Agriculture Company Going Private Soon
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Henan, China-based pork products manufacturer Zhongpin (NASDAQ: HOGS) recently announced that it would take itself private by merging with Cayman Islands-based Golden Bridge Holdings Limited. In a complex international transaction, Golden Bridge will purchase the company using a specially-formed Delaware-based subsidiary known as Golden Bridge Merger Sub Limited. Zhongpin's current chief executive officer and several other key company associates will also contribute capital to the deal in exchange for partial ownership stakes in the new entity. The deal is valued at $505 million and will be partially financed with a $320 million loan from the China Development Bank.
As a condition of the merger, current shareholders of Zhongpin's common stock will receive $13.50 in cash per share. This represents a premium of 8 percent to the stock's current value of $12.50. Investors who purchased shares of Zhongpin immediately before the November 26 merger announcement would have earned a premium of nearly 23 percent to the stock's November 23 closing price of $10.86. In addition to Golden Bridge Holdings Limited, six former Zhongpin executives will retain ownership stakes in the new company.
Zhongpin is a major manufacturer and distributor of pork products in mainland China. The company directly employs about 8,000 full-time workers in the country and employs thousands more part-time workers at nearly 3,500 retail stores across China. It specializes in frozen and chilled pork, pork by-products and body parts, processed pork-derived meat products, and specialty products like pork rinds. It also distributes fresh and frozen fruits, vegetables and processed vegetable products.
On the Nasdaq, HOGS has almost always traded at a significant discount to US based competitors like Tyson Foods (NYSE: TSN) and Smithfield Foods (NYSE: SFD). Tyson and Smithfield both have forward PE ratios of around 9. Due to the takeover talks, Zhongpin has a similar PE, but before these talks the PE was usually around 8 and had gone as low as 3.9 in 2011. In terms of price to book value, Zhongpin is also trailing. Tyson has a P/B of 1.27 and Smithfield of 1.09 whereas Zhongpin had been as low as 0.65 in the past year. These valuations occurred while Zhongpin had a consistently higher ROA until lately. Much of the reason for the lower valuation is the discount that all Chinese companies are receiving due to the big Chinese frauds in the last few years.
Although the bulk of Zhongpin's Chinese sales occur in the retail sector, it also maintains a number of wholesale customers. These include wholesale distributors as well as institutional kitchens in hospitals, factories, army bases, government facilities and schools. It serves a limited number of international markets in Southeast Asia and Europe on a wholesale basis.
News of the Zhongpin "going-private" merger comes at a tempestuous time for China's agriculture industry. Seeking to increase the efficiency of its farm-to-market pipelines and make its produce more attractive on the global market, China's government appears poised to "crack down" on the countless neighborhood slaughterhouses that supply the bulk of the nation's fresh pork and chicken products. Its ultimate goal may be to centralize the production of the country's signature pork products in a manageable number of clean, modern facilities capable of producing export-grade foodstuffs. Zhongpin looks to be instrumental to this effort.
Given the relative ease of using health codes to force lackadaisical slaughterhouse owners out of business, this trend has been proceeding apace. Although China's agriculture industry remains in the hands of its legions of small-time family farmers, this may soon change as well. As the able-bodied children of these farmers leave their ancestral village homes to find work in the country's booming industrial cities, rural depopulation is becoming a serious problem. The demographic effects of the so-called "one-child" policy are accelerating and exacerbating this trend.
Coupled with an ongoing movement towards North American-style mechanized agriculture, these demographic pressures are likely to lead to the wholesale consolidation of Chinese agricultural lands and the emergence of a modern farm industry. Despite being the world's largest producer of rice, wheat and fresh specialty vegetables, China remains a net importer of "finished" agricultural products. Given its vast reserves of arable land and its ongoing drive to urbanize, there appears to be plenty of countryside available for its burgeoning agriculture industry. The newly-privatized Zhongpin may benefit handsomely as the sector develops and consolidates.
What happens next?
This "going-private" merger remains subject to Chinese regulatory approval. Given the China Development Bank's enthusiastic financial support, it currently appears likely that Chinese regulatory authorities will green-light the deal. However, the merger agreement stipulates that Zhongpin may terminate the merger without cause before January 25, 2013. This would presumably be the result of a general revolt by the company's shareholders or board of directors. Due to the handsome premium being paid for company as well as the lack of a shareholder vote provision in the merger agreement, such a turn of events is unlikely.
As it currently stands, the deal is expected to occur by the end of the first quarter of 2013. The company will de-list from the NASDAQ immediately after the deal has been finalized and begin making cash distributions to its shareholders.
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