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Hitek Global Revises Terms For U.S. IPO

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Quick Take

Hitek Global (HKIT) has filed to raise up to $9 million in a U.S. IPO, according to an amended registration statement.

The company provides businesses with general IT services as well as tax tracking devices.

HKIT is now showing topline revenue contraction but management is asking IPO investors to pay the same high valuation for the stock at IPO from its previous filing, so I’ll pass on this IPO.

Company & Technology

Xiamen, China-based Hitek Global was founded in 1996 to provide SMEs in China with devices and services for VAT collection, processing and reporting as well as outsourced IT support and maintenance solutions. The company intends to expand to other provinces in the country.

Management is headed by CEO and Director Xiaoyang Huang, who has been with the firm since its inception.

In 2018, the company began the development of an online tax service center which would allow SMEs to process VAT data from their computer anytime and anywhere.

According to data from the Xiamen Bureau of Statistics, there are currently around 245,500 ACTCS users in Xiamen, 63,700 of which are Hitek’s customers.

Hitek also markets various hardware such as monitors, internet servers, cameras, laptops, printers, and other associated accessories.

The firm has developed Communication Interface System software, a universal embedded interface system intended for use in the petrochemical and coal industries for the collection of industrial, electricity, facility pressure and temperature statistics, and its conversion to a readable format for analytical purposes.

Customer Acquisition

The company has undergone a transition from offline to online customer acquisition. In 2018 it launched a ‘WeChat Cloud Service Management System’ that has boosted its customer base and enabled the firm ‘to integrate data received from different subsystems and platforms, increasing our productivity and market competitiveness.’

Hitek also sells hardware products to large businesses that it markets to through it Huasheng business unit. The unit works through relationships with manufacturers ‘so that Huasheng can offer competitively priced hardware.’

Sales and marketing expenses as a percentage of revenue has risen sharply as revenues have decreased, per the table below:

Selling Expenses

Expenses vs. Revenue

Period

Percentage

Six Mos. Ended June 30, 2019

5.70%

2018

0.03%

2017

0.47%

Sources: Company registration statement, IPO Edge

Market & Competition

The company sells VAT calculating devices to SMEs in Xiamen with plans to expand nationwide while seeking to enter the IT market in other regions in China.

According to a 2015 market research report by Technavio, the Chinese IT market is projected to grow at a CAGR of 12% between 2014 and 2019.

The main factor driving market growth is the growing government support for IT solutions.

Major competitors that provide IT services in China include:

Source: Sentieo

Financial Performance

HKIT’s recent financial results can be summarized as follows:

Below is a summary of major metrics from the firm’s reported results:

Total Revenue

Period

Total Revenue

% Variance vs. Prior

Six Mos. Ended June 30, 2019

$ 2,958,603

-14.6%

2018

$ 6,915,778

0.4%

2017

$ 6,887,375

Gross Profit (Loss)

Period

Gross Profit (Loss)

% Variance vs. Prior

Six Mos. Ended June 30, 2019

$ 1,714,831

-17.0%

2018

$ 3,876,372

5.3%

2017

$ 3,679,821

Gross Margin

Period

Gross Margin

Six Mos. Ended June 30, 2019

58.0%

2018

56.1%

2017

53.4%

EBITDA

Period

EBITDA

Six Mos. Ended June 30, 2019

$ 1,020,087

2018

$ (107,737)

2017

$ 2,633,847

Cash Flow From Operations

Period

Cash Flow From Operations

Six Mos. Ended June 30, 2019

$ 45,444

2018

$ 321,379

2017

$ 179,934

IPO Details

HKIT intends to sell 1.8 million shares of ordinary shares at a price of $5.00 per share for gross proceeds of $9.0 million, not including the sale of customary underwriter options.

Assuming a successful IPO at the midpoint of the proposed price range, the company’s enterprise value at IPO would approximate $63.2 million.

Excluding effects of underwriter options and private placement shares or restricted stock, if any, the float to outstanding shares ratio will be approximately 14.08%.

Per the firm’s most recent regulatory filing, it plans to use the net proceeds as follows:

Management’s presentation of the company roadshow isn’t available.

The listed underwriters of the IPO are Newbridge Securities and WestPark Capital.

Commentary

I previously wrote about Hitek and described it as a ‘tiny IT services firm with operations primarily within a single city in China.’

The market for general IT services in China is large and growing, so the opportunity is large.

The company previously filed for an IPO in mid-2018 and again in mid-2019, so we have another six months of financial results for the first half of 2019 now.

The firm’s financials show a significant drop in topline and gross profit results but management is asking investors to pay the same higher multiple for the stock at IPO than as previously filed in 2018.

Considering that topline revenue has contracted, this is an excessive ask by management.

On the legal side, like many Chinese firms seeking to tap U.S. markets, the firm operates within a VIE structure or Variable Interest Entity.U.S. investors would only have an interest in an offshore firm with contractual rights to the firm’s operational results but would not own the underlying assets.

This is a legal gray area that brings the risk of management changing the terms of the contractual agreement or the Chinese government altering the legality of such arrangements. Prospective investors in the IPO would need to factor in this important structural uncertainty.

My previous opinion was to AVOID the IPO; given the firm’s worsening financial results while retaining its previous proposed IPO valuation, I’ll be watching this IPO from the sidelines.

Expected IPO Pricing Date: To be announced.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Ipo Search Results