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Shanghai Industrial buys controlling stake in Neo-China

State-owned Shanghai Industrial bails out beleaguered property company Neo-China with a $353 million cheque and prepares to make a general offer to minority shareholders.

Chinese state-owned enterprise Shanghai Industrial Holdings is investing HK$2.746 billion ($353 million) for a 45% stake in Neo-China Land group, making it the controlling shareholder of the Hong Kong-listed company, which has been suspended from trading for two years.

Shanghai Industrial is acquiring 500 million existing Neo-China shares, representing 19% of the enlarged share capital, from controlling shareholder, Li Song Xiao, and subscribing to 684 million new shares that make up another 26%. Shanghai Industrial will pay HK$2.32 per share for both the old and new shares.

The deal follows only days after Singapore real estate developer CapitaLand agreed to pay $2.2 billion for the China real estate portfolio of Orient Overseas International. The circumstances surrounding the two deals differ dramatically, but they both point to the fact that the China real estate sector is likely to keep bankers busy this year.

Neo-China's Li, who resigned as chairman of the company in August last year, has undertaken to continue to own 21% of the expanded share capital. 

Neo-China currently has 14 property projects in 11 Chinese cities, including Beijing, Tianjin, Changsha and Xi'an. Most of the projects are middle to high-end residential properties. As of October 31, 2009, the company had a landbank of around 12.7 million square metres. The deal excludes one future development project, which is located in Zhuhai in Guangdong Province, and which will instead be bought by a company owned by Li.

The price tag agreed for this Zhuhai project, the Qi Ao Island, is HK$2.5 billion, of which HK$100 million will be payable on completion and the balance over the next three years. Sources close to the development said Shanghai Industrial and the seller could not agree a value for the Qi Ao project, given the risks and uncertainties it faces, and thus it was decided that Li would carve out and continue to own the project. Shanghai Industrial has given Li three years to organise the necessary funding.

With the acquisition, Shanghai Industrial is growing its landbank from about 4.2 million square metres currently to 15.8 million square metres. The SOE is represented by UBS and Nomura.

Neo-China was founded in 1999 and listed on the Hong Kong stock exchange in 2003. On the back of some successful early projects in Shanghai, Beijing, Tianjin, Shenzhen and Chongqing, Neo-China aggressively built up a landbank. It funded the expansion through a series of capital-raisings including three equity issues in 2006.

Neo-China is also well known in debt capital markets for a $400 million bond issue with warrants in 2007, which was led by Bank of China and Deutsche Bank and touted as the first time the bond plus warrant structure had been used to meet the funding needs of an Asian corporate. But as the real estate industry in China slowed down, Neo-China could no longer service the debt it had issued to finance its expansion. In January 2008, the company requested a trading suspension of its shares as it tried to find a solution to its balance sheet issues.

The offer price of HK$2.32 per share represents a discount of 54.5% to the price at which Neo-China traded on January 22, 2008, the day before it was suspended and a discount of 50% over Neo-China's net asset value as of October 31, 2009. In the six months before it was suspended Neo-China traded at a high of HK$10.08 and a low of HK$5.68.

Shanghai Industrial will need to make a mandatory general offer to Neo-China's minority shareholders, who own 34% of the company, at the same price. However, sources said it is unlikely that retail shareholders will tender in the offer as they will anticipate the shares to start trading at a higher price than the open offer price, given the size of Neo-China's landbank and the involvement of the Shanghai Industrial management. Shanghai Industrial intends to maintain Neo-China's listing on the Hong Kong stock exchange, but the shares will remain suspended until further notice.

Neo-China also has convertible bonds, warrants and share options outstanding. The exercise price for the warrants is HK$6.72, which means they are out of the money. Thus, the warrant holders are being offered a nominal one Hong Kong cent per warrant. Holders of the 125 million share options, which can be exercised at a price between HK$3.60 and HK$3.92 per share, are also being offered a nominal one Hong Kong cent per option.

The majority shareholder of Shanghai Industrial is the Shanghai municipal government. The acquisition is in line with Shanghai Industrial's stated strategy to build a property portfolio covering the Yangtze River Delta region, with a focus on Shanghai. Shanghai Industrial noted that over the past year it has divested all of its non-core businesses and built up a landbank. In 2008 Shanghai Industrial earned around 20% of its profit, or around HK$440 million, from its real estate business. Shanghai Industrial will fund the deal from bank borrowings. 

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