Connecting China's Peasants

06/02/2009 12:00 am EST


Robert Hsu

Editor, China Strategy and Asia Edge

Robert Hsu, editor of China Strategy, says a small provider of handsets and wireless infrastructure will help millions of Chinese peasants get connected.

Today, a new and powerful revolution in wireless handsets is taking place in China, the world's largest cell phone market by far. The surge in demand for local Chinese cell phones stems from the more economically disadvantaged consumers, such as Chinese peasants who make less than $5,000 a year.

China's lower economic class is now buying tens of millions of cell phones a year, and their spending is fueling a new peasant revolution in wireless communication. We recently saw how this peasant wireless revolution has affected our very own Cogo Group (Nasdaq: COGO).

COGO supplies communication chips from leading global companies and packages them into modules to sell to Chinese communication equipment makers. The company buys from leading chip companies such as Broadcom (Nasdaq: BRCM), Maxim Integrated Products (Nasdaq: MXIM), and Freescale, and then sells to firms like Chinese telecom technology giant Huawei and wireless infrastructure giant ZTest Electronics.

In early May, Cogo reported declining first-quarter earnings, with net income and gross profit falling significantly from a year earlier. Much of this decline can be attributed to the peasant wireless revolution: COGO was forced to sell to start-up companies at much smaller profit margins, which hurt its performance last quarter.

Thankfully, Cogo has a diversified businesses—unlike other handset companies—which will help [it] grow in a more competitive handset industry. Currently, Cogo derives 30% of its business from handset makers, 30% from wireless infrastructure, 30% from digital media box makers, and another 10% from government industrial equipment buyers.

When I met with the senior vice president and chief marketing officer of Cogo, Will Davis, in mid-May, we discussed Cogo's business and the trends in the wireless business. Will told me that there are three favorable growth trends for the company right now:

  1. The company's fastest growing segment is its industrial business, mostly related to the Chinese government's stimulus infrastructure projects. Just one year ago, that business did not even exist, but today it accounts for over 12% of COGO's total sales. Will expects the company's new industrial business to continue growing rapidly this coming year.
  2. The company also expects to benefit from further 3G infrastructure build-outs in China: Demand for COGO's infrastructure-related products will be robust.
  3. And Cogo, which is debt free and cash rich, is using this recession as an opportunity to acquire smaller niche competitors at lower prices. One recent deal was the acquisition of electric grid firm Mega Smart, which will contribute about $25 million in annual revenue to COGO in its fast-growing industrial business.

I think COGO has the ability to continue to grow in the single digits this year despite the current recession and general weakness in handsets. That's because the company's other business segments should be able to pick up the slack. (COGO closed below $7 Monday—Editor.)

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