China Auto Rental has kicked off the roadshow for an initial public offering on Nasdaq that will be crucial for establishing whether US investors are interested in buying Chinese newcomers. Recent experiences suggest they may be cautious, especially after a near 30% drop in the share price of Vipshop Holdings which debuted on March 23.
Partly in response to that, China Auto Rental has decided to sell only 14.9% of its share capital through the IPO, as opposed to 20% to 25% that was considered when the original filing was made. The roadshow also comes after two days of sharp falls in US markets on the back of a disappointing non-farm payroll report, data pointing to a slowdown of growth in China and a return of debt concerns in Europe, which may have influenced China Auto Rental’s decision to go for a less aggressive size.
At the current terms, the company is seeking to raise between $115.5 million and $137.5 million, which, according to a source, will allow its expansion plan to be fully funded without causing too much dilution to existing shareholders.
That said, the US stock market rebounded yesterday after a strong first quarter earnings report by Alcoa that all of a sudden made the general backdrop seem less gloomy. At the closing bell the Dow Jones index had risen 0.7%, recouping some of the 4.1% losses it had suffered over the past five sessions.
China Auto Rental, which is the largest car rental company in China, is offering 11 million American depositary shares (ADS) at a price between $10.50 and $12.50. Each ADS corresponds to four common shares.
All the shares in the base deal are new, although the 15% greenshoe is made up of 50% secondary shares to allow chairman and CEO Charles Zhengyao Lu a chance to make some profit as he takes his company public. If the greenshoe is exercised in full, the total proceeds could increase to as much as $158.1 million.
Legend Holdings, a major investment holding company in China and the parent of Hong Kong-listed computer manufacturer Lenovo, is a major shareholder in the company and will own approximately 54.9% at the time of listing. It will not sell any shares in the IPO.
The price range values the company at a 2013 price-to-earnings multiple of 10.1 to 11.1, based on the joint bookrunner consensus, and at an enterprise value-to-Ebitda multiple of 4.1 to 4.5 times for the same year. The latter is on par with the well-established US rental companies, such as Avis or Hertz, which trade at EV/Ebitda multiples of about 4.2. But it is at a significant discount to other high-growth comparables like Localiza in Brazil, or Zipcar, a membership-based car sharing company with operations in the US and the UK. The latter two are quoted at a 2013 EV/Ebitda multiple of about seven times.
The source noted that on a revenue basis China Auto Rental is growing faster than both of these two comps, and being a young company — it was started by Lu in 2007 — it still has a lot of room to ramp up its business. This is also a reason why the deal is being marketed using 2013 multiples. The company is still loss-making, but is expecting to make a small profit this year. However, the full benefits from its ongoing expansion won’t feed through to the bottom line until next year.
One syndicate analyst forecasts a net profit of about $7 million this year and about $60 million in 2013. Revenues have been multiplying to Rmb775 million ($123 million) in 2011 from approximately Rmb54 million in 2009. The company reported a net loss of Rmb151.4 million ($24.1 million) last year.
China’s car rental industry is still at an early stage of development, but it is growing rapidly, driven by the growth in the overall economy, increases in urbanisation and disposable income, improvements in road infrastructure and a favourable policy environment. Among other things, there are policies in place that limits the car ownership by government agencies, meaning they have to rent many of their vehicles instead.
China Auto Rental has a rental fleet of 25,845 vehicles, which as of the end of 2011 was three times as many as its biggest competitor and as many as the next eight car rental companies combined, according to third-party consulting firm Roland Berger. Its network of 520 service locations covers 66 cities spread across all of China’s provinces and 52 major airports. It is active within short-term and long-term rentals, as well as leasing. Most of its revenues come from short-term leasing.
The company will use $90 million of the net proceeds to expand its rental fleet and the remainder for working capital and other general corporate purposes.
Aside from its fast growth, China Auto Rental also ticks a lot of boxes that US investors used to like about Chinese companies: it operates in an industry that US investors are familiar with from their home market; it is the largest player in this industry in China by several metrics, including fleet size, network coverage, number of customers and revenues; and it is the first company from the China car rental sector to seek a listing in the US.
It remains to be seen if that is enough to get investors to overcome their current skepticism about Chinese stocks. If Vipshop is any indication, investors have not forgotten about the allegations of fraud and accounting irregularities that led to a sharp sell-off of US-listed Chinese stocks in the second and third quarters last year and are still not convinced that the growth potential outweighs the potential risks.
Vipshop, an online discount retailer of fashion and other branded goods that was the first Chinese company to go public in the US since August last year, was forced to price its IPO 23% below the initial price range due to a lack of demand, but still fell 27.7% in the first two days. Since the beginning of this month, the stock has traded largely sideways and after a 2.9% gain last night, it closed at $4.65 — 28.5% below the IPO price of $6.50.
Sources argue though that compared with Vipshop, China Auto Rental’s business model is well proven. It should also be viewed as a positive that the company isn’t a variable interest entity (VIE) — a structure that is used to get around China’s foreign ownership restrictions in certain sectors and which may be facing stricter regulations that could affect the US listings of companies using it.