Banking & Finance

Milking the moment

Infant milk producer Feihe’s IPO dogged by short-seller attack


Feihe: it’s Zhang Ziyi’s choice

Calling out financial skulduggery in Hong Kong is not for the faint-hearted. Dan David, co-founder of GeoInvesting – a due diligence firm that targets Chinese companies on overseas bourses – once said that he was getting intimidating emails detailing how he was going to be confronted by hostile investors. And yet all that aggression does not seem to deter short-sellers from their task. At least 12 Hong Kong-listed companies, a record, have been targeted this year. Latest on the list is China Feihe, China’s largest infant milk producer by retail sales.

According to Hong Kong-based GMT Research, Feihe has exhibited the “fraud-like trait” of failing to pay dividends in the last five years despite registering high sales growth and strong profitability. GMT also suspects that Feihe’s cash position is much worse than reported because a sizable portion of its cash is trapped in the mainland, where capital controls are exercised. The accusation is that the company only managed to pay dividends to its pre-IPO shareholders after raising HK$856 million ($109 million) from its flotation in Hong Kong last month. On top of that 40% of the IPO proceeds are going to be deployed repaying offshore debt.

“There is a risk Feihe is more fake than fabulous. It is not currently possible to short the shares, but Feihe is an obvious future target for short-sellers. Investors should be cautious and verify Feihe’s market position before investing; otherwise, we recommend they avoid the stock,” Nigel Stevenson, an analyst at GMT, wrote in a report.

Feihe first went public in New York in 2009 but was taken private in 2013 alongside a spate of peers disappointed with their subdued valuations in the US. Subsequent plans to list in Hong Kong were suspended owing to its acquisition of US nutritional supplement supplier Vitamin World. However, the eventual IPO in the city last month also received subdued interest, with the deal priced at the low end of its indicative range. Feihe’s shares then closed below their offering price on the first trading day.

The lukewarm response is in part a hangover from the tainted milk scandal of 2008, where six children were killed and 300,000 made ill by infant formula mixed with melamine (see WiC6). Homegrown formula producers have struggle to shake off the disaster for years. That said, Feihe is one of the few domestic brands that has had no major product safety scares. It is also set to benefit from a central government directive announced in June that mandates 60% of China’s infant milk should be supplied domestically. (The policy prompted state-owned dairy giant Mengniu to buy Bellamy’s Australia, an organic infant formula maker, for $1 billion in September, taking advantage of its downtrodden shares after uncertainty whether it will get a licence to sell its formula under new regulations in China, its biggest market.)

Established in 1962 in Qiqihar, a city in Heilongjiang province, Feihe is one of the oldest dairy brands in China. Its net profit more than quintupled to Rmb2.2 billion (312.2 million) between 2016 and 2018, while revenues jumped 2.8 times to Rmb10.4 billion. The period also saw its market share more than double from 3.4% to 7.3% as a leader in the so-called “super-premium” segment where milk products are priced at or above Rmb450 per kilogram.

In response to GMT’s allegations the group’s chairman Leng Youbin explained that its decision not to distribute any dividends for several years was for the purpose of facilitating the group’s “business development and fund management” and that the special dividends to pre-IPO shareholders were paid before the listing. It also cited six domestic banks where its deposit balances exceeded Rmb200 million as proof of its ample cash on hand.

Feihe’s shares later rebounded (after trading resumed) up 3.7% compared to its offer price as of Wednesday. With a market capitalisation of HK$69.5 billion, it is now the second largest dairy company on the Hong Kong bourse, just behind Mengniu, which is worth HK$118.6 billion.

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