China Green May Have a Problem

This Chinese play has rocked the Street with some solid numbers. China Green Agriculture's (NYS: CGA) fourth-quarter bottom line has surged 57.4%, driven by higher sales.

But sadly, all might not be well at China Green.

The numbers
China Green's revenues have been shooting through the roof. Buoyed by a significant contribution from Gufeng, which China Green acquired last year, its revenues surged more than three times to $60.3 million from $16.2 million a year ago. Gufeng contributed a huge 67% to the total sales. China Green's other subsidiaries also reported higher sales.

However, what's worth noting here is that on one hand, Gufeng contributed to top line, but on the other it also resulted in astonishingly high costs. China Green's cost of sales went up by a whopping 452.6% (yes, that is the correct figure) to $39.2 million, 80% of which was related to Gufeng.

What's concerning is that this surge in cost of sales is way above the 272% rise in revenues, which isn't good news for any company. Obviously, China Green's gross profit margin has slipped drastically, from 56.3% to 35% year over year.

However, in spite of such unbelievably high costs, strong top-line growth helped China Green's bottom line jump 57.4% to $9.4 million.

The Gufeng growth
The acquisition of Beijing-based chemical company Gufeng is adding to the production capacity as well as helping China Green expand operations. For instance, in the last quarter, Gufeng started delivering compound fertilizers to the emerging market of India. Earlier this year, Gufeng also signed its largest export contract with a China-based company. Looks like the Gufeng buy was a good one.

China Green has also been spending on new products, introducing nine new ones in its last quarter. Moreover, it has plans to develop more humic acid-based fertilizer products. This will definitely add value to the company's business and, more important, place it in a better position to take on major competitor Yongye International (NAS: YONG) , which sells similar products.

On a high
The chemicals and fertilizer industry has been on a high, with things going just too well for it. Most of the players have reported hot numbers driven by the agriculture boom. PotashCorp (NYS: POT) , for instance, reported a staggering 75% surge in its second-quarter bottom line, driven by higher sales and prices. Similarly, higher sales also drove up Mosaic's fourth-quarter bottom line by 64%.

And the agricultural sector is not showing any signs of slowing down. China Green also stands to gain from it all. But let's not forget that it will also mean intensifying competition, as some U.S. chemical players have been eyeing markets such as China more keenly now.

Monsanto (NYS: MON) , for instance, is in talks with China-based Sinochem for strengthening ties, eyeing a deeper penetration in China. Diversified chemical player Dow Chemical (NYS: DOW) is also focusing on expanding sales networks in China. A KPMG report also states the company's intention of building a large manufacturing site in China. These indicate that steeper competition may be on its way in the Chinese chemical market.

The Foolish bottom line
The recent numbers might be exciting, but cost efficiencies remain a major concern for China Green. How long can a company truly benefit from rising sales if its costs rise by a much higher percentage at the same time? And the main cause of concern here is that these higher costs are associated with the production and selling of Gufeng's products. Clearly, the company has to control costs first if it wants to fully capitalize on Gufeng.

China Green may be a Motley Fool Global Gains recommendation, but I'm personally going to wait for better cost-control measures before getting too bullish about the company. And once they are in place, given the good performance, strong growth plans, and optimistic industry outlook, I might well have a better view of the stock.

In the meanwhile, stay up to speed on the top news and analysis on China Green, or any other stock, by clicking here to add it to your stock Watchlist.

At the time thisarticle was published Neha Chamaria does not own shares of any of the companies mentioned in this article. The Motley Fool owns shares of China Green Agriculture and Yongye International.Motley Fool newsletter serviceshave recommended buying shares of Yongye International and China Green Agriculture.Motley Fool newsletter serviceshave recommended creating a synthetic long position in Monsanto. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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