Citic 1616 aims to raise $270 million in HK IPO

The Citic Pacific spin-off banks on increased tourism and new mobile subscribers to drive its earnings growth. Strong management cited as a plus.
Six years after it was taken over by Hong Kong-listed Citic Pacific, Citic 1616 Holdings is making a move to stand on its own feet again through a separate listing.

The company, which is aiming to raise up to HK$2.11 billion ($270 million) from an initial public offering in Hong Kong, is being marketed as a play on ChinaÆs growing cross-border telecom traffic and as such is yet another way for investors to buy into the increasing wealth among Chinese consumers.

Since it was bought by Citic Pacific in 2000, Citic 1616 has been transformed from a simple provider of international voice calls into an independent telecom hub operator that provides connectivity between voice and data services providers in Hong Kong and China and their counterparties in about 50 other countries. By using the company as a ômiddle manö, telecom operators are able to reduce costs and establish instant connectivity with the about 240 other operators that are Citic 1616 customers, which allows them to focus their resources on other areas such as expanding their business and customer base.

A key advantage of using the companyÆs Hong Kong-based hub services is that they bridge the gap between different standards, protocols and network interfaces and thus enables two operators to connect to one another even if they use different wireless systems. According to Telegeography Research, Citic 1616 handled 15.2% of ChinaÆs outbound international voice calls in 2006 and 14.8% of the wholesale traffic in Asia in 2005.

The company also provides value added mobile services to subscribers of the mobile networks that are its customers, with the aim of increasing the operatorsÆ traffic flow û and ultimately its own revenues. These services include a pre-paid card that allows international roaming and a SIM card that incorporates multiple phone numbers.

In its preliminary listing document, the company notes that ôthe continued growth in the Chinese economy, the continued increase in Chinese mobile subscribers, the increasing affordability for international calling, the increase in the number of visitors to China and the increasing affordability among Chinese nationals to travel abroad will continue to drive the demand for long distance calling.ö

International Data Corporation projects that the number of mobile subscribers in China will increase to 681 million by 2010 from 376 million in 2005, which represents a compound annual growth rate of 13%. Such upbeat projections are supported by a still low penetration rate of 29%, which compares to well over 100% in a market like Hong Kong.

Citic 1616 is offering 815.9 million shares, or 43.4% of its share capital, at a price between HK$2.13 and HK$2.58. Including the 15% greenshoe, this will give a maximum deal size of HK$2.42 billion ($310 million). BNP Paribas is the sole sponsor and bookrunner of the deal.

Only 23% of the shares are new, though, which means the company wonÆt be reaping much fresh capital from the IPO. Of the net proceeds it does receive, HK$240 million ($31 million) will be used to expand its technological applications or geographical network coverage, potentially through acquisitions or joint ventures, according to the listing document. Another $100 million will go towards upgrading the companyÆs computer software and hardware and $90 million will be spent on development activities, including the hiring of new staff.

The other 77% of the shares on offer will be sold by Citic Pacific, whose stake will fall from 100% to 50.6% as a result of the IPO. If the overallotment option of all old shares is exercised in full, the parentÆs stake will fall to 50.1%. Citic Pacific is a conglomerate ultimately controlled by the Chinese government whose businesses range from manufacturing of specialty steel to property development and infrastructure, including power generation, aviation and communications.

To help ensure sufficient demand, the company has agreed to sell $90 million of the offering to four cornerstone investors, including the Government Investment Corp. of Singapore (GIC), which will buy $35 million worth of shares. The Ashmore Group, a London based company with $26 billion under management that is one of the largest investors in the Asian telecom sector, will take $25 million through its Asian Recovery Fund, while Chinachem Chairwoman Nina Kung (also known as Nina Wang) and former Esprit Chairman Michael Ying will buy $15 million each.

Assuming the offer is priced at the mid-point of the range, the cornerstones will hold a combined 15.9% of the company at the time of listing and have committed not to sell any shares in the first six months. Citic Pacific cannot sell any shares in the first six months either, while in the six months after that it can sell but not more than that it will still remain the controlling shareholder.

The price range values the company at 22 to 26.7 times its 2006 earnings, which some fund managers said they find a bit too steep for this kind of company.

However, the management will argue that the a net profit growth of more than 100% last year and a potential for further strong growth in the years to come as the number of mobile subscribers continue to increase and the 2008 Olympics in Beijing and the 2010 World Expo in Shanghai are expected to attract huge amounts of visitors to China, do warrant a valuation multiple in the twenties. Other key growth drivers will be the increasing usage of short messaging services and the introduction of 3G services in China, which is expected to lead to a significant increase in data traffic.

One source noted that Tencent, which also provides mobile value added services, trades at more than 40 times its 2006 earnings. China Communications Services, which listed in December and supplies hardware for the kind of software services that Citic 1616 provides, trades at a 2007 P/E multiple of 29 times.

Citic 1616Æs net profit expanded to HK$201.5 million ($26 million) in 2006 from HK$97.8 million a year earlier on the back of a 39% increase in turnover. Going forward, the company intends to pay at least 30% of its profits as dividends.

A key attraction, fund mangers say, is the strong management team, including Shi Cuiming who has more than 40 yearsÆ experience in ChinaÆs telecoms industry. As chairman of China Telecom (Hong Kong) (later renamed as China Mobile) from 1997 to early 1999, Shi was instrumental in obtaining a Hong Kong listing for that company and subsequently also helped take China Unicom public.

Norman Yuen, a former deputy chief executive of Hong Kong Telecom and PCCW, is the CEO.

However, the hubbing services business has low barriers to entry and the group faces competition not only from local operators, including Hong KongÆs largest telecom operator PCCW, but from regional and international players too. On top of that, large telecom operators can choose to connect directly to other operators rather than going through a hub like Citic 1616.

Another potential investor who attended a company lunch presentation in Hong Kong yesterday noted that the company is highly dependent on its five biggest customers, which accounted for 47.7% of total turnover last year. The companyÆs largest customer single-handedly generated 30% of the turnover, which would make it highly vulnerable if this customer was to take its business elsewhere.

The company does not provide the names of its largest customers in the listing document, but sources say it does business with all three of ChinaÆs biggest operators û China Mobile, China Unicom and China Telecom.

The order books will close on March 27 and the pricing will be determined the following day. The trading debut is scheduled for April 3.
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