TCC International Holdings, a China-based cement producer that is part of the Taiwan Cement group, has announced a HK$2.31 billion ($297 million) fully-underwritten rights issue to raise funds towards the $490 million acquisition of clinker and cement production assets from Prosperity Minerals that was completed at the end of April.
This is the second time this year that the Hong Kong-listed company has tapped the markets for new capital, having also completed a $109 million top-up placement in mid-January. That sale, which was chunky at 120 days' worth of trading volume and came at an 11.5% discount to the market price, set TCC's stock tumbling. And while the decision to do a rights issue this time means there will be no dilution for existing shareholders, the news led to another sell-off. By the end of yesterday's session, the company had lost 16.7% of its value and the share price had fallen to within 15% of the rights issue price.
TCC said on Monday evening (Hong Kong time) that it will offer one new share for every two existing shares at HK$2.10 per share. The price represents a discount of 27% versus Monday's closing price of HK$2.88 and a discount of 19.9% versus the theoretical ex-rights price, which has been calculated at HK$2.62. The latter is tight when compared with most of the rights issues that were completed in Asia last year, although a source noted that most of those were done at a time when investors were reluctant to increase their exposure and companies had few other options when it came to raising funds than to tap their existing shareholder base.
In this case, it seems the decision to do a rights issue stems at least partly from the fact that TCC's parent company -- TCC International Limited (TCCI) -- doesn't want to get diluted. The company owns 55.5% of the share capital, which means that a share placement of a similar size would have taken it below 50%. Since there will be no dilution as a result of this issue, the company also doesn't have to adhere to the general mandate, which allows it to sell up to 20% of its existing share capital without seeking shareholder approval, and consequently it is able raise a lot more capital than it otherwise would. The 1.099 billion new shares that will be issued as a result of the rights offering account for about 50% of the outstanding share capital.
TCC said in the announcement that the rights issue will enable it to strengthen its capital base and to enhance its financial position in "a significant manner".
"Unlike borrowings of issuance of debt securities, the rights shares...will form part of the equity capital of the company which will become a stable and long-term capital source and strengthen the balance sheet of the company, providing more flexibility to finance its expansion needs in the future," it said. It also noted that it gives existing shareholders the opportunity to maintain their respective pro-rata interests.
Controlling shareholder TCCI has committed to take up its entitlement in full and has also agreed to underwrite another 16.5%, which covers the 16.2% stake held by Chia Hsin Pacific, which is the second largest shareholder. Part of the reason for doing this is that TCCI supposedly didn't want to have to involve Chia Hsin in the planning of the rights issue, but according to a source, TCCI also wouldn't mind increasing its holdings somewhat.
The remaining 28% of the rights issue, accounting for about $83 million, will be fully underwritten by Credit Suisse and Standard Chartered in equal parts.
The rights offering will be open to investors who own shares in TCC on the record date of June 1. However, shareholders who don't want to exercise their rights can sell them in the Hong Kong market from June 8 to 15. The deal will remain open until June 21.
While it clearly helps to have strong support from the parent company, it remains to be seen whether other investors will be keen to invest more money into the company this time. Having outperformed the overall market and the H-share index in the first quarter, the China cement sector has been under pressure since early April as Beijing has clamped down on property speculation with several tightening measures. The sector has also been affected by concerns that the debt crisis in Europe will have a dampening impact on overall global growth.
"Fundamentals remain solid, but there is clearly a correlation with the property market," said one observer.
Before yesterday's drop, TCC's share price was down about 18% from early April and it had also lost close to 23% since just before the placement in January -- although the stock did have a good run between mid-February and early April.
On the other hand, the decline means the stock is now trading at quite an attractive valuation, which together with the additional discount should work as an incentive to participate in the offering. The source noted that the right price of HK$2.10 translates into a 2010 price-to-earnings multiple of about 6.3-6.4 times. By comparison, Shanshui Cement and Asia Cement (China) are both trading at about 7.7 times. Industry leader Anhui Conch Cement is quoted at 13.3 times, according to Bloomberg data.
In a cement sector research note issued on May 13, analysts at Bocom International said that while the downward pressure is still in place, they view the current share price levels as "terrific entry points for cement stocks as (they) continue to believe that in 2010 the demand will be robust and supply will be curbed".
In particular, the industry should see improving margins as selling prices have started to head higher, while coal prices are declining. Among the four analysts who cover TCC, according to Bloomberg, three have a "buy" on the stock, while one has a "hold".
TCC is one of the smaller Hong Kong-listed cement players with a current market capitalisation of just under $680 million, although it has been expanding through various acquisitions as the industry continues to consolidate.
The acquisition of the assets from Prosperity Minerals (referred to as the Upper Value Investments), which was first announced in December, has added approximately 9.5 million tonnes of operational annual capacity to the company's pre-deal capacity of 26.85 million tonnes per year. However, the acquisition also brought four additional clinker and cement production lines that are currently under construction, but will add 2 million tonnes of each to TCC's annual production capacity. Three of those lines are expected to be completed by the end of this year and the other one is scheduled to be ready in 2011.
In addition, the new production capacity will allow the company to expand geographically within China. Before the deal, TCC generated most of its sales revenues from the Guangdong province and the Guangxi autonomous region. It has now added production plants in Yunnan, Chongqing, Sichuan, Liaoning and Guizhou. "The enlarged group will be able to benefit from the strategic locations of such plants to extend its market presence beyond the southern region of China," the company said when announcing the acquisition.