Asia Aluminum privatisation breaks ground on high leverage financing

Independent shareholders approve plan after rare guarantees from large institutional investors.
When minority shareholders of Asia Aluminum voted yes to a proposal to privatise the company last week, they also gave the green light for a highly leveraged financing exercise. This will raise the money needed to take the designer and manufacturer of aluminium extrusion products off the market.

Majority shareholder and chairman, Kwong Wui-chun, needed to raise $500 million to cover all the costs associated with the privatisation, which could have been tricky enough given that Asia Aluminum has a market cap of only about $350 million. But on top of that, it also had $450 million worth of debt on its books - in the form of a high yield bond issued in December 2004 û which would have been very expensive to take out because of its restrictive covenants.

Merrill Lynch, which is the financial adviser to Kwong in respect of the privatisation, tackled the problem by using a so called wrap-around financing solution that left the existing bonds untouched, but at the same time was attractive enough to secure enough interest from investors to raise the necessary cash.

The financing, which required the use of a special purpose vehicle, will see the companyÆs existing debt to EBITDA ratio of seven times increase to 13.3 times, prompting Merrill Lynch to call it ôthe first true leveraged financing transaction in Asia.ö

Leveraged buyouts in Asia typically go no higher than a debt to EBITDA ratio of six to eight times.

The financial adviser was tight-lipped about details of the financing, given that it was a privately arranged transaction, but noted that it had to be long-term since the company is going through a major expansion phase. It is also deeply subordinated to the existing bonds, which was necessary to ensure that their credit ratings were maintained.

The new debt was taken up by a small group of ôvery sophisticated investorsö as can be expected given the potential risks involved and the large amount of due diligence needed for any investor to commit. Because every investor approached for the deal also needed to be pre-cleared by the Securities and Futures Commission, the group of potential investors was by necessity kept small.

According to people familiar with the transaction the take-up ratio wasnÆt 100%, but fairly close to it.

Merrill Lynch also played a key role when it came to ensuring that Henderson Land DevelopmentÆs failed attempt to privatise Henderson Investment in January this year wasnÆt repeated. This was achieved by securing an irrevocable undertaking from seven institutions, which together controlled more than 55% of the independent shares, that they would vote in favour of the proposal. The threshold for success was 75%, although the offer could have been stopped if shareholders controlling more than 10% of the independent shares had voted against.

The institutional investors agreed to this in exchange for a slightly higher offer price, which was announced within 11 days of the original proposal.

It is rare that institutional investors agree to give such a guarantee since it means they lose the flexibility of being able to trade the shares in the market during the privatisation process - when the share price typically rise to or near the offer price level. And for Asia Aluminum to secure a guarantee from this many high-quality institutions, including Morgan Stanley Investment, which holds 9.4% of the company, Fidelity International (5.1%) and Mondrian Investment Partners (9.3%) must be considered something of a coup.

ôThis is the first time that irrevocables of this nature have been obtained in a Hong Kong privatisation offer and they were an important factor in the success of the transaction,ö said Kalpana Desai, head of M&A for Asia Pacific at Merrill Lynch.

Aside from the reduced likelihood that the proposal would falter, the undertakings also helped address the SFCÆs concerns about investors selling short just before a privatisation vote and then using their voting rights to stop the privatisation from going through. The SFC is currently investigating whether current rules may need to be revised to prevent this from happening, following media reports suggesting this could have been a reason for the failed attempt to privatise Henderson Investment.

In addition, Chairman Kwok was able to arrive at last WednesdayÆs special general meeting with a much higher degree of confidence that his HK$3.03 billion ($390 million) offer for the 63.8% of the company he didnÆt already control would go through.

And so it did. According to a company statement, independent shareholders representing more than 82% of the independent vote approved the offer, which was worth HK$1.45 per share after being raised from an original HK$1.30. In addition, the controlling shareholder offered HK$0.64 for each of the outstanding 47.25 million options that carry the right to subscribe for the same amount of share in the company.

Chairman Kwok will also spend an additional HK$737.1 million ($95 million) to buy out the remaining stake in a non-wholly owned subsidiary of Asia Aluminum which will then be included in the priviatisation. The financing arranged by Merrill Lynch covered all three of these offers and the company said in a statement that none of Asia AluminumÆs current cash resources would be used to finance the proposals.

The final offer price of HK$1.45 represented a premium of about 99.4% over the 30-day average pre-announcement price of HK$0.73 per share, which according to a letter from the board outlining the proposal was ôby far the highest premium level paid in a comparable Hong Kong privatisation transaction in the past five years.ö

By comparable transaction the board seems to refer to main board-listed companies, since according to its own data the privatisation of Henderson Cyber in August 2005 was done at a premium of 110% to the 30-day average prior to the offer.

The offer price also equalled a 74.4% premium to the HK$0.83 closing price on February 6, which was the day before the pre-announcement of the privatisation was published and a 53.2% premium to the unaudited net asset value as of December 31, 2005.

However, it was below the HK$1.56 per share at which the company placed HK$518 million ($67 million) worth of new shares in January 2004, which means shareholders who bought at that time and still held the shares would lose money on the privatisation.

The eye-catching premiums were possible partly because the company and its financial adviser went ahead and published a pre-announcement document referring to a possible privatisation of the company as soon as the plans started to leak to the market and the share price began moving up. By doing that they were able to set the reference price before too much of the privatisation premium had been absorbed into the share price.

On the day the pre-announcement document was published, the share price jumped 10.8% and by the time the stock was suspended on March 14, it had edged up a total 38.6% to HK$1.15. When the final offer was revealed and the stock started trading again on March 28 it rallied another 20% and by the time shareholders voted on whether to accept the proposal the stock was at HK$1.43.

ôThe premiums look high, but clearly the controlling shareholder wouldnÆt have done this if it didnÆt see value in the stock,ö one observer says.

ING Bank, which was hired by the company to act as an independent financial adviser to the Independent Board Committee, judged the offer to be fair and reasonable, however, and recommended shareholders to approve it.

In a statement, the companyÆs board of directors noted that one reason to take the company private was the poor performance in Asia AluminumÆs share price over the past two years. In fact, during that period (until February 6), the share price dropped 45% while the Hang Seng Index edged up 16.8%.

This can be expected to continue as it will take several years for the company to perform on its current business plan and in the meantime it will face substantial operational risk, the board said.

ôIn additionàthe offeror believes that the company will continue to suffer from the general negative sentiment of the stock market towards companies with smaller market capitalisation arising from a relative lack of liquidity and low level of coverage from equity market research analysts,ö it said.

Asia AluminumÆs share price peaked in March 2004 after the company announced a major expansion plan to more than double the capacity for aluminum extrusion products and to add a large-scale production line for high-end flat-rolled products. However, the price started to tumble later that month after a disappointing 53% profit decline, which also prompted concerns about the managementÆs lack of communication about its product pricing strategy.

In the six months to December 2005, the company generated a net profit of HK$126 million on turnover of HK$1.92 billion. The profit represented a decline of 17% from the year-earlier period and a 24% drop from the previous six months. EBITDA fell 10.5% to HK$365 million in the latest six month period from a year earlier and the EBITDA margin narrowed to 18% from 23%.

May 11 will be the last day of trading in Asia Aluminum shares - and assuming a May 19 court hearing in Bermuda does approve the privatisation scheme, the shares will be delisted on May 24.
¬ Haymarket Media Limited. All rights reserved.
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