RINO Exposes China's Risk

There is no denying the unbelievable growth story that China has yet to tell in the upcoming years and decades. Despite the state run form of capitalism used to run the country, it's about numbers. And certain numbers don't lie. The most significant of which is that 1.3 billion people are starting to wake up and want the lifestyle and comfort of many in the western world. That alone will create tremendous growth opportunities in areas such as infrastructure, agriculture and consumer goods.

IN PICTURES: 10 Reasons To Add ETFs To Your Portfolio

Buyer Beware
But the long term growth of China should not be mistaken for as an easy road to investment success. Despite the "Chinese miracle", you are still investing in nation that is state controlled. While that certainly should not preclude any investment in the region, it demands an extra appreciation for risk. Caution was illustrated this week with the 20% plunge in shares of RINO International (Nasdaq:RINO), a Chinese environmental company that serves the industrial market. In fact, shares in RINO are down over 50% in the past two weeks.

This share price plunge was a painful wake up call for those who found the stock at $12 trading for under 6 times earnings. Today, shares fetch $6 and trade for just over 2 times earnings. As a contrarian value investor, I plan on digging a little deeper here, but on the surface, I'm inclined to leave this one alone. Management has been quiet, but what fueled the most recent downfall was a delay in the company's conference call as a result of a meeting with its audit committee. Earlier this week, the company announced disappointing earnings figures sending shares down 25%.

Quality First
RINO is not the only Chinese company that met investors with great fanfare only to have disappointed them later. Indeed if you were fortunate to have sold out of RINO near its highs of $35, you are one of the lucky ones. But investors who held on did so because of "quality" numbers that seemed to be coming of the company each quarter. RINO is not alone. Other names include Chinese feed and pork company AgFeed Industries (Nasdaq:FEED), China Green Agriculture (NYSE:CGA) and Orient Paper (NYSE:ONP).

These companies all offer exposure to basic industries that should grow significantly in China. But what may occur at the national level may not reflect as positively at the corporate level. All the above names and plenty more Chinese firms look incredibly cheap based on a earnings basis. And in the end, some of them may reward patience. But when the quality of earnings becomes an issue, a P/E ratio - no matter how attractive - is worthless.

Fool Me Once...
Over the long-term, China will likely reward many patient investors. But investors should clearly be aware of the additional country risks of investing abroad. (To learn more, see The Top 6 Factors That Drive Investment In China.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!