks have been under pressure for much of 2014 on fears of a slowdown in exports. Yet the Chinese government is trying to offset that headwind with policies that spur domestic spending. Nurturing the country’s entertainment industry is one way to get consumers to open their wallets.

I think BONA could rise from a recent price below $ 6 into the teens over the next year or two. In the near term, a rally to the $ 8 to $ 9 area looks likely as the company appears set to deliver solid Q3 and Q4 results.

Recommended Trade Setup:

— Buy BONA at the market price
— Set stop-loss at $ 5
— Set initial price target at $ 8.50 for a potential 49% gain in four months


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