Mengniu shareholders return with another sell-down

After a two-year gap, JInniu Milk and Yinniu Milk resume their divestments, selling $156 million worth of stock in China Mengniu Dairy.

Two key shareholders in China Mengniu Dairy returned to the capital markets last night after a two-year absence, selling another HK$1.21 billion ($156 million) worth of stock. This is their fifth sell-down since the private sector producer of milk and other dairy products went public in 2004, although the divestments came to a halt after the company was involved in an industry-wide scandal where melamine-tainted milk caused the death of four babies and put more than 10,000 in hospital in September 2008.

An investigation into the issue found that Chinese milk producers were knowingly lacing their milk with melanine, a chemical also used to make unbreakable plates and as an industrial additive, to improve the taste and conceal the fact that they had also been watering down their milk to boost margins.

Two years hence, the industry has changed its practices and China's dairy market has largely recovered from the scandal. Mengniu introduced two new substantial shareholders in June last year in the form of foodstuff enterprise Cofco (Hong Kong) and Hopu Investment Management, which have helped to improve its distribution as well as its reputation. Its share price, which fell 65% virtually overnight when news of the scandal broke, has recovered all of the ground lost and is currently trading slightly higher than it did pre-scandal.

As the industry leader, Mengniu is also seen in a good position to outperform its peers on the back of further industry consolidation and a solid performance of its new products, analysts say. The company is also able to maintain its margins better than most as it can pass on most of the increasing raw milk prices to its customers. Among the 30 analysts who cover Mengniu, according to Bloomberg data, 22 currently have a "buy" on the stock, while only five recommend clients to sell.

Indeed, last night's block trade saw good demand from a mixture of existing and new investors. The trade was supported by a few chunky anchor orders from long-only investors but, according to sources, the interest was fairly widespread with close to 50 accounts in the book. Some of the key long funds had firm price limits, however, and were responsible for the fact that the deal priced at the mid-point even though it was covered higher up the range.

The deal comprised 50.696 million shares, which were offered in a range between HK$23.75 and HK$24.15, or at a discount of 3% to 4.6% versus yesterday's close of HK$24.90. It was priced at HK$23.95 for a 3.8% discount, which is still quite tight for a Hong Kong placement.

The sellers were Jinniu Milk Industry and Yinniu Milk Industry, which hold shares owned by Mengniu's senior management as well as other employees, associates, distributors and suppliers. The transaction accounted for 2.9% of the outstanding share capital and will see the combined shareholding of Jinniu Milk and Yinniu Milk fall to 5%. Mengniu CEO Niu Gensheng and other parties acting in concert with the selling shareholders own a further 8.1%.

The fact that the stock is quite liquid -- the deal accounted for less than 10 days' volume based on the daily average over the past three months -- would have made the transaction fairly easy to absorb and also likely helped keep the discount down. That said, the stock has risen 313% from a low of HK$6.03 in late October 2008 and 30% since the investment by Cofco and Hopu, and is currently trading at a fairly rich valuation of about 26-27 times this year's projected earnings.

The buying interest may suggest that some investors at least are expecting the interim results that are due in late August/early September to be pretty good and perhaps worth a punt. In addition to the long-only accounts, the order book also included some hedge funds, sources said.

 The deal was arranged by BNP Paribas on a sole basis.

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