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Sunbridge Group Ltd: Red hot bargain or investment trap?

Recently listed Sunbridge Group Ltd (ASX: SBB) has seen its shares fall by more than 50% from its IPO price, although shares spiked up more than 20% earlier this week.

Still, shares have sunk a long way below its IPO price of 20 cents, and are currently trading at 8.5 cents.

At that price, the company has a market cap of around $40 million, not far off its cash holding of $31 million, despite Sunbridge posting revenues of $37 million in just five months to end of May 2014. It’s also below the company’s last reported net assets of $43 million at the end of December 2013.

Factor in the retailer’s strong growth in revenues and net profit – putting the company on a trailing P/E ratio of 2.9x – and Sunbridge looks to be the bargain of the century.

That is, until you dig a little deeper. Sunbridge is involved in retailing mens clothing and accessories in China. Sunbridge owns a Hong Kong company, Mega Rich International Limited, which in turn owns 100% of two Chinese companies. Those two companies are involved in designing, procuring and then selling their product to 17 distributors, who then on-sell the product to more than 400 retail stores. Not exactly what you would call a clean structure.

The company also has 24 of its own retail stores, and plans to expand its own footprint – a sensible move – which cuts out the distributors and allows Sunbridge to retain control from design to selling the product to retail customers, increasing profit margins and lower costs.

The majority of the shares in Sunbridge are owned by the CEO (55%), with shares held in escrow for 24 months. But other larger shareholders who held 40% of the shares in the IPO (190 million shares) are selling out almost as soon as their 6-month escrow period ended at the end of May – hence the recent share price falls. Interestingly, many if not all of these shareholders appear to be shelf companies setup by Chinese citizens in a notorious tax haven, the British Virgin Islands.

According to the Guardian newspaper, “In China, it is said that you have not succeeded until you have your own subsidiary in the British Virgin Islands”.

There are several other red flags, including unusually large net profit margins and high returns on assets. So high in fact, that Sunbridge’s return on assets beats every stock on the ASX except for REA Group Limited (ASX: REA), Carsales.Com Ltd (ASX: CRZ), 3 fund managers – who have little in the way of assets anyway – and biotech stock Acrux Limited (ASX: ACR). Another concern for investors is a common practice in China – according to the company – of providing loan guarantees to unrelated companies. At the end of 2013, Sunbridge had $2.8 million of contingent liabilities, but where it will be in future is anybody’s guess. Those liabilities are not held on the balance sheet either.

Investors may also be concerned about the company’s plan to build an 8-storey head office, given it says it has just 7 senior executives, and the in-house design teams are situated close to apparel manufacturing hubs.

Foolish investors may want to steer clear of this company given those issues. There are plenty of less-risky alternatives on the ASX – like this company, which pays strong dividends, boasts excellent growth and great management…

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Motley Fool writer/analyst Mike King owns shares in Carsales.com. You can follow Mike on Twitter @TMFKinga

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