Chinese steelmaker Xiwang Special Steel has raised HK$1.33 billion ($171 million) from the first initial public offering of size in Hong Kong this year. Investors weren’t exactly rushing into the deal, though, and according to sources the stock was mainly bought by a few hedge funds and global funds with a specific view on steel and who thought the valuation was cheap.
However, with analysts divided about the near-term outlook for the Chinese economy, cyclical stocks like steelmakers aren’t an obvious buy and some investors argued that the stock was cheap for a good reason — and could stay at these levels for a while.
Indeed, according to its listing prospectus, Xiwang has been selling less steel at lower prices since September 2011 due to weakened demand and falling steel prices in China. However, the company says its gross profit margin has not been significantly affected as the decrease in the average selling price of its steel products has been accompanied by a drop in raw material costs.
On the other hand, if China continues to ease monetary policy, that should help increase the demand for steel and other construction materials. Another signal that the People’s Bank of China is moving towards a rate cut came on Friday when the central bank announced a 50bp reduction of the reserve requirement ratio from February 24. In a research note after the move, Citi analysts noted that the easing “should help dismiss worries over policy inaction and boost businesses’ confidence in their capital planning”.
“We expect more policy easing as first quarter growth may fall to 8% or lower,” they added. “Fiscal policy should become more active following the passage in March of the budget, and property tightening measures including the purchase restriction could be relaxed by the middle of the year.”
Xiwang is an electric arc furnace steel manufacturer, which means it makes steel and steel products from steel scraps rather than from iron ore. It is the biggest company of its kind in Shandong province, where steel scraps are particularly prevalent. As of the end of September last year, it had an aggregate smelting capacity of about 1 million tonnes, and an aggregate designed annual rolling capacity of 1.6 million tonnes. Among its special steel products are seamless steel pipes, bearings, gearings and steel welding wires.
According to a source, the order book was very price sensitive, which is in line with the response to most other equity offerings in Asia right now. Hence it was no big surprise that it priced at the bottom even though the overall range didn’t look particularly demanding.
The deal accounted for 25% of the share capital and comprised 500 million shares, of which 80% were new. They were offered in a range between HK$2.65 and HK$3.36, which translated into a 2012 price-to-earnings multiple of 3.8 to 4.8 times.
At the final price of HK$2.65, the stock comes at a discount to China Oriental Group, which trades at about five times this year’s earnings and is viewed as the closest comparable. It also offers a discount versus other special steel producers in China, which trade at an average 2012 P/E multiple of about six, analysts say.
There was not much information about the institutional portion of the deal, except that it was fully covered and that most of the investors who participated in the transaction were based in Asia. The retail tranche, which accounted for 10% of the deal, was about 1.6 times covered, according to a source.
The deal comes with a 25% greenshoe of all new shares that could boost the total deal size to about $197 million.
Xiwang is scheduled to start trading on Thursday (February 23). J.P. Morgan was the sole global coordinator and also acted as joint bookrunner together with ABC International, CCB International, Citi and Kim Eng Securities.