M&A

Not zooming

Investors question motives behind an M&A deal

Zoomlion deal sparks controversy

It’s not often that a written legal judgement is described as a “must-read”. But the New York Times clearly thought a decision delivered last month by Delaware’s Court of Chancery fell into the compelling category.

The judge’s findings were critical of (among others) the CEO of El Paso, a gas pipeline company in the US. Particularly, the judge thought the chief executive had been “influenced by an improper motive” in selling the firm too cheaply to its acquirer, Kinder Morgan. Apparently, the executive then planned to buy El Paso’s exploration and production arm back from its new owner.

Investors in China might wonder if something similar is afoot at Zoomlion Heavy Industry, where they suspect that company management may do rather better out of a proposed deal than they will.

In late February, the Hong Kong and Shenzhen-listed manufacturer of construction equipment announced plans to establish Zoomlion Environmental and Sanitation Machinery Company (ESM), with a registered capital of Rmb2.1 billion. It would also transfer Zoomlion’s pre-existing environmental assets into the new company.

The move was presented as a logical one: as a way for state-owned Zoomlion to strengthen its position in the sanitation business by transferring assets into a separate, more focused company.

By mid-March, Zoomlion’s intentions became clearer, much to the annoyance of some investors, with its plan to sell 80% of the new business for Rmb2.78 billion ($441 million), reports CBN.

Investor concerns heightened when it became clear who was bidding for ESM. One bidder in the deal is Hony Capital, part of the Legend Group. But the other bidder is a firm called Hesheng Investment Development. Zhan Chunxin, currently chairman of Zoomlion, and another 14 Zoomlion managers own 49.4% of Hesheng.

The suspicion is that Zoomlion’s management has moved the better assets into the subsidiary, which they are subsequently trying to buy at a bargain price. The deal values the transferred assets at 1.65 times price-to-book ratio or 5.11 times price-to-earnings. This looks cheap compared to Zoomlion’s biggest competitor, Sany Heavy Industry, which is valued at a price-to-book of 5.4 times and a price-to-earnings ratio of 10.24 times.

Zoomlion’s main businesses are concrete-making and heavy-lifting machinery, with environmental equipment constituting about 5% of revenues. The division makes the heavy equipment needed to keep a city clean – from washing and sweeping machinery to waste compression and landfill equipment. Still, it is a fast growing business: in 2011, the division made Rmb917 million in profits, up from Rmb592 million the year before.

Government targets on improving rubbish disposal services should also mean that demand for ESM products should stay high for some time. Indeed, ESM’s future looks healthy, perhaps more so than Zoomlion’s core business which may suffer from a slowdown in the Chinese property market.

It also turns out that the plan is for only the assets to be transferred to the new entity, with the liabilities of the former environmental operations remaining with Zoomlion. “With such a bright future, such high-quality assets are being transferred without a penny of liabilities. The transferee is probably Zoomlion management who are manipulating the matter, how can investors be made to understand this?” one disgruntled shareholder told National Business Daily.

Zoomlion’s largest shareholder is the Hunan province branch of Sasac, the organisation in charge of large state-owned companies. Its local director, Wu Zhixiong, is also paying close attention to the deal, reports National Business Daily. He has stressed Zoomlion’s importance to Hunan’s economy, and said Sasac would veto the deal if management looked to be profiting dishonestly.

Zhan meanwhile has tried to placate stockholders, stating that Hesheng will be a strategic investor and own no more than 20% of ESM.


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