Cornerstones all aboard China Railway Signal IPO

The world’s largest railway control system developer by revenue locked in nearly $1 billion worth of cornerstone commitments to ensure the IPO stays on track.

China Railway Signal & Communication Corporation has placed more than half its $1.8 billion initial public offering in Hong Kong with cornerstone investors as the global roadshow gets underway today.

A total of 16 cornerstone investors committed an aggregate $971 million as of Monday and the railway signal system developer has also received commitments of about $900 million from anchor investors, a second source familiar with the offering said.

Commitments from both groups of investors ensure that the order book is fully covered when the roadshows kicks off on Monday.

The cornerstones are: China Railway Group, Guangdong Finance Investment, Shanghai Zhenhua Heavy Industries, China General Technology, Beijing Infrastructure Investment, China State Shipbuilding, China Life Insurance, Guangzhou Xinhua Urban Development Industry Investment, Ping An UOB FMC, China Shipping, TCL China Minsheng Investment, CMB Asset Management, CRRC, China Construction Technology Consulting and Guangdong Hengjian Investment.

China Railway Signal is offering 1.75 billion shares at a price range of HK$6.3-HK$8.0 per share in the based offering, which equates to 20% of the company’s enlarged share capital.

A greenshoe option of 262.5 million shares could increase the total deal size to $2.07 billion at the top end of the price range.

The cornerstone and anchor investors appear fairly price-sensitive towards the deal, with the underwriters arriving at a conservative valuation range of 19.0-24.2 times consensus 2015 earnings and 14.5-18.4 times 2016 earnings.

Tracking comps

If pricing is set at the low end of range, China Railway Signal will be valued at a 6% discount to electrical control equipment maker Zhuzhou CSR Times Electric, its best comparable stock in Hong Kong. Zhuzhou CSR’s Friday closing price of HK$57.55 values the company at 20.2 times consensus earnings this year.

Hollysys Automation Technologies, which generates about 40%-50% of its revenue from railway control systems, is another China Railway Signal yard stick. Hollysys currently trades at around 13 times consensus 2015 earnings, having seen its shares fall 10.5% from the beginning of the year.

The listing candidate will have an equity valuation of HK$55 billion to HK$70 billion ($7.11 billion to $9.03 billion).

The deal is structured with a 95% and 5% spilt between respective institutional and retail investors, against the standard 90%/10% split. Due to the size of the deal, clawbacks may see the retail allocation enlarge to 7.5% in the event that oversubscription reaches 15 times in the retail tranche, 10% if oversubscription reaches 50 times, and 20% if oversubscription hits 100 times.

Global rail links

China Railway Signal’s ability to achieve strong earnings growth will depend on its ability to secure more overseas contracts to ride on Beijing's “One Belt, One Road” initiative, according to an investor familiar with the offering.

Analysts at one of the joint bookrunners project a compound annual growth rate of 46% in overseas revenue for the company over the next three years, more than double the forecast CAGR of 20% from its domestic railway signal business.

The company generated only 3% of its revenue last year from overseas projects as most of its major clients were operators of inter-city railway lines in China. Being already China’s largest high-speed railway control system developer with a 65.2% market share, it appears that venturing into foreign markets could provide new and strong revenue streams for years to come.

From a railway technology perspective, China Railway Signal is well-equipped to extend its business overseas. It has developed proprietary CTCS-3 control systems for high-speed rail travelling between 300-350 kilometers per hour, which is compatible with European ETCS standards, according to a company report.

Backing the company’s overseas foray will also be its heavy net cash reserves of Rmb6.35 billion ($1.02 billion) as of the end of last year. Its net cash-to-equity ratio of 12% last year was much lower than the average 107% in the railway construction sector.

Its cash holdings could increase by nearly 90% to Rmb12 billion after the IPO, according to analysts from syndicate banks.

Ticket to ride

According to one investor, China Railway Signal could benefit from scarcity value. It has been nearly a month since a company listed on the Hong Kong bourse. Chinese lozenges maker Golden Throat commenced roadshows for a $108 million IPO on 29 June.

The last billion-dollar float in Hong Kong was on June 15, when Legend Holdings began taking orders for its $2 billion IPO.

As such, China Railway Signal’s IPO will provide a indication of investor sentiment since China’s stock market meltdown in early July. Stock markets are showing signs of stabilising, with the Shanghai Composite Index rallying 16% in 12 trading days since hitting a low of 3,507 points during intraday trade on July. 8

Meanwhile, underwriters of China Railway Signal’s IPO are no doubt hoping the US Federal Reserve statement slated for Wednesday (Thursday Asia time) will avoid any remarks on its September rate hike intentions which could trigger volatility on global markets.

China Railway Signal will set the final price of the IPO on Friday, a day after the Fed's statement. Trading is slated for 7 August.

Citigroup, Morgan Stanley and UBS are joint global coordinators of the China Railway Signal IPO. BOC International, China Merchant Securities, Goldman Sachs, Haitong Securities and Macquarie are joint bookrunners.

¬ Haymarket Media Limited. All rights reserved.
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