Chinese Pharma In Line to Go Private With Other Chinese Companies

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Shanghai-based ShangPharma (NYSE: SHP) recently announced that it would become the latest in a long line of U.S.-traded Chinese companies to be taken private. The merger that would end its listing on the New York Stock Exchange involves a simple cash-for-stock transaction that values the company at approximately $175 million. Once the deal has been finalized, ShangPharma's depository shareholders will receive $9.50 in cash per share.

This deal represents a considerable premium for long-term ShangPharma shareholders. Before rumors of the deal broke in early July of 2012, the company's shares had traded below $6. Relative to the company's July 3 closing price of $6.53 per share, the deal provides a premium of 45.5 percent. Relative to its January 25, 2012 closing price of $8.71 per share, the buyout provides a premium of about 9 percent. 

The Business of ShangPharma

ShangPharma is a Chinese drug-discovery firm that specializes in uncovering new medical compounds and conducting chemical and biological tests to investigate promising new drug components. The company performs work for many well-known Chinese drug-makers. It serves as an outsourcing firm for established companies that are unwilling to operate in-house discovery arms as well as a producer of its own proprietary compounds. It also conducts a wide range of tests and maintains a formidable catalog of compounds available for license or sale. It employs about 2,100 full-time workers in Eastern China, Japan and North America.

The deal is being spearheaded by the company's chief executive officer in conjunction with Chinese private equity firm TPG Star Charisma Limited. Since the two parties collectively own more than 65 percent of the company's outstanding shares, the deal is not subject to the customary shareholder vote. Given ShangPharma's relatively small market capitalization, it is also unlikely to be held up by U.S. or Chinese regulators. Assuming that no minority-shareholder lawsuits or rival bids arise to delay the proceedings, the deal should close by the end of the first quarter of 2013.

After the shareholder buyout, the bulk of the company's "ordinary" shares will be held by ShangPharma's CEO, one of its chief directors, and several Cayman Islands-based shell companies owned by TPG and its affiliates. The deal gives short shrift to many ordinary employees: As a condition of the merger, the company will cancel one of its three performance-based profit-sharing programs and significantly devalue another. Led by ShangPharma's current chief executive, the majority shareholder in the new company will be known as ChemExplorer Limited.

Chinese Companies Going Private

ShangPharma is just the latest addition to a crop of Chinese companies that have announced plans to go private within the past year. Notable members of this group include Focus Media Holdings (UNKNOWN: FMCN.DL), China Mass Media and pork processor Zhongpin (NASDAQ: HOGS).  Focus Media Holdings announced in August 2012 that it would be takeover by private equity firm Carlyle Group.  Focus Media is a digital advertiser with many outdoor advertising billboards.  The deal for Focus Media is valued at $3.5 billion. 

Zhongpin, on the other hand, isn’t being purchased by a private equity firm but is taking itself private through a holding company.  Zhongpin has been undervalued compared to American competitors for years due to the risk of fraud and the risk of unsustainable growth.  The Zhongpin deal is partially financed by the China Development Bank and is valued at $505 million

Like ShangPharma, most of these companies are flush with cash and have almost nonexistent short-share floats. For instance, ShangPharma has nearly $3 in cash per share and just .04 percent of its shares floating short.

Despite the company's enviable financial position, many independent observers question its motives for going private at this particular moment in history. Like its peers, ShangPharma appears willing to give up some of the benefits associated with a public listing on a U.S.-based exchange in favor of a "quieter" existence outside of the harsh glare of regulatory scrutiny.

In their home market, many China-based businesses face fierce competition and suffer from relatively low margins. Despite its solid finances, ShangPharma faces intense regulatory hurdles thanks to its high-stakes business model. Although the laws that govern drug-discovery and chemical-branding firms based in China are far laxer than those to which North American businesses must adhere, ShangPharma's management team may fear that its practices have the potential to alienate its American shareholders. After steadily accumulating growing stakes in the company, its two majority shareholders may have determined that the company would be more manageable as a private entity.

It should also be noted that many China-based companies that trade on North American markets have suffered from an unfair association with certain "outlaw" East Asian companies. During the late 2000s and early 2010s, these outfits blatantly "cooked" their balance sheets in an effort to boost their dollar-denominated stock prices and earn quick returns for their principal stakeholders. Many quality names across the sector have sustained significant stock-price hits as a result. It is entirely possible that ShangPharma's executive team believes that the company is undervalued and expects the current environment to present a unique buyout opportunity.

 


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